Exchange difference arising from blocked and sterilized funds is not assessable to income-tax.

Judgment

RAMASWAMI, J. : This appeal is brought, by certificate, from the judgment of the High Court of Mysore, dated December 13, 1961 in Income-tax Reference Case No. 113 of 1959. The respondent (hereinafter referred to as the Bank ) is a public limited company carrying on business of banking at its head office in Mangalore and its branches in various places. It opened one branch in Karachi on November 15, 1946. After the partition of India in 1947 the currencies of the two dominions of India and Pakistan continued to be at par until there was a devaluation of the Indian Rupee on September 18, 1949. As Pakistan did not devalue her rupee, the old parity of the Pakistan and Indian Rupee ceased to exist. The exchange ratio between the two countries was not determined until February 27, 1951 On this date it was agreed that a hundred Pakistani Rupees were equivalent to a hundred and fortyfour Indian rupees. On the date of devaluation of the Indian Rupee the Karachi Branch of the Bank had with it a sum of Rs. 3,97,221 belonging, to its head office. Owing to the difficulties of the currency- situation it was impossible to remit the amount to the head office for quite a long tune. On July 1, 1953, the State Bank of Pakistan permitted its remittance to India. In terms of Indian currency the said amount became equivalent to Rs. 5,71,038. Thus there was an appreciation of the value of the amount remitted from the Karachi branch and the Bank made a profit of Rs. 11,73,817. After making certain deductions, the head office of the Bank transferred a sum of Rs. 1,70,746 to its Contingencies Reserve Account. In its return for the assessment year 1954-55, the Bank claimed that this sum was a capital gain and was not taxable. By his order, dated February 9, 1955 the Income-tax Officer rejected the claim holding that the said amount of Rs. 1,70,746 was a revenue receipt. The order of the Income-tax Officer was affirmed by the Appellate Assistant Commissioner in appeal. The Bank took the matter in further appeal to the Income-tax Appellate Tribunal which rejected the appeal by its order dated November 23, 1956. At the instance of the Bank the Income-tax Appellate Tribunal referred the following question of law for the determination of the High Court :

"Whether the aforesaid exchange difference of Rs. 1,70,746 is assessable under any of the provisions of the Indian Income-tax Act ?"

By its order, dated December 11, 1961 the High Court reversed the finding of the Appellate Tribunal and held that the exchange difference of Rs. 1,70.746 was not assessable to income-tax under any provision of the Indian Income-tax Act.

2. The question involved in this appeal is whether the profit of the Bank on account of fluctuation of exchange arose in the course of trading operation of the Bank or whether it was incidental to any such trading operation. If by virtue of exchange operations profits are made during the course of business and in connection with business transactions, the excess receipts on account of conversion of one currency into another would be revenue receipts. But if the profit by exchange operations comes in, not by way of business of the Bank, the profit would be capital profit. In the present case, the High Court has found, after an analysis of the relevant facts, that the appreciation of the money did not arise in the course of any trading operation. In the year 1949 when there was a devaluation of the Indian rupee, Karachi branch of the Bank was not carrying on any business in foreign currencies. It has been found by the Appellate Tribunal that until April 3, 1951 when the Back was permitted to carry on business in Pakistan currency it carried on no foreign exchange business. Even after such permission was granted and even after the Bank obtained on April 25, 1953 a general licence to carry on business in all foreign currencies the money of the head office was not used for any business in foreign currencies. The appellate Tribunal has found th