Recent Supreme Court Verdict Mandated Tectonic Shift In Approach To Educational Institutions Availing Income Tax Exemptions Under Section 10(23C)
As per the provisions of the Income Tax Act, when an activity is identified as charity U/s 2(15), the income of that unit or entity shall be excluded from the ambit of taxation by virtue of section 10. The ‘Charitable Activity’ is defined under Section 2(15) which inter alia includes ‘education’
Further as per Sections 10(23C)(iiiab)/(iiiad)/(vi) of the Income Tax Act, Income of University or educational institution, existing solely for the purpose of Educational purpose and not for the purpose of profit, shall be excluded from tax liability.
Broadly, there are two key elements to be born in mind for what can be excluded from the ambit of taxation of the educational institutions:
i. That Institute should exist ‘solely’ for the purpose of Education and
ii. It should not exist for the purpose of profit
In this background, the Hon’ble Supreme Court in its recent judgement- in the case of M/s. New Noble Educational Society it has re-looked into the matter of the basic conditions to be satisfied by the educational institutions for availing Income Tax Exemption under Section 10(23C).
A, Restrictive Interpretation of the phrase – ‘Solely’ to deny tax exemption to educational institutions with multiple objectives:
In erstwhile judgments, the judiciary while determining whether an institution is engaged “Solely” for education or not, the court has considered its objects in broader manner by applying predominant test. The seeds of this ‘predominant test’ was evolved for the first time in Surat Art Silk Cloth Manufacture’s Association case [(1980) 2 SCC 31] which was rendered in the context of charitable organization having objects under “Advancement of any General Public Utility”. Subsequently, this theory of predominant test judgment was applied in the context of education by the Hon’ble Supreme Court in the cases of
A) American Hotel and Lodging Association v CBDT (2008) 10 SCC 509
B) Queens Education Society v Commissioner of Income Tax (2015) 8 SCC 47
No more pre-dominant test:
However, in the recent Supreme court judgement, the court has applied principles of literal interpretation and has chosen to ignore the contextual or purposive interpretation of statutes or other aides to discern the true meaning of the phrase “solely”.
The Supreme court has arrived at the said analogy by construing that the statue is clear and unambiguous. Accordingly, the plain and literal meaning of the phrase “solely” was arrived through dictionary meanings
|
Particulars |
Meaning |
| P.Ramanatha Aiyar Advanced Law LEXICON (6th Edition) | ‘Solely’ means exclusively and not primarily |
| Cambridge Dictionary (4th Edition) | ‘Solely’ to be “Only and not involving anyone or anything else” |
Based on the above interpretation, it is held that the requirement of the charitable, institution, society or trust etc. to “solely” engage itself in education or Educational activities, and not engage in any activity of profit, means that such institutions cannot have objects which are unrelated to education. In other words, all objects of the society, trust etc., must relate to imparting education or be in relation to educational activities.
Accordingly, the reasoning and conclusions in American Hotel (supra) and Queen’s Education Society (supra) so far as they pertain to the interpretation of expression “Solely” are disapproved in the recent Supreme Court verdict. The judgments are accordingly overruled to that extent.
B. No more all activities are incidental to education
The educational institutions directly or indirectly may engage in various incidental activities while imparting education for addressing their existing issues and for effective utilization of their infrastructure and manpower resources.
Now the question arises whether all such incidental activities engaged by the educational institutions are ‘incidental’ to education or not ?.
The reason for the said question is, since the seventh proviso to section 10(23C) refers to profits which may be “incidentally” generated or earned by the educational institution.
In other words, whether the reference to “business” and “profits” in the seventh proviso to section 10(23C) merely means that the profits of business which is “incidental” to educational activity ???? If so what are the activities that can be regarded as incidental to education?????
Prior to the above Supreme Court verdict, there are plethora of cases dealing with the interpretation of the phrase “incidental to education” while granting Income tax exemption to educational institutions which are discussed in detail as under:
|
S.no |
Particulars | Ratio of the Judgment |
| 1 | Providing of hostel facility | In Shree Ahmedabad Lohana Vidyarthi Bhavan v.ITO (2018) 2018 Taxpub(DT) 5354 (Ahd ‘D’- Trib) the Hon’ble Ahemdabad Tribunal has held that providing of hostel facility to students is an essential component of education institution and also an aid for attaining educational object, such activity would fall under purview of “education” as provided under section 2(15). The same analogy was also drawn in Anandram Jaipuria Educational Society v.Jt. CIT 2019 Taxpub (DT) 1478 (Del-Trib). |
| 2 | Providing of catering service | Similarly in Dy. CIT v. Wood Stock School (2019) 175 ITD 722 (Del ‘D’-Trib) the Hon’ble Delhi Tribunal has held that where assessee was providing boarding and lodging facilities and that were incidental to education, expenditure incurred on catering services was for purpose of education and assessee was not excluded from provision of section 2(15). |
| 3 | Income of education Institution from letting out of properties | Further, in CIT v. Jyothi Prabha Society (2009) 310 ITR 162 (Uttar) the Hon’ble Uttar Pradesh high court has held that when the assessee trust lets out its building to other societies for running educational institution and rental income is utilized for purpose of imparting education, the activity of letting out properties is for charitable purpose and assessee is entitled to exemption. |
| 4 | Utilization of Infrastructure for conducting training programs and Seminars
|
In CIT v. S. Joseph Technical School 2019 Taxpub(DT) 1250 (Bom-HC) the Hon’ble Bombay has held that when the main object of assessee-trust was to impart education and for better utilization of its infrastructure, if the trust has allowed the training programs to be conducted at its premises, the same could not be alleged that assessee had undertaken any commercial venture , so as to deny exemption. |
Observations in Recent Hon’ble Supreme Court Verdict:
|
As discussed earlier, for entitlement of Income Tax Exemption under Section 10(23C)(vi), the educational institution must exist solely for the purpose of education and not for the purpose of profit. The Seventh proviso, however, craves an exception and permits the educational institution to record profits, provided the business which has to be read as education or educational activity which is incidental to its objectives. In this regard reliance is placed on Delhi Cloth & General Mills Co Ltd v. Workmen & Ors 1967 (1) SCR 882 and arrived the meaning of the phrase “incidental” referred in the context of Section 10(23C)(vi) to mean – “something connected with the activity of education” The Supreme Court has also referred to a few activities’ incidental to education viz. sale of text books, providing school facilities hostel facilities and categorically denied few activities not incidental to education viz. Income of education Institution from letting out of properties and Utilization of Infrastructure for conducting training programs and Seminars. |
C. Not only examination of objectives but also audited financials can be sought by the approving authority while granting Income Tax Exemption U/s 10(23C)(vi):
Normally, while considering applications for approval under Section 10(23C)(vi), the commissioner or the concerned authority under the second proviso to Section 10(23C)(vi) is bound to examine the objects of the Institution. It is also pertinent to note that in American Hotel and Lodging Association v CBDT (2008) 10 SCC 509 case the Hon’ble Supreme Court suggest that the commissioner could not call for the records and that the examination of such accounts would be at the stage of assessment.
Similarly the Hon’ble Punjab and Haryana High Court in the case of The Commissioner of Income Tax (Exemptions) vs. Mahavir Jain Society ITA No. 231 of 2016 (P&H) held that audited financial statements was not mandated under provisions of Section 12AA read with Rule 17A of Income Tax Rules for granting of registration under Section 12A. Non furnishing of audited financials cannot be treated as consideration for refusing to grant registration to the assessee society u/s 12A. The relevant portion of the judgment is extracted as under:
“Audited Financial Statements are not relevant for establishing the fact whether the activities of the trust were genuine or not, which is not corroborated by the fact that even the provisions of the Income Tax Act 1961 do not require audited financial statements to be furnished, while seeking registration under Section 12AA. Rule 17A of the Income Tax Rules, 1962, lists the documents which should accompany the application. At point no. (b) of the Rules it is stated that ‘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 have been made up’ have to be submitted. Clearly as per the Rules, the requirement is furnishing of only the accounts of the trust or institution seeking registration and nowhere the word “audited” accounts have been used. Therefore the non-furnishing of audited financials cannot by itself be a criteria for holding the activities of a Trust of society as not being genuine and therefore refusing granting of registration under Section 12AA.”
Observations in Recent Hon’ble Supreme Court Verdict:
|
In the recent supreme court verdict, the Hon’ble Supreme Court held that to ascertain the genuineness of the institution and the manner of its functioning, the Commissioner or other authority is free to call for the audited accounts or other such documents for recording satisfaction where the society, trust or institution genuinely seeks to achieve the objects which it professes. The Commissioner or other authority is not in any manner constrained from examining accounts and other related documents to see the pattern of income and expenditure. |
D. Compliance with Obligatory State Laws
In the recent Supreme Court verdict it is also held that wherever registration of trust of charities is obligatory under state or local laws, the concerned trust, society , other institution etc. seeking approval under Section 10(23C) should also comply with provisions of such state laws. This would enable the Commissioner or concerned authority to ascertain the genuineness of the trust, society etc.
In brief the compliance with or registration under state laws are also relevant consideration which can be legitimately weigh by the Commissioner or other concerned authority, while deciding application for approval under Section 10(23C)
E. Applicability of the Present Judgment
Taking into consideration of larger interests of the Society, the Hon’ble Supreme Court opined that the ratio of the present judgment shall operate prospectively i.e.w.e.f.19.10.2022 and also sought to give time to educational institutions for making appropriate changes and adjustments in constitution of their entities who are likely to be affected by the departed ruling from the previous rulings regarding meaning of the term ‘solely’.
F. Way forward
In backdrop of this Land Mark Judgement of the Apex court, all Educational Institutions shall take a wakeup call and have a total relook into its spectrum of activities and carefully identify the income from activities solely for purpose of education and income from other incidental activities like conducting of seminars, training & vocational courses transportation fee, consultation & samples testing fee collections from local public/authorities, guest house rent& mess charges , conducting competitive examinations, Affiliation fee and all incidental services .They may have to operate separate commercial entity for all other activities which do not qualify to be solely for Education.
H. Conclusion:
Liberal interpretation of words and phrases used by statute book to be replaced with restrictive interpretation lest you run risk of loosing exemption and end up with huge Tax demands.
( the views expressed in this article are strictly personnel. The author of the article can be reached at caprudhvigst@gmail.com/shaasanam.blogspot.com)
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