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Commissioner Of Income-Tax, Tamil Nadu-I v. Kannika Parameswari Devasthanam And Charities.

Madras High Court

Jul 18, 1979

Judgment

Subsequent
References

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Structured Summary of the Opinion (Sethuraman, J.)

Factual and Procedural Background

The opinion arises from a group of tax references including T.C. Nos. 461/75 and 231 & 232/76, referred by the Commissioner of Income-tax, Tamil Nadu-1, Madras, under s. 256(1) of the Income-tax Act, 1961. The central referred question asked whether the Appellate Tribunal was correct in directing that, for fresh assessments for assessment years 1965–66, 1966–67 and 1967–68, capital expenditure on improving or maintaining trust property (where such expenditure would maintain or increase the trust's income) would constitute application of amounts for charitable purposes within the meaning of section 11 of the Income-tax Act, 1961.

The assessee is an old charitable trust (founded about two centuries ago) governed by a court-sanctioned scheme (decisions of this court from 1896, 1929 and 1932 are mentioned but not annexed). Assessments for the years in question were initially made treating the assessee as an "association of persons." The assessee claimed full exemption under s. 11. The Income-tax Officer (ITO) assessed certain sums as taxable income for each year (Rs. 14,831; Rs. 36,522; Rs. 30,664 respectively). On appeal to the Additional Assistant Commissioner (AAC) the assessee argued that the trust should be assessed under "Business" because assets (notably Kothwal Market, George Town, Madras) were commercial and exploited; the AAC held the receipts were from letting property and assessed the income under "Other sources." Depreciation claims were rejected or not pressed in two years; the AAC did not allow depreciation.

The assessee appealed to the Appellate Tribunal, which (after obtaining a report from the AAC) set aside the assessments and directed fresh assessments. In its order the Tribunal stated that capital expenditure in improving or maintaining trust property that maintained or increased income which would be available for charitable purposes would constitute application of amounts for charitable purposes. The Tribunal also clarified that, except for the point about capital expenditure, it had not given any final findings on other aspects.

The court addresses these references and also a second batch (T.C. Nos. 350–355 of 1977) arising from various reference applications (R.A. Nos. 946–951 of 1974–75), which include questions on penalty (s. 271(1)(a)) and on computation of "income" for the purpose of assessing accumulation in excess of 25% under s. 11(1)(a).

Legal Issues Presented

Whether, for the assessment years 1965–66, 1966–67 and 1967–68, capital expenditure on improving or maintaining trust property that results in the income of the trust being maintained or increased would constitute application of amounts for charitable purposes within the meaning of s. 11 of the Income-tax Act, 1961.
Whether, for the purpose of computing accumulation in excess of 25% under section 11(1)(a), the 'income' of the assessee-institution should be computed under the appropriate heads of income of the Income-tax Act, 1961 (i.e., whether income must be computed under the Act's heads).
Whether the Appellate Tribunal was right in cancelling the penalty imposed under section 271(1)(a) of the Income-tax Act, 1961.

Arguments of the Parties

Assessee's Arguments

The trust should have been assessed under the head "Business" because the assets held (notably the Kothwal Market) were commercial assets being exploited.
The receipts from the market were in the nature of rents, casual collections, flower shed collection, cycle stand, toll gate, etc., supporting the contention of commercial exploitation.
The assessee alternatively claimed that depreciation should be allowed (it was disallowed for 1965–66; no claim was pressed to the ITO for the other years).
Before the Tribunal, the assessee contended that certain amounts spent for improvement of the market should be treated as application of income for the trust's charitable objects (especially for 1966–67 and 1967–68).

Revenue / Appellate Authorities' Positions

The ITO brought portions of the assessee's receipts to tax as income.
The AAC held the activity produced income by letting out property and was properly assessable under "Other sources" rather than "Business", and did not accept the assessee's depreciation contention.
The Appellate Tribunal set aside the assessments and directed fresh assessments, observing that capital expenditure on improving or maintaining trust property that maintained or increased the income available for charitable purposes would be application of income for charitable purposes. The Tribunal clarified it had no final finding beyond that capital-expenditure point.

Table of Precedents Cited

Precedent	Rule or Principle Cited For	Application by the Court
Satya Vijay Patel Hindu Dharamshala Trust v. CIT, [1972] 86 ITR 683 (Gujarat High Court)	Held that capital expenditure incurred with reference to the objects of the trust (here construction of a new dharamshala) constituted application of the income for charitable purposes and thus qualified for exemption under s. 11 in that case.	The court used this decision to demonstrate the distinction between (a) the objects of a trust and (b) application of the income. The precedent supports the proposition that capital expenditure incurred to promote the trust's objects (out of income) can qualify as application for charitable purposes; it was relied on to show the Tribunal was wrong to treat improvement of trust property as automatically falling within s. 11 without investigation of whether the expenditure promoted the objects of the trust.
CIT v. Kannikaparameswari Devasthanam, Madras (direction dated 5 July 1976)	Referred to by this court as the basis for making the present references (direction causing R.A. Nos. 949–951 to be considered).	The court noted this earlier direction as the procedural basis for the present references (T.C. Nos. 350–355 of 1977) and used it to explain why certain questions were before the court; it did not apply any substantive principle from that decision beyond its role in producing the reference.

Court's Reasoning and Analysis

The court's analysis proceeds from the statutory text and the factual posture remitted by the Tribunal.

Statutory framework: The court sets out s. 11 (as in force for the years concerned) which exempts income derived from property held under trust wholly for charitable or religious purposes to the extent such income is applied to such purposes in India; accumulation is permitted up to 25% of the income from the property or Rs. 10,000, whichever is higher. Sub-section (4) of s. 11 includes a business undertaking as "property held under trust" and empowers the ITO to determine the income of such an undertaking under the assessment provisions of the Act, treating any excess over book income as deemed applied for non-charitable purposes.
Two distinct inquiries under s. 11: the court explains that the provision requires (a) identification of the property held under trust and ascertainment of income derived from that property, and (b) consideration of whether that income has been applied to the objects of the trust. The court emphasizes that application of income to the objects of the trust may be for revenue or capital purposes — i.e., expenditure for capital purposes can, in principle, be an application to the trust's objects.
Tribunal's error: The court characterizes the Tribunal's conclusion (that improvement/maintenance of trust property which maintains or increases income would constitute application for charitable purposes) as a confusion or mixing-up of two separate elements required by the section. The Tribunal treated improvement of property as per se application of income for charitable purposes, without regard to the objects of the trust or the factual question whether the expenditure promoted those objects.
Use of precedent: By reference to Satya Vijay Patel (Gujarat High Court), the court observes that where capital expenditure is incurred specifically with reference to the objects of the trust and paid out of the trust's income, such expenditure may constitute application for charitable purposes. That case shows the necessary distinction: capital expenditure qualifies if it promotes the trust's objects and is borne from the income.
Need for factual inquiry: The court holds that whether the assessee's capital expenditure on the market promoted the objects of the trust is a question of fact to be investigated by the ITO in the reassessment proceedings (the assessments were set aside by the Tribunal and restored to the ITO). The Tribunal's order did not make the necessary factual determination; therefore remand and fresh consideration by the ITO are required.
On the computation-under-heads question: The court notes that the Tribunal expressly declined to give any final findings except on the capital-expenditure point. Therefore the question whether income should be computed under the appropriate heads (for purposes of the 25% accumulation rule) does not properly arise from the Tribunal's order. The court declines to answer that question and states that the ITO must compute income in conformity with applicable provisions when complying with the Tribunal's directions.
On the penalty question under s. 271(1)(a): The Tribunal cancelled penalties on the ground that the assessments had been set aside. The court agrees that when assessments have been set aside the penalties imposed in relation to those assessments cannot stand; therefore the Tribunal was right to set aside the penalties. However, the court clarifies that this does not preclude the ITO from considering imposition of penalty in the course of the reassessment if the law permits.

Holding and Implications

Holding: So long as the income derived from the property held under trust has been expended on the objects of the trust, the income will be exempt under s. 11 of the Income-tax Act, 1961; if it has not been so expended, the income will not be exempt.

Consequential holdings and answers to referred questions:

On the capital-expenditure question (T.C. Nos. 461/75 and 231 & 232/76): The Tribunal was incorrect to assert as a general principle that improvement or maintenance of trust property which maintains or increases income automatically constitutes application of amounts for charitable purposes. Whether such capital expenditure qualifies as application depends on whether the expenditure was applied to the objects of the trust; that factual/legal determination must be made by the ITO on remand.
On the computation-under-heads question (T.C. Nos. 350–355 — R.A. Nos. 949–951): The court declined to answer because the Tribunal had not made any final finding on that point; the ITO must compute income in accordance with the provisions of the Act when carrying out the remand.
On the penalty question (R.A. Nos. 946–948): The court answered in the affirmative in favour of the assessee — the Tribunal was right to cancel penalties imposed under s. 271(1)(a) because the underlying assessments had been set aside. The ITO remains free to consider penalty in the reassessment proceedings if permissible under law.

Direct practical effect: The assessments are to be reconsidered by the ITO in light of these principles; capital expenditure will only be treated as application to charitable purposes if it is shown to have been applied to the trust's objects. No broader new principle beyond application of settled distinctions was established; the court remitted factual issues to the assessing officer. The court made no order as to costs.

Show all summary ...

Sethuraman, J.:— We shall first deal with T.C Nos. 461/75 and 231 and 232/76 before we go into the other group of references. In this group of references, the following is the question that has been referred to this court at the instance of the Commissioner of Income-tax, Tamil Nadu-1, Madras, under s. 256(1) of the I.T Act, 1961:

“Whether, on the facts and in the circumstances of the case, the Appellate Tribunal was right in directing that in the fresh assessments to be made for each of the assessment years 1965–66, 1966–67 and 1967–68, capital expenditure on improving the property of the trust or maintaining such property, which would result in the income of the trust being maintained or increased would constitute application of amounts for charitable purposes within the meaning of section 11 of the Income-tax Act, 1961?”

2. The assessee is a charitable trust founded about two centuries ago. Unfortunately, we do not have before us any idea of the objects for which the trust had been established. It appears to be governed by a scheme sanctioned by this court in C.S No. 222 of 1895 dated 5th October, 1896, as modified by the judgment dated December 13, 1929, in C.S No. 528 of 1927, and the judgment dated December 7, 1932, in O.S.A No. 34 of 1930. Even these judgments have not been annexed to the statement of the case, nor is there any discussion of what those judgments contain. The assessments under consideration, for the assessment years 1965–66, 1966–67 and 1967–68, were made in the status of “association of persons”. The assessee claimed full exemption under s. 11 with reference to the income earned by it. The ITO brought to tax Rs. 14,831, Rs. 36,522 and Rs. 30,664 as income assessable in the three years respectively. The assessee appealed to the AAC and contended that the trust should have been assessed under the head “Business”, since the assets held by it were commercial assets which were being exploited. The asset exploited is the Kothwal Market in George Town, Madras. The maintenance of the market required a licence from the Corporation and the assets of the market comprised of buildings, shops, stalls, etc. The assessee had to maintain the roads in good condition. The receipts from the market were shown under the head “Rents”, “Casual collections” “Flower shed collection”, “Cycle stand”, “Toll gate”, etc. The AAC held that the income derived was only by letting out the property and was rightly assessed under the head “Other sources”, and not under the head “Business”. The assessee claimed in the alternative that depreciation should have been allowed even with reference to the assessed income under the head “Other sources”. Depreciation was disallowed for 1965–66, and for the other two years, the assessee had not made any claim therefor before the ITO. The AAC did not accept the contention of the assessee relating to the depreciation.

3. The assessee appealed to the Tribunal. It was contended before it that the computation of accumulation of profits and determination of the income for the purpose of taxation, were in any event wrong and that with reference to the assessment years 1966–67 and 1967–68, certain amounts spent for the improvement of the Kothwal Market, etc., should have been considered as income applied for the purpose of the trust. The Tribunal, after obtaining a report from the AAC, considered the matter, and ultimately came to the conclusion that the assessments required to be set aside and it, therefore, directed fresh assessments to be made in accordance with law. In the course of the order, the Tribunal observed:

“Expenditure on improving the property of the trust or maintaining it which would result in the income of the trust being maintained or even increased and which income in turn will be available for charitable purposes alone would, in our view, constitute application of amounts for charitable purposes.”

4. In the same paragraph, viz., para. 5 of its order, the Tribunal further pointed out:

“We would make it clear that except on the point that capital expenditure of the nature set out had also to be taken into consideration in determining the surplus, we have not given any final finding on any other aspect.”

5. The first of the two passages extracted from the order of the Tribunal has given rise to the question referred to in T.C Nos. 461/75 and 231 and 232/76. The second of the passages extracted above from the Tribunal's order has given rise to one of the questions referred to in the other batch.

6. The provision (s. 11 of the I.T Act, 1961), as in force in the years under reference, to the extent relevant ran as follws:

“(1) Subject to the provisions of sections 60 to 63, the following income shall not be included in the total income of the previous year of the person in receipt of the income—

(a) income derived from property held under trust wholly for charitable or religious purposes, to the extent to which such income is applied to such purposes in India; and, where any such income is accumulated for application to such purposes in India, to the extent to which the income so accumulated is not in excess of twenty-five per cent, of the income from the property or rupees ten thousand, whichever is higher.”

7. Sub-section (4) of s. 11 runs as follows:

“For the purposes of this section ‘property held under trust’ includes a business undertaking so held, and where a claim is made that the income of any such undertaking shall not be included in the total income of the persons in receipt thereof, the Income-tax Officer shall have power to determine the income of such undertaking in accordance with the provisions of this Act relating to assessment; and where any income so determined is in excess of the income as shown in the accounts of the undertaking, such excess shall be deemed to be applied to purposes other than charitable or religious purposes……….”

8. The above provision grants exemption from the levy of income-tax with respect to the income from property held for charitable or religious purposes. The section contemplates the computation of the income, in order to find out whether the income has been applied for charitable purposes to the required extent. It is, therefore, necessary for the ITO to find out first what the property held in trust is. He will then have to ascertain the income derived from the said properties of the trust and after ascertaining the income, he will have to examine whether any part of the said income has been accumulated for application. Such accumulation could be only up to a maximum of 25 per cent, of the income from the property or Rs. 10,000, whichever is higher. This provision itself shows that to the extent of 75 per cent, of the income, there has to be an application of the income for charitable purposes. It is in the context of the application of the income that the Tribunal has observed in para. 5 of its order that the expenditure in improving the property of the trust or maintaining it resulting in the income of the trust being maintained or even increased would have to be taken as application for charitable purposes. In coming to this conclusion, the Tribunal has mixed up two things relevant under the section. The section requires consideration of the objects of the trust and also of the income derived from the property held in trust. The income from the trust properties has to be applied on the objects of the trust. As far as the objects of the trust are concerned, the application of the amount can be for revenue or capital purposes.

9. This was the conclusion arrived at by the Gujarat High Court in Satya Vijay Patel Hindu Dharamshala Trust v. CIT, [1972] 86 ITR 683. In that case, a trust was created and certain immovable properties were transferred to it to be administered as a Hindu Dharamshala. During the relevant years, the trustees spent the entire surplus income in the construction of a new dharamshala. The I.T Dept. held that the expenditure of the income of the trust in the accounting years relevant to assessment years 1962–63 and 1963–64, on the construction of a new dharamshala, will not qualify for exemption in view of s. 11 of the I.T Act, 1961. The matter was taken on reference to the Gujarat High Court, and it was held that even capital expenditure with reference to the objects of the trust would be application of the income for charitable purposes. The amount spent on the construction of a new dharamshala was, therefore, considered to be a proper application of the income in that particular case. This case itself demonstrates the distinction between the objects of the trust and the application of the income of the charitable trust. So long as the expenditure had to be incurred out of the income earned by the trust, even if such expenditure is for capital purposes on the objects of the trust, the income would be exempt. The Tribunal is, therefore, wrong in proceeding on the basis that improvement of a property held under trust would by itself come within the scope of the application of the income for charitable purposes.

10. However, facts will have to be investigated to find out whether the assessee had, in incurring the expenditure of a capital nature, promoted the objects of the trust by applying the income to those objects. The ITO will have to go into this question, as the assessment itself has been set aside by the Tribunal and restored to his file. The result is that the question referred to us would have to be answered as follows: So long as the income derived from the property held under trust had been expended on the objects of the trust, the income would be exempt under s. 11 of the Act. If this was not done, then the income would not be exempt. The matter will have to be considered only by the ITO in reassessment proceedings arising from the setting aside of the assessment by the Appellate Tribunal.

11. We shall now turn to T.C Nos. 350 to 355 of 1977. The reference appears to have arisen out of the six reference applications made to the Tribunal, viz., R.A Nos. 946 to 951 (Mds) of 1974–75. R.A Nos. 946 to 948 (Mds) 1974–75, related to the question of penalty. R.A Nos. 949 to 951 (Mds)/74-75 related to the manner in which the income of the trust would have to be computed. We shall, therefore, take up the tax case appro-priate to R.A Nos. 949 to 951 (Mds) of 1974–75. As a result of the direction made by this court in T.C.P Nos. 92 to 94 and 96 to 98 of 1976 dated 5th July, 1976 (CIT v. Kannikaparameswari Devasthanam, Madras) the reference has been made. The question referred in the T.C.S appropriate to R.A Nos. 949 to 951 (Mds) of 1974–75 runs as follows:

“Whether, on the facts and in the circumstances of the case, the Appellate Tribunal was right in holding that for the purpose of computing accumulation in excess of 25%, as laid down under the provisions of section 11(1)(a) of the Income-tax Act, 1961, ‘income’ of the assessee-institution should be computed under the appropriate heads of income of the Income-tax Act, 1961?”

12. This question appears to have been referred only because of the view that the Tribunal has given some final finding as to the nature of the computation to be made in the assessment to be re-made by the ITO. We have already extracted the passage from the Tribunal's order, which shows that except on the point as to the capital expenditure aspect disposed of already, the Tribunal had not given any final finding on any other aspect. The question, therefore, does not arise out of the order of the Tribunal. The ITO will have in complying with the Tribunal's directions in the order under reference to go into the computation of the income in the light of the appropriate provisions of the Act applicable to the income derived from the property held under trust. We do not, therefore, think it proper to answer this question as it does not arise out of the Tribunal's order. In the reference in pursuance of the direction against R.A Nos. 946 to 948 (Mds) 74-75, the following question has been referred:

“Whether, on the facts and in the circumstances of the case, the Appellate Tribunal was right in cancelling the penalty imposed under the provisions of section 271(1)(a) of the Income-tax Act, 1961, in this case?”

13. The Tribunal, in cancelling the penalty, has observed in its order as follows:

“As the assessments in question have been set aside the penalties as imposed at present cannot stand. The orders imposing penalty are also accordingly set aside…”

14. In view of the fact that the assessments no longer hold the field, the penalty already levied under s. 271(1)(a) of the I.T Act, 1961, cannot stand. Therefore, the Tribunal was right in setting aside the penalty imposed. However, whether any penalty can be levied in the course of the proceedings to be finalised as a result of the remand by the Tribunal will have to be considered by “the ITO”. Hence, we answer this question in the affirmative and in favour of the assessee. This answer does not in any way prevent the ITO from considering the question of penalty in the assessment proceedings now before him, if he can do so under the law.

15. There will be no order as to costs.