Summary: The Income Tax Appellate Tribunal (ITAT) Delhi has decided in favour of Educate India Society, restoring its exemption under Sections 11 and 12 of the Income Tax Act that had been withdrawn by tax authorities for paying allegedly excessive interest to persons specified under Section 13(3). The Assessing Officer had denied the exemption on grounds that interest paid on unsecured loans to related parties exceeded prevailing bank rates, suggesting a violation of Section 13(1)(c) and 13(2). However, the ITAT, after considering the Society’s financial constraints and industry norms, held that such payment was justified and not meant to confer undue benefit. The Tribunal also emphasized that only the income portion used in violation of Section 13 is taxable at the maximum marginal rate, not the entire income of the trust.
Facts of the Case
Educate India Society, registered under the Societies Registration Act, 1860 and registered u/s 12A and 80G(5)(vi), manages educational institutions in affiliation with MD University and formerly sponsored North Cap University. The Society faced substantial capital requirements in the year 2012-13 to expand built-up area and infrastructure to meet UGC norms following an increase in student intake. Due to consistent deficits, limited assets, and insufficient collateral, traditional bank financing was difficult. Resorting to unsecured loans from both banks and related parties, the Society ended up paying higher rates (15-19% to related parties versus 12% to Kotak Mahindra Bank). The Assessing Officer, on observing interest to related parties at higher-than-market rates, held there was a violation of Section 13(2) and Section 13(1)(c), denied exemption u/s 11 and 12, and taxed the entire income at maximum marginal rate.
Arguments Made
Before the ITAT, the Assessee’s counsel, argued that the higher interest payments reflected not an intention to provide undue benefit but the society’s genuinely difficult financial position and commercial reality. She explained that, due to sustained operational deficits, lack of adequate secured assets, and urgent need to comply with UGC infrastructure requirements in line with academic expansion, bank financing was either insufficient or unavailable. As a result, loans from specified persons and other private parties were not only unsecured, but also attracted higher risk and therefore higher interest—conditions matching those offered by non-banking finance companies in the same period. The Assessee emphasized that such arrangements were accepted as reasonable in earlier years’ assessments and—invoking the rule of consistency—argued that the Revenue had not established any illicit intent or collusion. The defense further referenced industry practice, supporting documents, and a comparative rate chart showing that rates paid to related parties were similar (or even less) than those available from unrelated lenders. Citing various case laws, the Assessee asserted that higher rates on unsecured loans are standard commercial practice and do not automatically attract denial of exemption.
Decision of ITAT
The Tribunal analysed both the financial circumstances of the assessee society and the legal framework governing charitable trusts’ dealings with specified persons. After taking in to account the urgent capital requirements to expand infrastructure to meet UGC mandates—necessitating significant, immediate borrowings at a time when deficit-ridden finances and inadequate collateral ruled out sufficient bank loans, the Tribunal noted that the Assessing Officer and Commissioner (Appeals) had been swayed exclusively by the apparent excess of interest rates, without probing the actual commercial necessity, market comparables, or the true intent and benefit to the Society.
The ITAT, after examining the submissions and evidence, accepted that the unsecured loans were availed due to operational urgency. It endorsed the assessee society’s contention regarding the payment of higher interest rates on such loans compared to secured bank borrowings. The Tribunal further held that if any portion of the income is found to be applied in violation of Section 13 of the Income Tax Act, only that specific amount shall be taxed at the maximum marginal rate, and not the entire income of the trust.
Importantly, the Tribunal found that the Revenue had not discharged its burden of proof to establish that the interest rates paid were, in fact, excessive in the given market context or intended as undue benefit to related parties. The ITAT also noted past precedents in the Society’s own case (Assessment Year 2015-16) in which similar payments were accepted after scrutiny, thus invoking the doctrine of consistency.
In conclusion, the ITAT held that the loans and interest payments arose from bona fide commercial necessity, not collusion or personal gain. Finding no deliberate violation of Section 13(1)(c) or 13(2), it set aside the tax authorities’ orders, restored the trust’s exemptions under Sections 11 and 12, and ruled that only any part of the income actually found to be in violation—not the whole—would in law ever be subject to maximum taxation, which was not the case here.
Author Bio
