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Belvedere Estates Tenants Association v. Income Tax Officer Ward-34(1)
Concise Analytical Summary of the Provided Opinion
Factual and Procedural Background
The assessee is an institution formed by tenants of a building located at 8/8, Alipur Road, Kolkata-700 027, owned by Belvedere Estate India Ltd. The institution carried out maintenance of the building and allied activities for the common interests of its members. For the assessment year 2006-07 the assessee claimed tax exemption on the ground of mutuality.
The Assessing Officer (AO) declined the exemption claim. The AO's stated reasons included that (i) the assessee had not demonstrated that it was working only for its members; (ii) members had deducted tax at source when making payments to the assessee; (iii) the assessee was taxable under section 28(iii) of the Income Tax Act; and (iv) facts of the assessee's case were not pari materia with the decision in Chelmsford Club v. Commissioner of Income Tax, Delhi.
The assessee appealed to the Commissioner of Income Tax (Appeals) (CIT(A)). The CIT(A) confirmed the AO's decision by order dated 22 July 2011. The assessee then filed the present appeal before the tribunal challenging the CIT(A)'s order on various grounds, principal among them being denial of exemption on the ground of mutuality and confirmation of additions and interest.
Legal Issues Presented
- Whether the income of the assessee is exempt from taxation on the ground of mutuality.
- Whether the CIT(A) was justified in confirming an addition of Rs. 2,16,000 on account of alleged undisclosed rent.
- Whether the CIT(A) was justified in confirming an addition of Rs. 3,50,000 on account of transfer fee.
- Whether charging of interest under sections 234A, 234B and 234C of the Income Tax Act, 1961 by the AO was justified.
- Whether the CIT(A)'s order is vitiated by wrong appreciation of facts and is legally unsustainable.
Arguments of the Parties
Appellant's (Assessee's) Arguments
- The institution was formed by the tenants to work for their common interests and to maintain the building; its receipts arise from mutual transactions among members and therefore are exempt from tax on the ground of mutuality.
- The assessee contended that receipts arising from provision of services to members are covered by the principle of mutuality even if some remuneration is charged.
- The appeal challenges the additions (undisclosed rent and transfer fee) and the levy of interest; these are presented without success before CIT(A) and are contested before the tribunal.
Revenue/Assessing Officer's Arguments
- The AO concluded that the assessee failed to establish that it worked solely for its members; therefore mutuality did not apply.
- The AO relied on the fact that members had deducted tax at source from payments to the assessee as an indicator that the receipts were taxable.
- The AO asserted applicability of section 28(iii) of the Income Tax Act, treating the receipts as income falling within that classification.
- The AO also considered the facts not to be pari materia with the Chelmsford Club decision relied on by the assessee.
- The CIT(A) confirmed the AO's order, observing that the assessee's Authorized Representative could not explain the provisions under which exemption was claimed; this was relied upon as a basis for rejecting the mutuality plea.
Table of Precedents Cited
| Precedent | Rule or Principle Cited For | Application by the Court |
|---|---|---|
| Commissioner Of Income-Tax v. Bankipur Club Ltd. [1997] 226 ITR 97 / 92 Taxman 278 (Supreme Court) | Authoritative exposition of the law of mutuality: the requirement of identity between contributors and participators; members' clubs as mutual undertakings and the test to determine whether surplus is a taxable income or merely a returnable excess. | The tribunal relied on Bankipur Club as the settled law on mutuality, extensively quoting and applying its principles to find that the assessee's receipts were within the mutuality doctrine and not taxable income. |
| Fletcher v. Income Tax Commissioner [1971 (3) All ER 1185] | Formulation of the central question: whether the activity is a trade/adventure in the nature of trade producing profit or a mutual arrangement giving rise only to a surplus. | The tribunal used the Fletcher formulation as the succinct test to determine whether the assessee's activities were trading in nature or mutual; it concluded the arrangement was non-trading and mutual in character. |
| Carlisle and Silloth Golf Club v. Smith [1913 (3) K.B. 75] | Demonstrates that where a members' club affords facilities to non-members (e.g., admitting non-members on payment of green fees), that activity can be isolated as a business and profits therefrom are assessable. | The tribunal cited this case to note the well-settled principle that profits from facilities afforded to non-members are assessable, and then observed that in the present case there was no finding that services were rendered to non-members. |
| Chelmsford Club v. Commissioner Of Income Tax, Delhi [2000] 243 ITR 89 / 109 Taxman 215 (SC) | Referenced by the AO as a precedent relevant to mutuality issues; used for comparison of facts (pari materia) between that case and the assessee's case. | The AO relied upon it to distinguish the assessee's facts; the tribunal observed that the AO had said the facts were not pari materia with Chelmsford Club but the tribunal did not treat that distinction as sufficient to deny mutuality in the present case. |
Court's Reasoning and Analysis
The tribunal undertook a stepwise analysis based on the material on record and applicable legal principles:
- It first noted the CIT(A)'s confirmation of the AO's action which was primarily premised on the procedural observation that the assessee's Authorized Representative could not explain the provisions under which exemption was claimed. The tribunal treated that as an insufficient basis to deny exemption.
- The tribunal then turned to authoritative law on mutuality, especially the Supreme Court decision in Commissioner Of Income-Tax v. Bankipur Club Ltd., and summarized the established principles: mutual trading/undertakings produce a surplus, not a taxable profit, provided there is complete identity between contributors and participators; where clubs extend facilities to non-members, that element of mutuality is lost to that extent.
- The tribunal applied the Fletcher formulation to frame the central inquiry: whether the activity amounted to trade producing profit or a mutual arrangement giving rise only to a surplus. It concluded that the relationship between the club and its members must be non-trading in character for mutuality to apply.
- The tribunal rejected the AO's reliance on section 28(iii) as premature: section 28 classifies income but cannot be used to define the scope of the term "income" where the primary question is whether any income arises at all under the mutuality doctrine. To decide the scope of "income" by reference to section 28(iii) is to "put the cart before the horse."
- On the factual matrix, the tribunal observed there was no finding by the authorities below that services were rendered to non-members. References to services rendered to outsiders in lower orders were found to be part of judicial precedent analysis and not findings of fact that would defeat mutuality.
- The tribunal addressed the AO's point that members had deducted tax at source from payments to the assessee. It held that the conduct of the payer (deducting tax at source) does not determine the character of the receipt in the hands of the recipient. The mere deduction of TDS, possibly done out of excess caution by payers, cannot be decisive evidence that the receipt is taxable.
- Concluding from the above, the tribunal found that the factors relied upon by the AO and affirmed by the CIT(A) were not germane to the legal context and lacked legally sustainable merit. On that basis, the tribunal held that the assessee's plea of exemption on the ground of mutuality must succeed.
Holding and Implications
Holding: The tribunal allowed the appeal filed by the assessee; it upheld the assessee's claim for tax exemption on the ground of mutuality and set aside the rejection by the authorities below. APPEAL ALLOWED
Implications:
- The direct effect is that the assessee's claim for exemption on the basis of mutuality was accepted by the tribunal and the appeal was allowed in the terms indicated in the opinion.
- The tribunal reversed the legal conclusions reached by the AO and affirmed by the CIT(A) that were based on (a) an inability of the assessee's representative to explain legal provisions, (b) reliance on section 28(iii) to define "income" prior to establishing whether any income arose, and (c) the fact of tax deduction at source by payers. Those reasons were found legally unsustainable.
- The opinion applies established principles of mutuality as expounded in Bankipur Club and related authorities; the decision is an application of settled law rather than the announcement of a new principle. The court did not indicate the establishment of a new precedent beyond applying existing authorities.
Judge/Bench initial: AKB (as indicated in the opinion).
Pramod Kumar, Accountant Member - By way of this appeal, the assessee-appellant has challenged Commissioner of Income Tax (Appeals)'s order dated 22nd July, 2011, for the assessment year 2006-07 on the following grounds :-
(1) That the ld. CIT(A) was unjustified in holding that the income of the appellant is not exempt from taxation on ground of mutuality.
(2) Without prejudice to ground No. 1, the ld. CIT(A) was unjustified in confirming the addition of Rs. 2,16,000/- on account of undisclosed rent.
(3) Without prejudice to ground No. 1, the ld. CIT(A) was unjustified in confirming the addition of Rs. 3,50,000/- on account of transfer fee.
(4) That the ld. CIT(A) was unjustified in holding, charging of interest u/s. 234A, 234B & 234C of the I.T. Act, 1961 by A.O.
(5) That the order of the ld. CIT(A) is based on wrong appreciation of facts of the case and is bad in law.
2. The relevant material facts are like this. The assessee Institution was formed by the tenants of a building at 8/8, Alipur Road, Kolkata-700 027, owned by Belvedere Estate India Ltd. The assessee works for the common interests of it's members and takes care of maintenance of the building and allied activities. While the assessee claimed the tax exempt status on the ground of mutuality, the Assessing Officer declined the claim on the grounds that, inter alia, (i) the assessee has not been able to demonstrate that it is working only for it's members; (ii) the members have deducted tax at source while making payments to the assessee; (iii) the assessee is taxable u/s. 28(iii) of the Income Tax Act; and that (iv) the facts of the assessee's case are not in pari material with the case of Chelmsford Club v. Commissioner Of Income Tax, Delhi [2000] 243 ITR 89 / 109 Taxman 215 (SC). Aggrieved, assessee carried the matter in appeal before the CIT (Appeals) but without any success. The assessee is not satisfied and is in further appeal before us.
3. We have heard the rival contentions, perused the material on record and duly considered factual matrix of the case as also the applicable legal position.
4. We have noted that the CIT (Appeals) has confirmed the action of the Assessing Officer primarily on the ground that "the learned A.R. could not explain the provisions under which the income of the appellant association was exempt" and has, on this basis, simply brushed aside the exemption on the ground of mutuality. The law is fairly well settled on the issue. In the case of Commissioner Of Income-Tax v. Bankipur Club Ltd. [1997] 226 ITR 97 /92 Taxman 278. Hon'ble Supreme Court has observed as follows :-
"6. Under the I.T. Act (hereinafter referred to as 'the Act') what is taxed is, the "income, profits or gains earned or "arising", "accruing" to a person". The question is whether in the case of Members' clubs - a species of mutual undertaking - in rendering various services to its members which result in a surplus, the club can be said to "have earned income or profits" In order to answer the question, it is necessary to have a background of the law relating to "Mutual trading" or "Mutual undertaking" and a "Members' Club".
7. In Halsbury Laws of England, 4th Edn. Reissue Vol. 23 paras 161 and 162 (pages 130 and 132), the relevant law is stated thus :-
"Where a number of persons combine together and contribute to a common fund for the financing of some venture or object and will in this respect have no dealings or relations with any outside body, then any surplus returned to those persons cannot be regarded in any sense as profit. There must be complete identity between the contributors and the participators. If these requirements are fulfilled, it is immaterial what particular form the association takes. Trading between persons associating together in this way does not give rise to profits which are chargeable to tax.
Where the trade or activity is mutual, the fact that, as regards certain activities, certain members only of the association take advantage of the facilities which it offers does not affect the mutuality of the enterprise.
Members' clubs are an example of mutual undertaking; but, where a club extends facilities to non-members, to that extent the element of mutuality is wanting "
(Emphasis, italicised in print, supplied)
Simon's Taxes Vol. B, 3rd Edn., paragraphs BI.218 and BI.222 (pages 159 and 167), formulate the law on the point, thus:
" it is settled law that if the persons carrying on a trade do so in such a way that they and the customers are the same persons, no profits or gains are yielded by the trade for tax purposes and therefore no assessment in respect of the trade can be made. Any surplus resulting from this form of trading represents only the extent to which the contributions of the participators have proved to be in excess of requirements. Such a surplus is regarded as their own money and returnable to them. In order that this exempting element of mutuality should exist it is essential that the profits should be capable of coming back at some time and in some form to the persons to whom the goods were sold or the services rendered.."
"It has been held that a company conducting a members' (and not a proprietary) club, the members of the company and of the club being identical, was not carrying on a trade or business or undertaking of a similar character for purposes of the former corporation profits tax.
A members' club is assessable, however, in respect of profits derived from affording its facilities to non-members. Thus, in Carlisle and Silloth Golf Club v. Smith [1913 (3) K.B. 75], where a members' golf club admitted non-members to play on payment of green fees it was held that it was carrying on a business which could be isolated and defined, and the profit of which was assessable to income tax. But there is no liability in respect of profits made from members who avail themselves of the facilities provided for members.
(Emphasis, italicised in print, supplied)
In British Tax Encyclopedia (I) 1962 Edn. (Edited by G.S.A. Wheatcroft) at pages 1200 and 1201, dealing with "Mutual trading operations", the law is stated, thus :
"In several early cases there were dicta to the effect that a man could not make a profit by trading with himself; this developed into the proposition that when persons contribute to a common fund in pursuance of a scheme for their mutual benefit, having no dealings or relations with any outside body, they cannot be said to have made a profit when they find they have overcharged themselves and that some portion of their contributions may be safely refunded. It has also been established that the same principle applies although the contributors incorporate themselves into a separate entity to carry out the mutual scheme and the surplus contributions are put to reserve and not immediately returned. For this doctrine to apply it is essential that all the contributors to the common fund are entitled to participate in the surplus and that all the participators in the surplus are contributors, so that there is complete identity between contributors and participators. This means identity as a class, so that at any given moment of time the persons who are contributing are identical with the persons entitled to participate; it does not matter that the class may be diminished by persons going out of the scheme or increased by others coming in..
The doctrine now has application in three areas. First, it applies to mutual insurance companies; secondly, it applies to certain municipal undertakings and, thirdly, to members' clubs, and mutual associations generally, whether incorporated or unincorporated, except registered industrial and provident societies.."
(Emphasis, italicised in print, supplied)
It should be noticed that in the case of "mutual society concern" (including a "Members' club"), there must be complete identity between the class of contributors and the class of participators. The particular label or form by which the mutual association is known, is of no consequence. The said principle which has been laid down in the leading decisions and emphasised in the leading English text books mentioned above has been explained with reference to Indian decisions in "The Law and Practice of Income Tax" (8th Edn. Vol. I, (1990) by Kanga & Palkhivala at page 113, thus :
"..The contributors to the common fund and the participators in the surplus must be an identical body. That does not mean that each member should contribute to the common fund or that each member should participate in the surplus or get back from the surplus precisely what he has paid." The Madras, Andhra Pradesh and Kerala High Courts have held that the test of mutuality does not require that the contributors to the common fund should willy-nilly distribute the surplus amongst themselves: it is enough if they have a right of disposal over the surplus, and in exercise of that right they may agree that on winding up the surplus will be transferred to a similar association or used for some charitable objects.."
8. The crucial issue that arises for consideration in cases where it is claimed that on the basis of the principle of mutuality, the receipts by the 'Society' or 'club' is exempt from taxation, has been succinctly stated by the Judicial Committee of the Privy. Council in Fletcher v. Income Tax Commissioner 1971 (3) All ER 1185 at page 1189], thus :
" Is the activity, on the one hand, a trade, or an adventure in the nature of trade, producing a profit, or is it, on the other, a mutual arrangement which, at most, gives rise to a surplus?"
In substance, the arrangement or relationship between the club and its members should be of a non-trading character.
5. As far the references to section 28(iii), this can come into play only when there is an 'income' derived by the assessee, but as explained by Hon'ble Supreme Court, no income can arise in the case of mutuality. Section 28 deals with classification of an 'income', and not with the scope of expression 'income'. To decide the scope of 'income' in the light of section 28(iii) therefore will be putting cart before the horse. The plea of the authorities below, therefore, lacks legally sustainable merits.
6. On the facts of the present case, we have noted that there is no finding by any of the authorities below that services are rendered to non-members. There is a reference to the services rendered to the outsiders in the orders of the authorities below, but it is in the context of analysis of judicial precedents, and, therefore, nothing turns on that. As long as services are rendered to the members, even for a remuneration, the same will be covered by the principles of mutuality. As far the allegation that members have deducted at source from payments to the assessee and for this reason, the receipt is to be taken as taxable receipt, it is only elementary that conduct on the part of the person making payment cannot determine character of receipt in the hand of recipient. That apart, it is also a fact of life that sometimes taxpayers err on the side of excessive caution and deduct taxes as a measure of abundant caution. The mere deduction of tax at source by person making the payment in our humble understanding, cannot lead to the conclusion that receipt was taxable in nature. It is too naïve to the accepted or to be even given a serious consideration. The factors relied upon by the authorities below, in rejecting assessee's plea, are not germane to the context and devoid of legally sustainable merits. The plea of the assessee for tax exemption on the ground of mutuality, therefore, must succeed. We uphold the same.
7. In the result, the appeal filed by the assessee is allowed in the terms indicated above.
AKB
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