1. At the instance of the Revenue, the following questions have been referred by the Income-tax Appellate Tribunal to this court for its opinion, respectively, in relation to the years 1968-69 and 1969-70, in relation to the same assessee :
Assessment year 1968-69 :
'Whether, on the facts and in the circumstances of the case, the Appellate Tribunal was right in holding that the assessee is entitled to the deduction of Rs. 9,20,125 being provision against profit on exchange ?'
Assessment year 1969-70 : 'Whether, on the facts and in the circumstances of the case, the Appellate Tribunal was right in holding that the assessee is entitled to deduction of Rs. 4,32,152 being the provision for anticipated loss on outstanding forward exchange contracts in the assessment year 1969-70 ?'
2. Since the facts giving rise to these two reference are substantially the same, it will suffice to refer to the facts in one case. The assessee is a nationalised bank. On September 27, 1968, it filed its return of income for the assessment year 1968-69. The assessment was completed on March 17, 1972, and the income assessed was Rs. 62,94,890. Subsequently, the ITO on the basis of an audit note proceeded to reassess and eventually brought to tax an amount of Rs. 9,20,125 which was shown by the assessee as a provision against profit on exchange. The assessee appealed to the AAC contesting the validity of the reopening of the assessment under s. 147(b) of the I.T. Act. The assessee also questioned the reassessment resulting in the inclusion of sum of Rs. 9,20,125 on merits. The AAC held against the assessee on the question of validity of reassessment under s. 147(b). On merits, however, the AAC held that the assessee is entitled to claim deduction of Rs. 9,20,125 in its assessment for the year 1968-69. The Revenue took the matter in appeal to the Tribunal questioning the finding of the AAC on merits. The assessee also filed its cross-objections before the Tribunal on the question of applicability of s. 147(b) under which the reopening of the original assessment has been made. The Tribunal rejected the assessee's cross-objection upholding the view taken by the AAC on the aspect is against the assessee and the assessee has not come up before us on reference. Therefore, that finding of the Tribunal has become final and conclusive. Thus, the question of reopening the original assessment under s. 147(b) is not in dispute before us and only question referred to us for our decision is, whether the assessee is entitled to the deduction of Rs. 9,20,125 said to be a provision against profit on exchange as held by the Tribunal.
3. The assessee is a nationalised bank carrying on the business of banking. One of the main (items of) business of the bank is to deal in foreign currencies on behalf of its customers. On the close of the assessment year 1968-69, some of the forward exchange contracts entered into by the assessee remained unsettled. As the contracts were in different foreign currencies, the assessee estimated the loss or profit on these outstanding contracts based on the rates of exchange as on the closing date. In view of the sterling devaluation in November, 1967, was considerable and that amounted to Rs. 9,20,125 and on the ground that this amount has to be provided before ascertaining the profit for the year, the assessee made a provision for the same and sought reduction of the profits earned to the extent of the said sum of Rs. 9,20,125. Thus, what the assessee claimed was a deduction of an anticipated loss and not actual loss suffered during the year of assessment. The ITO did not accept the claim for the deduction put forward by the assessee as gains profits earned during the year on the ground that there was no statutory stipulation for making such a provision in the accounts and, therefore, there is no question of the amount being followed as a deduction, that though the method of accounting followed by the assessee was mercantile, the amount of Rs. 9,20,125 not being an actual loss, but an anticipated loss cannot be allowed as a deduction. The AAC, however, proceeded on the basis that on the close of the assessment year in question, the assessee had outstanding contracts which had not been settled and those outstanding contracts will certainly constitute the assessee's stock-in-trade, that the assessee has to, therefore, value the stock-in-trade at cost or on market value whichever is lower, according to the well established accounting principles and, therefore, the assessee is entitled to work out an scientific basis the amount of possible loss on account of the outstanding contracts based on the rupee-sterling exchange rates as on December 31, 1967, at Rs. 9,20,125, that amount had to be provided before ascertaining the correct income of the assessee and that it cannot, therefore, be said that the amount of Rs. 9,20,125 under consideration was only an estimated provision and as such it cannot be allowed. The said view of the AAC has been accepted by the Tribunal. The Tribunal, apart from confirming the view taken by the AAC, has also given an additional reason for upholding the assessee's claim for deduction that the sum of Rs. 9,20,125 is not a fictional figure. According to the Tribunal, it represents the actual loss arising out of the devaluation that had already taken place in the accounting year and, if there is any fluctuation, it will be taken duly note of by the assessee in the subsequent assessment year and, in any event, the question is academic by an large and as this is a case of a company where the rates of taxation are more or less the same and as the assessee being one of the banks likely to continue showing a surplus, there will be no difference in the incidence of tax, and if a larger deduction is allowed this year and an adjustment on final settlement of the contract is found necessary, the assessee will do so in a later year.
4. It is not in dispute that on the last day of the accounting year, there were unsettled contracts for purchase and sale of foreign exchange. It is also not dispute that in all the earlier years the assessee had valued the outstanding contracts with reference to the actual exchange rate as on the last day of the assessment year and the profit or loss so estimated as per the rates of exchange on the last day had been reflected in the accounts. The AAC was of the view that unsettled foreign exchange contracts have to be treated as stock-in-trade and unless it is valued and brought in and duly set off against the profits, the profits will not be truly reflected. It cannot also be disputed that as against the profits earned in the accounting year, only the actual loss incurred can be deducted, and not probable or possible loss. So long as there are outstanding contracts remaining unsettled, no one could say whether ultimately the outstanding contracts would end in a profit or loss on actual settlement. For, the actual profit or loss would always depend on the rate of exchange at the time of the settlement. The question is, whether the view taken by the Tribunal is legally tenable.
5. According to the learned counsel for the Revenue, the view taken by the Tribunal is not legally sustainable, that the Tribunal has overlooked the difference between an expenditure and a loss, and that in the computation of the income under the I.T. Act, neither notional profit not notional loss will be taken into account. The learned counsel for the Revenue also questions the view of the AAC that the outstanding contracts in the foreign exchange which have not been settled on the last day of the accounting year amounts to stock-in-trade and, therefore, they have to be duly valued for the computation of the profits. We are inclined to agree with the learned counsel for the Revenue that in this case the deduction is claimed as against the profits of the year in respect of a notional loss and not actual loss. Admittedly, there is no settlement of the outstanding contracts during the accounting year. Whether the outstanding contracts will result in a loss or not will be known only when the outstanding contracts are settled. Manavala Naidu v. CIT : 41ITR725(Mad) , which was relied on the Revenue, applies to the facts of this case. In that case, a sum of Rs. 15,845 was demanded by the purchaser from the assessee as the value of certain goods short delivered. The said amount was paid by the assessee and he claimed that amount as loss. The court held that the loss having been ascertained in the year of account, it was only with reference to that year, he could claim that loss. The said decision supports the Revenue in so far as it holds that loss can be claimed only in the year of ascertainment. In Karam Chand Thapar and Bros P. Ltd. v. CIT : 74ITR26(SC) , the assessee had entered into a contract of sale in an earlier year. But the price was settled in the accounting year. A question arose as to year in which the loss arising out of that contract could be claimed. The Supreme Court held that in the year in which the loss is sustained, the loss could be claimed and in the year in which the sale took place the loss cannot be claimed. In this case, no doubt, during the accounting year, forward exchange contracts were entered into. But, so long as there is no final settlement of accounts between the buyers and the sellers, there is no question of any loss accruing to the plaintiff. So long as there is no actual loss during the accounting year, we do not see how the assessee could claim a notional amount which he had calculated on the basis of the foreign exchange rate applicable on the last day of the accounting year. In Tripty Drinks Pvt. Ltd. v. CIT  112 ITR 721, the Orissa High Court has pointed out that the claim for deduction must be with reference to a real loss and not a notional loss. In this case, so long as there is no settlement of the outstanding foreign exchange contracts, the loss can only be notional and it cannot be actual. Whether there is a loss or profit in the foreign exchange transactions can be ascertained only after the settlement of those contracts and not before. Therefore, we are not in a position to agree with the Tribunal that the said sum of Rs. 9,20,125 represented loss arising out of the outstanding unsettled contracts and, therefore, it could be claimed as deduction. But, as already pointed out, the contracts were not settled, and whether they would result in a profit or loss can only be known at the time of settlement. So long as that stage has not reached, the loss can only be notional and not real or actual. Such notional loss cannot be claimed as a deduction.
6. As already stated, the AAC has taken the view that the unsettled forward contracts as on the last day of the accounting year should be treated as stock-in-trade and, therefore, they are necessarily to be valued on the basis of the current exchange rate for the purpose of determining the true profits. As pointed out by Lord Reid in B.S.C. Footwear Ltd. v. Ridgway  83 ITR 269, the application of the principles of commercial accounting is, however, subject to one well established though non-statutory principle and that according to that principle, neither profit nor loss can be anticipated. A trader may have made such a good contract in one year that it is virtually certain to produce a large profit in later years. But he cannot be required to pay tax on that profit until it actually accrues. And conversely, he may have made such an improvident contract in one year that he will certainly incur a loss in the later years. But he cannot use that loss to diminish his liability for tax in the earlier year. According to the learned judge in that case, the principle of commercial accounting is that a notional profit or notional loss cannot enter into the computation of profit in a year. That principle is subject to an exception as regards stock-in-trade and this aspect of the case has been dealt with in the said decision as follows (at page 273) :
'This principle is subject to an exception as regards stock-in-trade. If it were applied logically, stock-in-trade must always be valued at the end of the year at cost, even if it could have been bought at the end of the year must more cheaply. But for half a century at least traders have been allowed to value such stock at the end of the year at its market price or market value at that date if that is lower than the original cost price : on the other hand, the trader is not required to value his stock at market value if that is higher that original cost. So to this extent he can diminish his profits in year one by setting against it an anticipated loss in year two. It is only an anticipated loss because the market price may move upwards before he sells the stock so that when he does sell it he gets a price equal to or greater than the original cost and so never in fact suffers any loss. If that happens, the matter is put right in year two. The effect of carrying forward the stock at a valuation below cost is that in the account for year two that valuation and not the actual original cost is deemed to be the cost, and so the profit in the year two is increased.'
7. In CIT v. Shewbux Jahurilal : 46ITR688(Cal) , an assessee had entered into a contract with another company to supply jute on future dates at specified rates. The contract contained a clause that in the event of non-delivery of the goods on the due dates, the buyer had the option to cancel the contract and to recover the difference between the price fixed in the contract and the market price on the date of cancellation. The assessee was not able to supply the goods on the due dates. The buyer, therefore, cancelled the contract on March 1, 1947, and claimed the difference in price as damages from the assessee and a sum of Rs. 1,35,000 was determined as the amount payable by the assessee. The assessee claimed this amount as a loss in the year 1950-51. The income-tax authorities held that this was a loss pertaining to the year 1946 and that the assessee should have claimed the loss in the assessment year 1947-48. The court held that though the assessee maintained his accounts on the mercantile system, he was not bound to show all anticipated loss and when the claims were made and pay tax on that basis and have matter readjusted later when the anticipated loss was quantified, and that the loss could be claimed only when it was ascertained. It was further held that the mercantile system of book-keeping does not cast on an assessee any obligation to take note of all claims that may be raised against him whether good or bad.
8. On the facts, we have to find that the amount claimed by the assessee represented the deduction in the notional value of the outstanding foreign exchange contracts which were yet to be settled and, therefore it was only a notional loss that is claimed by the assessee. If the outstanding contracts were determined by the parties as per the terms of the contract by either of the parties, it will stand on a different footing. Then, the loss or profit accruing or arising on such foreign exchange contracts will come into the computation of profits for that year. But where the contract has not yet been settled, whether the contracts actually resulted in a profit or loss cannot be known during the assessment year. We do not see how the assessee could claim the said amount as a loss actually arisen during the accounting year.
9. In our view, therefore, the Tribunal has not come to the right conclusion in these cases. We have to, therefore, answer the questions referred to us in the negative and against the assessee. The assessee will pay the costs to the Revenue. Counsel's fee Rs. 500 (one set).