Interest-Free Loans to Charitable Trusts Do Not Deny Sections 11 & 12 Exemption: ITAT Delhi

Society For Human Transformation And Research Vs ITO (ITAT Delhi)

Delhi ITAT: Interest-Free Loans to Registered Charitable Institutions Do Not Per Se Violate Sec 13; Sec 40A(2)(a) Cannot Tax Notional Interest – Sections 11 & 12 Exemption Restored

The Delhi ITAT allowed the charitable society’s appeal and directed restoration of exemption under Sections 11 and 12, deleting the disallowances arising from advances to related charitable entities and donations made to other registered trusts.

The AO noticed that the assessee had advanced substantial amounts to persons/entities specified under Section 13(3), some interest-free and one at 8%, while the assessee itself had borrowed funds at 12–13%. The AO notionally computed interest at 12.5%, made an addition of ₹1.64 crore under Section 40A(2)(a) and, alleging benefit to specified persons, denied exemption under Sections 11 and 12.

The ITAT found that the advance of ₹37.37 lakh to Divine Realbuild Pvt. Ltd. was made pursuant to a construction agreement for the society’s college building. There was no allegation or material showing that any specified person derived personal benefit, nor any finding that the contract was overpriced or not at arm’s length.

As regards advances to the other three entities, the Tribunal noted that they were themselves registered charitable institutions under Sections 12A and 80G. Merely because specified/common persons were connected with both institutions did not establish diversion of charitable funds for private benefit. Relying upon DIT v. Acme Educational Society (326 ITR 146, Delhi), the ITAT reiterated that an interest-free temporary loan by one charitable society to another having similar objects does not, merely because of common related persons, become an investment or deposit attracting Section 13(1)(d).

Importantly, the Tribunal held that Section 40A(2)(a) deals with excessive or unreasonable expenditure paid to related parties; it cannot be invoked to make an addition for notional interest which the assessee allegedly ought to have earned. Here, the actual interest expenditure was paid to banks, which were admittedly unrelated parties. Therefore, invocation of Section 40A(2)(a) and consequential denial of Sections 11 and 12 exemption were unsustainable.

On the separate disallowance of ₹80.91 lakh towards donations, the ITAT noted that the assessee claimed actual donations were ₹72.90 lakh and the balance represented scholarships. It held that there is no prohibition against application of income by way of donation to another trust where the recipient is engaged in charitable activities and is duly registered.

Accordingly, the entire appeal was allowed, the impugned disallowances deleted, and the AO was directed to grant the assessee the benefit of Sections 11 and 12.

Cases Discussed

• Director of Income Tax Vs. Acme Educational Society (Delhi High Court), (2010) 326 ITR 146 (Delhi)
• DCIT Exemption Circle, Ghaziabad Vs. M/s Divya Yog Mandir Trust, ITA No. 5612/De/2015
• Director of Income Tax Vs. Alarippu (Delhi High Court), (2000) 111 taxman 511 (Delhi)
• CIT Vs. Sarladevi Sarabhai Trust (Gujarat High Court), (1988) 172 ITR 698 (Guj)

FULL TEXT OF THE ORDER OF ITAT DELHI

This appeal preferred by the assessee against the order dated 26.09.2025 of Ld. National Faceless Appeal Centre (NFAC) Delhi, (hereinafter referred to as the First Appellate Authority or ‘the ld. FAA’ for short) in DIN & Order No: ITBA/NFAC/S/250/2025-26/1081201889(1) arising out of the assessment order dated 02.02.2021 u/s 143(3) r.w.s 144(3A) and 143(3B) the Income Tax Act, 1961 (hereinafter referred to as ‘the Act’) passed by National e-assessment Centre, for AY: 2018-19.

2. Heard and perused the records. The assessee’s return was picked up for scrutiny assessment and based upon queries raised AO found that in Form 10B transactions with persons specified u/s 13(3) of the Act are mentioned which includes following payments:

3. The assesse was asked to explain the same. Further AO found from the books of accounts that the assesse has raised huge secured loan @ interest rate 12% to 13% and interest expenses (net) Rs.80,34,371/- has been charged and above amounts of loans and advances to the persons specified u/s 13(3) of the Act were given without any interest and whereas it was claimed that interest of Rs.1,59,31,000/- @ 8% had been received from M/s Divine International and the same has been reduced from the interest paid on loan taken and net interest of R.80,34,371/- has been claimed as expenses in the income & expenditure account. The AO observed that interest rate is not justified and the 12.50% rate as per SBI lending rate was reasonable rate to be charged by the assesse from the related parties as on the same rate assesse is paying interest of loan taken by them. Accordingly, addition u/s 40A(2)(a) of the Act was made and as specified persons of the trust were given undue advantage benefit of exemptions u/s 11 & 12 of the Act r.w.s 164(2) of the Act were denied.

3.1 Then, ld. AO examined the donations of Rs.80,91,000/- and claimed that the same not allowable as expenses u/s 37 of the Act as there is no certificate of 80G of the parties to whom such donations has been paid by the assesse.

3.2 Ld. CIT(A) has sustained the additions with the following relevant findings in para 10.2 to 11.3:

“10.2 During the course of appellate proceedings, it is submitted that addition of the amount of interest not charged or less charges Rs. 1,64,90,055/- u/s. 40A(2)(a) is also an apparent mistake as the said section is applicable while computing income from business or profession which is not the case of assessee as computation sheet enclosed with the assessment order by ld. AA is showing income from business or profession as Zero.

10.3 I have gone through the assessment order and the submissions of the appellant. The AO observed that the assessee society has given the loan and advances to the concerns in which specified persons of the trust has substantial interest. No interest has been charged by the assessee as evidenced by the asessee themselves whereas assessee had taken substantial amount as interest bearing loans on which huge amount of interest has been paid by the assessee and claimed as expenses in income & expenditure account. There is a direct benefit extended by the assessee society to the specified persons u/s. 13(3) of the I T Act. In the assessment order the AO held that the assesee in its reply has failed to explain and justib, Divine International genuineness and reasonableness’ of receipt of interest on loan and advance @ 8% amounting to Rs. 1,59,31,000/- in the light of sec. 13(1)©(i) and 13(2)(g) r.w.s. 13(3) of the I T Act. The AO held that less interest charged by the assessee amounting to Rs. 1,64,90,055/- is unreasonable on account of benefit provided to the specified person from the trust property and contrary to provisions of sec. 13 of the I T Act. All the related parties as accepted by the assessee are the specified persons. The benefit in the form of interest provided to it further hit by section 13(2)(g) . The explanation of the appellant fails to justify the benefit provided to specified persons thereby committing violation within the meaning of provisions of sec. 13(1)(c) r.w.s. 13(2) as payment of interest from the income or property of the trust to the specified person is not justified. Under the circumstances and in view of the above, I have no reason to interfere with the decision of the AO and hence the addition of Rs. 16490055/- is upheld. Ground No. 5 of this appeal is dismissed.

11.0 Ground No. 6 of the appeal is denial of the donations of Rs. 8091000/- for non furnishing of certificate u/s. 80G which was not called for during the scrutiny proceedings.

11.1 As per the assessment order, since the assessee is assessed as AOP and the donation of Rs. 80,91,000/- is not allowable as expenses expenditure u/s. 37 of the I T Act, 1961 and no certificate of 80G of the parties to whom such donation has been paid.

11.2 During the year assessee has paid scholarship and donations. The donations are given only Rs. 72,90,000/- and not Rs. 80,91,000/- and therefore addition made need to be corrected. Copy of the registration certificates u/s. 12A and 80G of the following 3 trusts / societies are enclosed. Donations by one society to another society registered u/s. 12AA and 80G is not a violation of section 13(1)(c) and exemption cannot be denied.

11.3 I have gone through the submissions of the appellant. The Finance Act 2017 amended section 11 of the Income tax Act, 1961 with effect from the A.Y. 2018-19 by adding explanation 2 to section 11(1) of the Act stating that any contribution by a charitable or religious trust or institution to any other trust or institution registered under sec. 12AA of the Act, with a specific direction that it shall form part of corpus of recipient trust / institution shall not be treated as application of income under sec 11 of the Act for the donor trust / institution. A charitable trust cannot make a corpus donation to another charitable trust and it shall not treated as application of funds u/s. 11 for the donor trust. Under the circumstances, the disallowance made by the AO of Rs. 80,91,000/- is upheld and the ground No. 6 of the appeal is dismissed.”

4. The assesse is in appeal and has raised the following grounds:

1. That on facts of the case and in law, the order passed by NFAC is erroneous and bad in law.

2. That on facts and circumstances of the case and in law, the Ld. CIT(A) erred in sustaining the action of the Ld. AO in computing the income of the appellant at Rs 2,60,31,637 as against returned income of Rs. Nil.

3. That on facts and circumstances of the case, the notice issued under section 143(2) of the Income Tax Act, 1961 is not in specified format and any defect therein goes to the root of assessment proceedings and therefore, the assessment framed in the case of assessee is bad in law and liable to be quashed.

4. That on the facts of the case and in law, Ld. CIT(A) erred in sustaining the action of Ld. AO of concluding that the appellant committed violation within the meaning of the provision of section 13(1)(c), 13(2)(c),13(2)(g) read with 13(3) of the Income Tax Act.

5. That on facts of the case and in law, Ld. CIT(A) erred in sustaining the action of the Ld. AO in erred in denying the benefit section 11 and 12 to the entire income of the appellant.

6. That Ld. CIT(A) erred in sustaining the action of Ld. AO in adding unreasonable receipt of interest Rs. 1,64,90,055/-as income invoking section 40A(2)(a) which deals with expenses not deductible in certain circumstances and that the 3 parties to whom the loans were given were registered u/s 12AA and 80G.

7. That Ld. CIT(A) erred in sustaining the action of Ld. AO in disallowing of donations given to a charitable society registered u/s 12AA and 80G worth Rs. 80,91,000/- for non-furnishing of certificate u/s 80G which was not called for during the scrutiny proceedings by wrongly invoking section 37 of the Act.

8. That the Ld. CIT(A) erred in sustaining the action of Ld. AO in levying interest under section 234B, 234D and 234A.

9. That on facts of the case and in law, Ld. CIT(A) erred in sustaining the action ofLd. AO in initiating penalty under section 270A of the Income Tax Act, 1961.

10. That the above grounds are without prejudice to each other.

11. The appellant craves leave to add/amend/alter/delete any of the grounds of appeal and to submit such statements, documents and papers as may be necessary either before OR during the appeal hearing.

5. We have heard the rival contentions and perused the material on record and primarily ld. Representatives of both sides have relied their respective cases as contested before ld. Tax authorities below. Now, with regard to ground No. 6 we find that assessee’s case before ld. Tax authorities was that vide an agreement dated 08.03.2013 copy of which is available at page No. 36-42, of the paper book assesse had engaged in Devine Real build Pvt. Ltd. to execute a work of construction of the DSPSR College building and the advance was given in ordinary course of carrying out of construction activity. The project was completed in F.Y. 2018-19 and completion cum occupation of certificate was received in the year 2020 from the North Delhi Municipal Corporation. Now, going through the impugned order we find that there is no allegation or material to demonstrate that any specified person has derived any personal benefit from the said advance. Specially that contract was over priced or not at arms’s length.

6. Then, with regard to other 3 entities M/s Divine International, M/s Divine Educational and Dr. B.P. Singh Public Charitable Trust, assesse has claimed that these 3 entities are duly registered charitable institutions u/s 12A and 80G of the Act. Thus, where the impugned transactions of alleged loan are with entities and institutions which themselves are registered u/s 12A and 80G, it was questionable as if any direct or indirect benefit is extended to specified persons who may be the members of such institutions. There appears to be no justification to allege that these transactions would lead to diversion of charitable fund for private benefit. Our attention has also been drawn to the decision of Hon’ble Delhi High Court in the case of Director of Income Tax Vs. Acme Educational Society (2010) 326 ITR 146 (Delhi) wherein Hon’ble High Court has held that advancing of interest free temporary loan by one society to another society having similar objects would not amount to an investment or a deposit attracting Section 13(1)(d) of the Act only for the reason that there is some related party are common to the two institutions. Similar has been the proposition of law propounded in Director of Income Tax Vs. Alarippu (2000) 111 taxman 511 (Delhi).

7. Furthermore, as we go through the impugned order we find that AO has invoked provision of Section 40A(2)(a) of the Act whereby disallowance has been made by attributing an allegation of unreasonable receipt of interest alleging that assesse should have charged interest amounting to Rs.4,67,112/- on outstanding balance of Rs.37,36,900/- from M/s Divine Real Build Pvt. Ltd. and Rs.60,53,279/- on outstanding balance of Rs.4,84,26,233/- from M/s Divine Education Trust and Rs.88,100/- from outstanding balance of Rs.7,04,874/- from M/s Dr. B.P. Singh Public Charitable Trust and accordingly had benefitted the related parties by total interest of Rs.1,64,90,055/-.

8. However, the provision of Section 40A(2)(a) of the Act makes taxable by way of disallowance expenditure incurred in the course of business or profession where such expenditure is paid to related parties and is found to be excessive or unreasonable. In the present case the assesse has incurred expenditure by way of interest paid to banks on loans obtained from such banks which are admittedly not related parties. Thus, invocation u/s 40A(2)(a) of the Act and denial of the benefit of Section 11 & 12 is not sustainable.

9. Thus, corresponding ground No. 6 along with 4 & 5 deserves to be sustained in favour of the assesse.

10. Ground No. 7 arises out of disallowance of Rs.80,91,000/- being donation made by appellant to other entities which are claimed to be also entities holding Section 80G certificate. In this context, the case of assesse is that incurred donations were only Rs.72,90,000/- and the balance pertain to scholar ships granted by the assesse which are in the nature of application of income for charitable purposes. Then, at page No. 30-35 documents supporting 80G and 12A of the recipient trust have been provided and at page No. 106-111 of the paper book copies of receipt of donation have been provided. There is no prohibition under the Act against such application for fund provided recipient trust is also engaged in charitable activities and is duly registered. In the present case both these conditions has been complied. Reliance in this regard is placed in the decision of Hon’ble Gujarat High Court in CIT Vs. Sarladevi Sarabhai Trust (1988) 172 ITR 698 (Guj) and the Coordinate Bench decision in the case of DCIT Exemption Circle, Ghaziabad Vs. M/s Divya Yog Mandir Trust vide ITA No. 5612/De/2015. In the light of aforesaid state of affairs as discussed we are inclined to sustain ground No. 7.

11. As a consequence of aforesaid discussion, the remaining grounds become academic or are otherwise general in nature. Consequently, we allow the appeal. The impugned disallowances are deleted and ld. AO is directed to extend the benefit of Section 11 & 12 of the Act to the assesse.

Order pronounced in the open court on 07.08.2026.