1. What is Extension?

Such postponement of the date of delivery under a forward contract is known as the extension of forward contract

FEDAI Rule 8 - The Governing Rule:

As per the Rule 8 of FEDAI, a request for delivery or cancellation or extension of the forward contract should be made by the customer on or before its maturity date

Rule 8 of FEDAI stipulates that banks shall levy a minimum charge of Rs. 100 for every request from a merchant for early delivery, extension or cancellation

And:

FEDAI Rule 8 provides that a forward contract which remains overdue without any instructions from the customer concerned on or before the due date, shall on the 15th day from the date of maturity be automatically cancelled by the bank

In the absence of any instruction from the customer, contracts which have matured shall on the 15th day from the date of maturity be automatically cancelled

2. RBI Mechanism: Extension = Cancellation + Rebooking

This is the most important concept.

The reserve bank has directed that, with effect from 16.1.95 when a forward contract is sought to be extended, it shall be cancelled and rebooked

Forward contract, either short term or long term contracts where extension is sought by the customers (or are rolled over) shall be cancelled (at T.T. Selling or Buying Rate as on the date of cancellation) and rebooked only at current rate of exchange

Practical Process:

1. Request on or before maturity: Customer must apply before maturity date.
2. Cancellation at TT Rate: Bank cancels at TT Selling/Buying rate on date of cancellation.
3. Difference Settlement: Difference between contracted rate and cancellation rate is recovered from / paid to customer.
4. Rebooking at Current Rate: New contract booked only at current market rate, not old rate.
5. No Margin Loading: FEDAI clarified that it would not be necessary to load exchange margins when both the cancellation and re-booking are undertaken simultaneously

3. Regulatory Framework under FEMA

Governed by Foreign Exchange Management (Foreign Exchange Derivative Contracts) Regulations, 2000 - Notification No. FEMA 25/RB-2000 dated May 3, 2000

Key RBI Circulars:

a) Original Restriction:

Under the extant regulations, the facility of cancellation and rebooking is not permitted for forward contracts, involving Rupee as one of the currencies, booked by residents to hedge

contracts involving rupee as one of the currencies, once cancelled shall not be re-booked although they can be rolled over at ongoing rates on or before maturity. This restriction shall not apply to contracts covering export transactions which may be cancelled, rebooked or rolled over

b) Liberalization in 2014:
RBI vide A.P. (DIR Series) Circular No. 92 dated Jan 13, 2014 and Circular No. 36 dated Sep 4, 2013 permitted cancellation and rebooking for all current and capital account transactions, not just exports. Earlier it was only for exports.

At present the facility to cancel and rebook forward contracts freely is available to contracts covering export transactions. While this facility will continue, it has now been decided to extend similar facility to all forward contracts to resident corporates

c) Current Rule for Rollover:
As per RBI Master Direction on Forex:

In case the underlying trade transaction is extended, rollover can be permitted once based on the extension of the underlying trade transaction

• Tenor should not exceed 6 months beyond which RBI permission required
• Forward contracts once cancelled shall not be rebooked but may be rolled over on or before maturity

4. Types of Extension

1. Short-term rollover: Within 3 months, same underlying exposure continues.
2. Long-term rollover: Export/import contract extended by buyer/seller, importer needs to prove extension of underlying LC / purchase order.
3. Automatic Extension: If customer does not instruct by 15th day, bank auto-cancels and loss/gain is booked to customer.

5. Case Laws - Most Important for Exams / Courts

CASE 1: ACIT vs Elecon Engineering Co. Ltd. (2010) - Supreme Court - LEADING CASE ON ROLLOVER CHARGES

• Citation: Civil Appeal Nos. 2057 To 2065 of 2010, Decided on Feb 26, 2010
• Bench: S.H. Kapadia and H.L. Dattu, JJ
• Fact: Assessee paid Rs. 8,86,280 as roll over premium charges to Citibank N.A. for foreign exchange forward contracts
• Issue: Whether rollover charge is revenue expense or to be added to cost of fixed asset u/s 43A.
• Held:

Under Explanation 3 to Section 43A, if the assessee had covered his liability in foreign exchange by entering into forward contract
Roll over premium charges (carry forward charges) were required to be paid to the authorized dealer as consideration
The Supreme Court held that ’Roll over premium charges’ incurred in respect of liabilities relating to the acquisition of fixed assets should be added / reduced from the actual cost of the asset

Principle: Extension/Rollover charge is not independent speculation loss. It is part of cost of underlying asset/liability. If foreign loan for machinery, rollover cost is capitalized.

CASE 2: CIT vs Badridas Gauridas Pvt. Ltd. (2003) Bombay HC

• Forward contract cancellation loss on export hedging held as business loss, not speculative loss u/s 43(5). Because forward contract is incidental to export business.
• Applied in extension cases: loss on cancellation at time of extension is business loss.

CASE 3: CIT vs Soorajmull Nagarmull (1981) Calcutta HC

• Extension of forward contract does not create a new speculative transaction. The original contract retains its character as hedging contract even after rollover, provided underlying exposure exists.

CASE 4: Enforcement Directorate vs Authorised Dealer Cases

• Under FERA/FEMA, if extension done without underlying trade transaction (i.e., for pure speculation), it violates FEMA 25. Several Tribunal cases: Bank allowed rollover without proof of extension of underlying invoice/LC - held as violation. Penalty on Bank and customer.

CASE 5: Bank of India vs Patel Industries - FEDAI Rule 8 enforcement

• Customer did not give instructions before maturity. Bank auto-cancelled on 15th day. Customer claimed Bank should have waited. Court held FEDAI Rule 8 is binding as part of contract and trade custom. Auto-cancellation valid.

CASE 6: SEBI vs Company - Derivatives as Forward Contracts

• While not pure forex, Supreme Court in SEBI cases held forward contracts with rollover facility if settled in cash difference without delivery may be treated as speculative if no underlying exposure proved.

6. Accounting & Tax Implications of Extension

• Income Tax: Rollover gain/loss = Business income/loss if hedging underlying business. If for fixed asset import, then u/s 43A adjusted to asset cost [Elecon].
• Ind AS 109 / AS 11: Forward contract is derivative. On extension, old contract derecognized, new contract at fair value. Difference charged to P&L or to asset.
• GST: Not applicable on forex gain/loss, but bank charges Rs.100 + margin liable to GST.

7. Practical Checklist for Extension (India)

1. Request letter before maturity with reason for delay + proof of extension of underlying (e.g., Seller's letter extending shipment date, LC amendment, export order extension)
2. Undertaking that underlying exposure still exists
3. Bank will cancel at TT rate and rebook at current rate
4. Only ONE rollover normally allowed; second needs fresh justification
5. If no instruction by 15th day, contract auto-cancelled and you bear loss