Section 42 of the Income-tax Act, 2025 — Capitalising the Impact of Foreign Exchange Fluctuation on Business Assets

In plain language

What Section 42 actually deals with

Important clarification first: In the old Income-tax Act, 1961, "Section 42" dealt with mineral-oil prospecting deductions. That provision has been renumbered in the new Income-tax Act, 2025 — mineral oil is now covered elsewhere. In the Income-tax Act, 2025 (effective 1 April 2026), Section 42 is titled "Capitalising the impact of foreign exchange fluctuation" and is the direct successor to Section 43A of the 1961 Act.

In plain words: if a business or professional buys a capital asset from outside India (machinery, plant, equipment) and pays for it in foreign currency, the rupee amount payable can move up or down between the date of purchase and the date of actual payment because the exchange rate changes. Section 42 tells you how that gain or loss on the asset's cost is to be treated for tax — it is capitalised (added to or reduced from the asset's cost), not written off as a routine revenue expense.

Who it applies to

• Any assessee carrying on business or profession — companies, LLPs, firms, and individuals — who acquires an asset from a country outside India.
• The asset must be a capital asset used for business/profession (e.g., imported plant and machinery), not stock-in-trade.
• The liability must be denominated in foreign currency, so its rupee value changes with exchange-rate movement.

The core rule — adjustment on a payment (realisation) basis

Section 42 works on actual payment, not on mere year-end restatement. The variation is calculated as:

• A = B − C, where A is the variation in liability, B is the rupee amount actually paid at the time of payment towards the cost of the asset (or repayment of a foreign-currency loan taken to buy it, including interest), and C is the liability in rupees as it stood at the time the asset was acquired.
• If the rupee weakens (you pay more), the extra amount is added to the asset's cost.
• If the rupee strengthens (you pay less), the saving is reduced from the asset's cost.

This adjusted figure then flows into: the actual cost under Section 39, the capital expenditure figures used for depreciation and certain deductions, and the cost of acquisition for capital gains. So the forex effect changes your depreciation base and your future capital-gains computation, rather than being claimed directly.

Forward exchange contracts

Sub-section (4) deals with hedging. Where the assessee has entered into a forward contract with an authorised dealer to buy the foreign currency needed to pay for the asset, the rate fixed in the contract (not the volatile spot rate on payment day) is used to compute the variation. This gives businesses certainty and prevents artificial gains/losses from currency swings they have already hedged.

How it interacts with related sections

• Section 33 (depreciation): Because Section 42 changes the asset's actual cost, it directly changes the WDV on which depreciation is allowed.
• Section 43 (taxation of foreign exchange fluctuation): This handles forex gains/losses on the revenue/monetary side. If a fluctuation is capitalised under Section 42, it cannot again be taxed or allowed under Section 43 — no double counting.
• Capital gains rules: The adjusted cost becomes the cost of acquisition when the asset is later sold.

Practical implications

• Forex movement on an imported capital asset is a capital item, spread through depreciation, not an instant expense.
• The timing is on actual payment, so unrealised year-end differences on such assets are not captured here.
• Maintain clear records: original invoice value in rupees, payment-date rupee outflow, loan repayment schedules, and any forward-contract rate.