The charitable activity enjoys tax exemption due to the operations carried on for the benefit of general public. It is in a way the duty of the Government shared by the charitable trusts and hence deserves tax exemption as per the provisions of Income tax law.
However, there have been instances wherein the charitable trusts did not operate in the framework of the law to claim the tax exemption. Over a period of time there have been numerous litigated cases where the aspects of charitable purpose have been vigorously fought by the assessees and the department.
There is a possible scenario that a charitable trust ceases to be so and converts itself into non-charitable purposes or it may transfer its assets to other trusts which are not charitable in nature. There was no provision under the tax law as a deterrence for such trusts, wherein for many years such trust claimed tax exemption and then all such tax exempted assets became sources for non-charitable trusts. We are dealing this aspect of the scenario in the foregoing paras of this discussion. In order to bring such deterrence and tax implication in the hands of the charitable trust, the finance ministry has proposed amendments in the provisions of income tax law. The excerpts of the Memorandum to Finance Bill 2016 has been quoted below for reference to understand the purpose.
Levy of tax where the charitable institution ceases to exist or converts into a non-charitable organization.
The existing provisions of section 2(24) of the Act define "Income" in an inclusive manner. Any voluntary contribution received by a charitable trust or institution or a fund is included in the definition of income. Sections 11 and 12 of the Act provide for exemptionto trusts or institutions in respect of income derived from property held under trust and voluntary contributions, subject to various conditions contained in the said sections. The primary condition for grant of exemption is that the income derived from propertyheld under trust should be applied for the charitable purposes, and where such income cannot be applied during the previous year,it has to be accumulated and invested in the modes prescribed and applied for such purposes in accordance with various conditionsprovided in the section. If the accumulated income is not applied in accordance with the conditions provided in the said sectionwithin a specified time, then such income is deemed to be taxable income of the trust or the institution. Section 12AA providesfor registration of the trust or institution which entitles them to be able to get the benefit of sections 11 and 12. It also provides the circumstances under which the registration can be cancelled. Section 13 of the Act provides for the circumstances under whichexemption under section 11 or 12 in respect of whole or part of income would not be available to a trust or institution.
A Society or a company or a trust or an institution carrying on charitable activity may voluntarily wind up its activities anddissolve or may also merge with any other charitable or non-charitable institution, or it may convert into a non-charitableorganization. In such a situation, the existing law does not provide any clarity as to how the assets of such a charitable institutionshall be dealt with. Under provisions of section 11 certain amount of income of prior period can be brought to tax on failure of certainconditions. However, there is no provision in the Act which ensure that the corpus and asset base of the trust accreted over periodof time, with promise of it being used for charitable purpose, continues to be utilised for charitable purposes and is not used forany other purpose. In the absence of a clear provision, it is always possible for charitable institutions to transfer assets to anon-charitable institution. There is a need to ensure that the benefit conferred over the years by way of exemption is not misusedand to plug the gap in law that allows the charitable trusts having buit up corpus/wealth through exemptions being converted into non-charitable organisation with no tax consequences.
In order to ensure that the intended purpose of exemption availed by trust or institution is achieved, a specific provision in theAct is required for imposing a levy in the nature of an exit tax which is attracted when the organization is converted into anon-charitable organization or gets merged with a non-charitable organization or does not transfer the assets to another charitableorganisation.
Accordingly, it is proposed to amend the provisions of the Act and introduce a new Chapter to provide for levy of additionalincome-tax in case of conversion into, or merger with, any non-charitable form or on transfer of assets of a charitable organisationon its dissolution to a non-charitable institution. The elements of the regime are: -
(i) The accretion in income (accreted income) of the trust or institution shall be taxable on conversion of trust or institutioninto a form not eligible for registration u/s 12 AA or on merger into an entity not having similar objects and registered undersection 12AA or on non-distribution of assets on dissolution to any charitable institution registered u/s 12AA or approvedunder section 10(23C) within a period twelve months from dissolution.
(ii) Accreted income shall be amount of aggregate of total assets as reduced by the liability as on the specified date. The methodof valuation is proposed to be prescribed in rules. The asset and the liability of the charitable organisation which have beentransferred to another charitable organisation within specified time will be excluded while calculating accreted income.
(iii) The taxation of accreted income shall be at the maximum marginal rate.
(iv) This levy shall be in addition to any income chargeable to tax in the hands of the entity.
(v) This tax shall be final tax for which no credit can be taken by the trust or institution or any other person, and like any otheradditional tax, it shall be leviable even if the trust or institution does not have any other income chargeable to tax in therelevant previous year.
(vi) In case of failure of payment of tax within the prescribed time a simple interest @ 1% per month or part of it shall beapplicable for the period of non-payment.
(vii) For the purpose of recovery of tax and interest, the principal officer or the trustee and the trust or the institution shall bedeemed to be assessee in default and all provisions related to the recovery of taxes shall apply. Further, the recipientof assets of the trust, which is not a charitable organisation, shall also be liable to be held as assessee in default in caseof non-payment of tax and interest. However, the recipient's liability shall be limited to the extent of the assets received.
These amendments will take effect from 1st June, 2016.
Section 12AA- Provisions regarding cancellation of Registration
(3) Where a trust or an institution has been granted registration under clause (b) of sub-section (1) or has obtained registration at any time under section 12A [as it stood before its amendment by the Finance (No. 2) Act, 1996 (33 of 1996)] and subsequently the Principal Commissioner or Commissioner is satisfied that the activities of such trust or institution are not genuine or are not being carried out in accordance with the objects of the trust or institution, as the case may be, he shall pass an order in writing cancelling the registration of such trust or institution:
Provided that no order under this sub-section shall be passed unless such trust or institution has been given a reasonable opportunity of being heard.
[(4) Without prejudice to the provisions of sub-section (3), where a trust or an institution has been granted registration under clause (b) of sub-section (1) or has obtained registration at any time under section 12A [as it stood before its amendment by the Finance (No. 2) Act, 1996 (33 of 1996)] and subsequently it is noticed that the activities of the trust or the institution are being carried out in a manner that the provisions of sections 11 and 12 do not apply to exclude either whole or any part of the income of such trust or institution due to operation of sub-section (1) of section 13, then, the Principal Commissioner or the Commissioner may by an order in writing cancel the registration of such trust or institution:
Provided that the registration shall not be cancelled under this sub-section, if the trust or institution proves that there was a reasonable cause for the activities to be carried out in the said manner.]
Few Judicial Pronouncements On S.12aa Cancellation Of Registration
DIT Vs. Karnataka Badminton Association – (2015) 378 ITR 700 (KAR HC)
HC notes that registration granted under Section 12A of the Act can be cancelled under twocircumstances as stipulated u/s. 12AA(3) i.e., (i) If the activities of such trust or institution arenot genuine and (ii) The activities of trust or institution not being carried out in accordancewith the object of the trust or institution. The Court holds that mere fact that the receipts fromcommercial activities are more compared to the overall receipts of the charitableorganization do not satisfy the above conditions. It further observes that amendment of firstproviso to Section 2(15) of the Act, which was relied upon by the Department, is not aground specified in the statute for cancellation of the registration and holds that if the case ofthe assessee falls in the first proviso to Section 2(15) of the Act, the benefit of registrationwhich flow from Sec. 12A is not available, but on that ground, the registration cannot becancelled.
Padanilam Welfare Trust vs Deputy Commissioner of Income Tax (2011) 10 ITR 0479 (Chennai -Trib)
The assessee is into running medical, dental and nursing colleges. As the activities carried on by the trust related to its objects concerning education, the Revenue accepted its claim for registration as well as consequential benefits of the registration.
On the basis of a search carried on in the premises of the assessee, the CIT came to conclusion that the assessee trust has violated the provisions of IT Act U/s 11, 12, 12A, 12AA and 13. The registration was withdrawn after recording proceedings of the assessee.
The grounds on which the registration was cancelled were –
a. Collection of capitation fee
b. Diversion of trust funds to the benefit of trustees
The matter was held favourable to the assessee as the grounds raised by the CIT were mere allegations without any documentary evidences. The assessee was able to establish that irrespective of the nature of legality of collections in the form of Capitation fee, the trust has utilized its funds for furthering its objects. Further, the trustees had sufficient sources to establish the investments or payments that they had made in personal capacity and hence, the diversion of funds for personal purpose does not arise.
Builders Association of India Vs DCIT (2016) 46 ITR 295 (Mum-Trib)
Builders Association of India is a Pan India organisation for civil and construction industry. The association has objects relating to promotion of the industry and certain best practices in the industry.
The DIT cancelled the registration stating the association is carrying the activities in the nature of business after the proceedings were initiated against the assessee.
The ITAT held the case favourable to assessee citing that the activities carried on by the association are in line with the objects of the trust and they are not in the nature of carrying of the business.
The judgements favourable to assessee on the matter of Cancellation of registration are substantial in number.
Inference
Finance Bill, 2016 has proposed tax @ 30% on trust’s ‘accreted income’ (i.e excess of FMV over book value of assets) incase where trust’s registration u/s. 12AA is cancelled or if its objects are changed or if it is merged with another trust not having similar objects or trust has been come to an end. This is a welcome provision. Obviously, when an organisation goes non-charitable, some consequence has to flow. However, there are concerns over extending such consequences in cases where registration is cancelled. Cancellation of registration has become rampant owing to application of disentitling proviso to Sec 2(15) by Revenue and in many cases cancellation has been set aside subsequently in appeal. We have witnessed few judgements in the erstwhile discussion. Hence, the proposed amendment should be suitably modified to provide that ‘mere registration cancellation’ should not attract obligation to pay tax, and only once the cancellation is confirmed by appellate authorities, the consequences should flow.
