Madras HC invalidates Section 148 reassessment based solely on previously disclosed information

Background and factual matrix

In this matter, Schwing Stetter (India) Private Limited Vs Additional/Joint/Deputy/ACIT/ITO (Madras High Court), the controversy pertained to reassessment proceedings initiated for Assessment Year 2015-16 under Section 148 of the Income Tax Act 1961. The core question before the Madras High Court was whether the reassessment was based on any fresh tangible material, or whether it was merely a review of an earlier view taken during the original scrutiny assessment.

For Assessment Year 2015-16, the assessee filed its return of income on 30.11.2015, enclosing along with it the audited financial statements for the Financial Year 2014-15. The case was selected for scrutiny, and a regular assessment was completed under Section 143(3) read with Section 144C on 28.01.2019.

During the original assessment proceedings, the Assessing Officer (AO) issued a detailed notice under Section 142(1) calling for various particulars. One of the specific queries raised was a call for details of substantial expenses debited to the profit and loss account. In response, on 14.09.2018, the assessee furnished a detailed reply, including a break-up and explanation of:

  • The net loss on foreign currency transactions and translation debited to the profit and loss account, and
  • Other major expenses as requested.

The AO proceeded to frame the assessment order dated 28.01.2019. In this order:

  • No disallowance was made in respect of the net loss on foreign currency transactions and translation.
  • The AO did, however, deal explicitly with the issue of provision for warranty, and made disallowance on that head while completing the assessment.

Subsequently, the AO issued a notice under Section 148 on 30.03.2021 seeking to reopen the concluded assessment.

On request from the assessee, the AO supplied the recorded reasons for reopening on 22.09.2021. These reasons formed the foundation of the challenge before the High Court.

Reasons recorded for reopening under Section 148

The reasons for reopening stated, inter alia, that:

  1. As per Note 29 to the profit and loss account for the year ended 31.03.2015, the assessee had debited a sum of ₹6,56,98,000 towards Net loss on foreign currency transactions and translation.
  2. As per Note 2.10 (Foreign currency transactions) to the financial statements, derivatives were marked to market and the resulting losses were recognized in the statement of profit and loss.
  3. The AO described such derivative losses as notional, asserting that they were not actually incurred, and therefore required to be disallowed.
  4. It was further recorded that the provision for warranty of ₹1,95,94,545 ought to be added back while computing book profit under Section 115JB.

On this basis, the AO concluded that income had escaped assessment and proceeded to initiate reassessment under Section 147 by issuing the Section 148 notice. A reassessment order was ultimately passed, making disallowances on these counts.

Challenge before the Madras High Court

The assessee initially approached the Madras High Court by filing a writ petition challenging:

  • The Section 148 notice, and
  • The order of the AO rejecting the assessee’s objections to reopening.

After the reassessment order was passed, the assessee amended its writ petition to also impugn the reassessment order itself.

Assessee’s arguments

Counsel for the assessee drew the Court’s attention to the following material:

  • The original financial statements filed with the return of income for AY 2015-16;
  • Note 29 to the profit and loss account, which specifically disclosed the net loss on foreign currency transactions and translation;
  • Paragraph 2.10 of the notes to financial statements, which explained in detail the accounting policy for foreign currency transactions, forward contracts and derivatives, including the fact that derivatives were marked to market and losses recognized in the profit and loss statement;
  • The notice under Section 142(1) wherein the AO had explicitly called for details of large expenses debited to the profit and loss account;
  • The assessee’s reply dated 14.09.2018, where all such details, including those relating to the foreign currency loss, were provided in full.

Based on this, the assessee contended:

1.