Shubhashish Shivam

Shubhashish ShivamVery often we get involve in rendering of professional services to charitable and religious organization commonly called as NGO, NPO etc. These services include Auditing, Accounting, Taxation, consultancy, foreign transaction related issues etc. In this regard as far as taxation services are concerned some common errors frequently happen and by mean of this article I have tried to demonstrate those errors and also the corrective measures thereof.

1. Treatment of net income as Gross Total income for Income Tax purposes : let illustrate it through following example ;

Income & Expenditure A/c of XYZ Charitable Trust

PARTICULARSAMOUNTPARTICULARSAMOUNT
To, Salary & Wages60000.00By, Donation & Contribution1000000.00
     Printing & Stationery6500.00  
     Newspaper & periodical9000.00  
     Office Rent36000.00  
     Cultural expenses22000.00  
     Program Expenses125000.00  
     Scholarship350000.00  
     Books distribution350000.00  
To, Excess of Income over Expenditure41500.00  
TOTAL1000000.00TOTAL1000000.00

Now the error may be here in considering excess of income over expenditure as income of trust and deciding taxation on that base, which is wrong because ;

(i) As per sec-2(24)(iia) of Income Tax act, 1961, Income includes “ Voluntary contribution received by a trust created wholly or partly for charitable or religious purposes or by an institution establishes wholly or partly for such purposes or by an association or institution referred to in clause (21) or (23), or by a fund or trust or institution referred to in sub clause (iv) or sub clause (v) or by any university or other educational institution referred to in sub clause (iiiad) or sub clause (vi) or by any hospital or other institution referred to in sub clause (iiiae) or sub clause (via) of clause (23C) of section 10 or by an electoral Trust”,

And for the purpose of this sub clause “ Trust” includes any other legal obligation.

So, entire voluntary contribution received is income itself and no allowance will be there for deduction from such income.

(ii) Another postulation in this regard can be that the income received in the form of voluntary contribution falls under the head “Other sources”, and for deduction of expenses in context of other income, provision of section 57 shall be followed, which states that “ any expense from income shall be allowed if it was laid out or expended wholly and exclusively for the purpose of making or earning such income and should not be in the nature of capital expenditure

So as the expenses appearing in the expenditure side of Income & Expenditure A/c are not incurred for the purpose of earning such donation and contribution income, hence shall not be allowed. These expenses are application of income rather and can be shown as application of income as required by section 11 & 12. Of Income Tax Act, 1961.

2. Business Income : 

It’s a common misconception that religious or charitable organization cannot transact business, since where charity is involved there is no scope of business or commercial transaction. We know this is wrong and in the context of Income tax Act 1961 following points are worth noting;

(i) As per section 11(4) of Income Tax Act, 1961 “property held under trust” includes Business Undertaking.

(ii) As per sec 11(4A) exemption under sec 11 is available to a trust or institution in respect of the profit and gains of the business if

a) The business is incidental to the attainment of objectives of the trust or institution and

b) Separate books of accounts are maintained by such trust or institution in respect of such business.

(iii) As per section 2(15) of income Tax Act,1961 ,Advancement of any other object of general public utility shall not be a charitable purpose if it involves carrying of any activity in the nature of trade commerce or business provided total receipt from such trade commerce or business exceeds Rs 2500000.

So now it can be said that charitable trust or institutions can also have business transaction and even then they can avail exemption u/s 11 or 12 of income tax act, 1961 if either the property held under trust itself includes Business Undertaking or business carried on by trust is incidental to objectives of such trust and institution and its total receipts doesn’t exceeds Rs. 2500000. However the condition related to gross receipt exceeding Rs.2500000 is applicable only if the object of trust or institution falls under the category “Advancement of any other object of general public utility. Accordingly if the trust’s object includes either “Relief of poor” or “Education” or “Medical Relief” or preservation of environments (including watersheds, Forests and wildlife), monuments or places or objects of artistic or historic interest, then such trust or institution can transact business activities freely without having any ceiling on gross receipt or turnover but the business should be incidental to objects of trust or institution and separate books of accounts are being maintained.

3. Rate of Income Tax :

Again it’s a normal misconception that income of charitable trust or institutions (if not exempt) are subject to 30% tax plus applicable surcharge and cess(as on the basis of companies or firm). However we all know that trust or institution or any other legal obligation are liable to assessed as “Association of Person”

Part I of First schedule to the Annual Finance Act prescribes rate of taxes at which different persons will be liable to pay taxes and clause (I) of that part prescribes AOP to be taxed as same as on the basis of individual. However it is to be noted here that sec-167B is applicable in case of AOP. So if Trust or institutions are liable to assessed as AOP then obviously section 167B does also have applicability in case of charitable trust or institutions.

But section 167B will not be applicable in case of charitable trust or institutions because of following two reasons;

(a) Sec-167B of income Tax Act, 1961 specifically excludes Companies and societies registered under societies registration Act, 1980 or any other similar legislation.

(b) The different rates as prescribed in section 167B are based upon knowledge and determination of share of individual members. But as far as charitable or religious organizations are concerned there is no scope of share of income or surplus among members concerned.

Hence it can be said now that charitable or religious trust or institutions are subject to tax (if income is not exempt) at the rate applicable to individual assessee. However there are certain exceptions in this regard also as contained in section 13(1) of Income Tax Act, 1961 in which case income is subject to maximum marginal rate;

(i) Income for private religious purpose{sec-13(1)(a)}

(ii) Income for the benefit of particular religious community{sec-13(1)(b)}

(iii) Income for the benefit of persons specified in section 13(3) {sec-13(1)(c)}

(iv) Funds not invested in accordance with provisions of sec-11(5) {sec 13(1)(d)}

(v) Anonymous donation {sec-115}

So except in the conditions mentioned above Charitable Trust or institutions are subject to income tax at the rate applicable to individual assessee provided exemption under section 11 or 12 of 10(23C) is not available

4. Educational institution and hospitals are eligible for automatic exemption in terms of section 10(23C)of income Tax Act, 1961 :

Educational institutions and hospitals are eligible for exemption from levy of income tax in terms of sections 10(23C) of income tax Act, 1961. However all such institutions are not eligible for automatic exemption and section 10(23C) categorize institution for the purpose of exemption in the following manner;

(i) University or educational institution existing solely for the educational purposes and not for the profit purpose, substantially financed by government {sub clause (iiiab) of sec-10(23C)}

(ii) Hospital or other institution for the reception and treatment of illness and mental defectiveness and not existing for the purpose of profit, substantially financed by government. {Sub clause (iiiac) of sec-10(23C)}

(iii) University or educational institutions and hospital or other similar institution not substantially financed by government but the total receipt not exceeding Rs. One Crore. {Sub clause (iiiad) and (iiiae) of sec-10(23C)}

(iv) University or educational institutions and hospital or other similar institution not substantially financed by government but the total receipt exceeding Rs. One Crore. {Sub clause (vi) and (via) of sec-10(23C)}

As far as institutions covered in clause (i), (ii), (iii) as abovementioned are concerned; such institutions are not required to obtain approval from income tax department to avail exemption. However institutions mentioned in sub clause (iv) are required to obtain approval from Income Tax department. The approval is to be obtained in Form 56D and in terms of rule 2CA of Income Tax Rules, 1962.

So next time while providing auditing services to any private educational institution or university or hospital etc, whose total receipts is more than one Crore rupees , don’t forget to check its approval granted by Income tax Department.

5.Minimum three years audited financial statements is prerequisite for obtaining approval u/s 12AA of Income Tax Act, 1961 of Income Tax Act, 1961.

Provision contained in clause (b) of rule 17A of Income Tax Rules, 1962 are worth noting in this regard which are as under ;

“Where the trust or institution has been in existence during any year or years, prior to the financial year in which the application for registration is made, two copies of the accounts of the trust or institution relating to such prior year or years (not being more than three years immediately preceding the year in which the said application is made) for which such accounts has been made up.

Accordingly furnishing three years accounts is not the minimum criteria but if the institution is in existence for three years or more then maximum latest three years account is to be submitted. So a trust or institution which is in existence for less than 03 years can also make an application for registration under section 12A with accounts of such financial years for which it is in existence.

However when the application is made in form no 56D by an educational institution or University or hospital etc as referred in sec- 10(23C) (vi) & (via) then at least three years audited financial statements is a prerequisite.

6. Audit report in form 10B in case of unregistered institutions :

For claiming exemption under section 11 and 12 of income tax Act, 1961 charitable or religious trust or institution shall mandatory have to get their accounts audited if the total income without giving effects to provisions of section 11 and 12 exceed maximum amount not chargeable to tax and shall obtain audit report in form 10B.

So if a charitable and religious trust or institution is not registered under section 12A and hence not eligible to claim exemption under section 11 and 12 of the Act is not supposed to obtain audit report in form 10B. Even if such institution is getting its account audited from a Chartered Accountant by virtue of requirements contained in its governing statue, the audit report shall not be in form 10B. Instead the audit report issued in such circumstances shall be in format set out in SA-700 issued by ICAI. This is so because;

(i) Form no 10B is a statutory format as like form 3CB-3CD and hence should be utilized for specified purposes only. Statutory forms are for the purpose designated and should not be used universally.

(ii) Following is mentioned as heading of form 10B ;

“Audit Report under section 12A (b) of the Income Tax Act, 1961, in the case of charitable or religious trusts or institutions”

So form 10B shall be applied for tax audit purposes only. If the audit report is provided under the provisions of governing law of such trust or institution then audit report in form 10B cannot be provided.

(iii) Also form 10B contains particulars relating to compliance with provisions of various sections of Income Tax Act, 1961 and hence can’t be issued as audit report in any other case.

7. Donation received by charitable trust or institution is eligible for 100% deduction u/s 80G of Income Tax Act, 1961 in the hands of donor :

Any donation received by charitable trust or institution is eligible for deduction from gross total income of donor U/s 80G of income Tax Act, 1961 provided the charitable trust or institution is approved by CBDT for such purpose. However sometimes such trust or institution claims that the donation made to them is eligible for 100% deduction. Here it is crucially important to understand the fact that donation made to every charitable trust or institution is not eligible for 100% deduction. Section 80G categories such institutions fund etc in four categories viz;

  • Funds eligible for 100% deduction without any qualifying limit.
  • Funds eligible for 50% deduction without any qualifying limit.
  • Funds eligible for 100% deduction Subject to qualifying limit.
  • Funds eligible for 50% deduction subject to qualifying limit.

And most funds which are registered u/s 12A of Income Tax Act, 1961 falls under last category i.e. donation made to them is eligible for deduction @ 50% subject to qualifying limit. So firstly it is to be checked that the institution is covered by which category and on that basis only deduction will be allowed to donors i.e. either 50% or 100% and that too either subject to qualifying limit or not.

8. Exemption from income tax means exemption from service tax too :

The imposition of indirect taxes and direct taxes are altogether two different aspects. If an assessee is allowed exemption from payment of Direct tax then it doesn’t necessarily means that it is also not required to pay indirect taxes. However the liability will be decided separately as per governing provisions of different legislations.

As far as charitable and religious trust or institutions are concerned they can’t be exposed to Central excise duty and State VAT due to their nature of operations, but they can be exposed to liability of collection and payment of service tax. Accordingly it should be decided as per provisions of service tax law that whether they are liable to pay the same or not. And in this regard following points are worth noting ;

(i) The charge of service tax is imposed by Sec 66B of Finance Act, 1994 which states that “ There shall be levied a tax (hereinafter referred to as service tax) at the rate of twelve percent on the value of all services other than those services specified in the negative list, provided or agreed to be provided in the taxable territory by one person to another and collected in such manner as may be prescribed.

Also the definition of service states that “service includes Declared services specified under sec 66E

Apart from this there is separate exemption provided to certain services vide mega exemption notification no. 25/2012 dated 20/06/2012.

Accordingly service tax is paid on all services except those mentioned in negative list of services and those covered by mega exemption notification no. 25/2012 dated 20/06/2012

(ii) So liability to collect and pay service tax depends on the nature of activity performed i.e. whether it falls under the definition of service or not and its inclusion /exclusion in the negative list and exemption notification. It is immaterial in this regard that whether the person is charitable organization or something else.

(iii) Although clause 04 of notification No. 25/2012 states that “ Services by an entity registered under section 12AA of income Tax Act, 1961 by way of charitable activity is exempt from the whole of the service tax leviable thereon under section 66B of Finance Act 1994. The definition of Charitable activity as given in the said notification is quite different from the definition of charitable activities given in sec- 2(15) of Income Tax Act, 1961. The former definition is exhaustive whereas the latter is more inclusive

(iv) The following exclusion from taxable services are relevant in determination of exemption from service tax liability in the context of charitable and religious institutions ;

(a) Relevant clauses of notification no 25/2012 dated 20/06/2012 ;

(2) Health care services by a clinical establishment, an authorized medical practitioner or Para-medics.

(3) Services by a veterinary clinic in relation to health care of animals or birds.

(4) Services by an entity registered under section 12AA of income Tax Act, 1961 by way of charitable activities

(5) Services by a person by way of – (a) renting of precincts of a religious place meant for general public; or (b) conduct of any religious ceremony

(8) Services by way of training or coaching in recreational activities relating to arts, culture or sports.

(9) Services provided to an educational institution in respect of education exempted from service Tax by way of (a) Auxiliary educational services; or (b) renting of immovable property

(35) Services of public library by way of lending of books, publications or any other knowledge enhancing content or material.

(38) Services by way of public conveniences such as provision of facilities of bathroom, wash-rooms, lavatories, urinal or toilets.

(b)  Clause (l) of section 66E of Finance Act, 1994;

 “Services by way of –

(i) Pre-School education and education up to higher secondary school or equivalent.

(ii) Education as a part of a curriculum for obtaining a qualification recognized by any law for the tine being in force.

(iii) Education as a part of an approved vocational education course.

Hence the liability to collect and pay service tax depends upon provisions of service   tax law including the abovementioned provisions.

9. Application of income must be in India to claim exemption u/s 11,12,10(23C) etc. of Income Tax Act, 1961 :

The statement is partially correct since there is an exception in law itself in this regard. Sec-11 of Income Tax Act, 1961 states that “ 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, shall not be included in the total income of the previous year of the person in receipt of such income.

Although section 10(23C) doesn’t stipulates any such condition for use in India but considering the very purpose of exemption application must be in India itself.

However sec-11(1)(c) of Income Tax Act, 1961 stipulates that “Subject to provisions of sec 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 ;

Income derived from property held under trust –

(i) Created on or after 01/04/1952, for a charitable purpose which tends to promote international welfare in which India is interested to the extent to which such income is applied to such purposes outside India, and

(ii) For charitable or religious purposes, created before 01/04/1952 to the extent to which such income is applied to such purposes outside India.

Hence if the circumstances prevail, application may be outside India in compliance with provisions of section 11(1)(c) of Income Tax Act, 1961

10. Application of income means “expenditure solely attributable to charitable or religious activities :

Let’s get back to the example given in point no. 01. The expenditure side contains both the direct expenditure related to programs and other charitable activities performed and certain indirect expenses such as salaries office rent etc.

Here sometimes it is misunderstood that as application of income should be for charitable or religious activities to claim exemption u/s 11, 12, and 10(23C) etc, hence other indirect expenditure should not be treated as application of income for the concerned purpose.

The judgment given in “CIT Vs Birla Janhit Trust (1994) 208 ITR 372(Cal)” would be informative in this regard which states that “Expenditure on salaries and miscellaneous expenses for the purpose of carrying out the objects and purposes of the trust must be considered as application of Income. Accordingly while determining whether a particular expense is application of income or not due regard should be given to the nexus of expenditure with the objects of institution. Both either direct or indirect expense will be treated as application of income if it is incurred for the purpose of carrying out the object and purposes of the trust or institution i.e. Charitable or religious activities.

11. Exemption means exemption from every income :

Taxable income in the case of charitable and religious trust or institution can be assessed under all the four heads of income except salary head. Also it is normally construed that exemption u/s 11, 12, 10(23C) of Income Tax Act, 1961 is available in respect of entire income of such trust or institution. It is true also but there is an exception in section 11 itself by virtue of which certain capital gains becomes taxable in the hands of charitable trust pr institution subject to non fulfillment of certain conditions.

Accordingly whenever there is capital gain income in the hands of such trust or institution then it is appropriate to assess the exemption u/s 11 of Income tax act, 1961 after considering the provision of sec-11(1A), which provides exemption on the basis of extent of sale consideration utilized for acquisition of another capital asset to be applied for the same purposes for which former asset was being used.

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Category : Income Tax (20871)
Type : Articles (10813)
Tags : section 11 (73) section 12 (3) section 12a (60) Section 12AA (65) Trust (65)
  • CA. PARAMJIT SINGH SOIN

    Recently CPC has sent assessment order with applying MMR on voluntary contributions and interest earned on FDRs of a unregistered charitable society. can you please quote some case law for appealing in this case as not to apply MMR on unregistered NGOs

  • CA. PARAMJIT SINGH SOIN

    its very well written… i have a query.
    The taxation of unregistered charitable society (registered under societies act 1860)
    it has 7 members ; 6 are retired persons having pension of more than 500000 pa
    1 having business income of 1000000
    As per Trust deed none of the 7 members can withdraw any sort of amount from it
    No surplus can be withdrawn by any one and the cannot draw salary or any thing else

    interest on FDRs RS.150000
    voluntary donations Rs 75000
    spent for free meals to poor Rs 200000
    From above article its clear that taxable income is Rs 225000
    But (1) is it mandatory to file return( income less than taxable limit)
    (2) at what rate it will be taxed…is it individual rates or MMR

    As per above article individual rates are applicable….is it your own perception or is
    it based on some legal decided case laws…plz. elaborate

    • shubhashish shivam

      sir taxation of charitable organisation is governed by section 164(2) which itself says that
      “In the case of relevant income which is derived from property held under trust wholly for charitable or religious purposes, or which is of the nature referred to in sub-clause (iia) of clause (24) of section 2, or which is of the nature referred to in sub-section (4A) of section 11, tax shall be charged on so much of the relevant income as is not exempt under section 11 or section 12, as if the relevant income not so exempt were the income of an association of persons”
      Further MMR can be imposed :
      a) if sec- 167B becomes applicable but it specifically excludes societies. registered under societies rgst Act 1860
      b) if there is any contravention or non compliance of conditions prescribed for exemption or sec 13 comes into force.

      So if there is an organisation having wholly charitable purpose then tax shall be charged at slab rate. Refer sec 167B, 164(2), 13,11 12A

      • CA. PARAMJIT SINGH SOIN

        sHIVAM JI….. please quote some decided case law to substantiate
        The contention of Deptt. is that .
        1.merely registration of an entity under Societies Act 1860, does not make it charitable society for income tax purposes
        2.section 11 & 12A are not applicable to it

        shouldn’t we take the plea that beneficiaries are general public for whom free meals/medicines are arranged o/o collection
        its also written in byelaws that members will not draw anything o/o the income/collection of societ

  • Abhishek

    sir i have a query regarding the taxation of charitable trust…
    There is a unregistered charitable trust (registered under Bombay trust act but not under Income tax). The shares of members are not specified being a charitable trust. The said trust runs a sports & gym facility free of charge while it receives income in form of rent, a property in the name of trust is given on rent, its their only income source.
    Sir my query is whether it can avail the basic exemption limit while computing its income under IFHP?
    Or else MMR will be applicable as shares of members is not specified as per section 161(4)?

  • K AGARWALA

    under which sec should i get my education trust registered…sec 11 or 10(23c)..?..what will be the difference….?

  • Narinder Gupta

    Sir, How to Compute Income of a charitable Institution registered U/s 12A. Suppose Current year income is Rs. 10 Lacs and Unutilised amount B/f from Last Year is say Rs 5 Lacs.( Deemed application under sect 11(1) was Rs. 5 lacs).In current year income applied for charitable purpose is say Rs 3 Lacs. . Current year income is 5.5 Lacs ( i.e 85% of Rs RS 10 lacs Rs. 8.5 Lacs less Rs 3 Lacs applied.) or Rs.10.5 Lacs i.e Rs. 8.5 lac- Rs 3 lacs + Rs 5 lacs B/f)

  • rahul

    Audit of Charitable trust after due date is possibleor not? help will be much appreciated

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