Write-off of loan to overseas WOS denied – treated as colourable device

 In the present case, the assessee, engaged in the business of manufacturing and trading garments, had set up a wholly owned subsidiary (WOS) in Jordan as a special purpose vehicle (SPV) to acquire another entity in the same line of business. The assessee advanced loans aggregating to approximately INR 83 crore over multiple years to the WOS. During the relevant year, following losses in the overseas business and eventual sale of the underlying investment, the assessee wrote off INR 53.24 crore of such loans and claimed it as a deduction.

The assessee contended that the loans were advanced on grounds of commercial expediency to expand its business overseas and that the write-off was a bona fide business loss allowable under sections 36(1)(vii) or 37(1) of the Act. It was further submitted that the losses arose due to adverse business conditions, including the impact of COVID-19, and that RBI compounding should be regarded as sufficient compliance.

The Revenue, however, argued that the entire arrangement lacked commercial substance. It highlighted that substantial fresh loans were advanced even when the subsidiary was incurring persistent losses and when sale negotiations were already underway. Further, the loans were extended without any formal agreements, repayment terms, or recovery mechanisms, and there were significant inconsistencies in the computation of the write-off amount. The Revenue also contended that RBI compounding could not be equated with approval for the write-off under the Income-tax Act.

The ITAT ruled against the assessee, observing that no prudent businessman would continue to fund a loss-making entity, particularly when an exit was already contemplated. It also noted discrepancies in the computation of the write-off, including inclusion of unoffered interest income and non-adjustment of recoveries. The Tribunal held that the assessee had not acted in a commercially prudent manner and had failed to substantiate the claim as a genuine business loss. Accordingly, the write-off was disallowed.

This ruling underscores that loan write-offs in related party contexts, particularly involving overseas subsidiaries, will be closely scrutinised for commercial rationale and substance. Importantly, it highlights that robust and contemporaneous supporting documentation (such as loan agreements, repayment terms, recovery strategies, and board-level justifications) is indispensable when advancing loans to related parties, failing which such arrangements risk being disregarded as tax-driven and lacking commercial substance.