High Court Clarifies Doctrine of Mutuality in Deloitte Touché Tohmastu Case

CIT, International Taxation Vs Deloitte Touche Tohmastu (Delhi High Court)

In a significant legal development, the Delhi High Court recently rendered a judgment in the case of CIT vs. Deloitte Touché Tohmastu that holds profound implications for the world of taxation. This landmark case centers around the doctrine of mutuality, an intricate concept that has been the subject of much debate and legal scrutiny. The case in question has not only clarified the principles associated with the doctrine of mutuality but also set a precedent for how it affects the taxation of entities involved in mutual associations.

In this comprehensive article, we will delve into the details of the CIT vs. Deloitte Touché Tohmastu case, providing an in-depth analysis of the key principles outlined by the Delhi High Court. Through this analysis, we aim to elucidate the doctrine of mutuality and its ramifications in the realm of taxation, shedding light on how this legal doctrine is applied and its significance for taxpayers and the broader legal landscape.

Deloitte Touché Tohmastu Case: A Synopsis

Before we embark on our detailed analysis, let’s provide a succinct overview of the case that serves as the focal point of this discussion.

Deloitte Touché Tohmastu is an international association comprising Chartered Accountant firms based in various countries. The case revolves around the assessment years 2008-09 to 2011-12, during which the association filed returns of income, declaring its income at nil. While the association adhered to the principle of mutuality, the tax authorities determined its total income in a manner that was contested. The dispute primarily stemmed from whether the receipts of the association from its members could be categorized as fees for technical services and thus subjected to taxation.

The Doctrine of Mutuality: Unpacking the Fundamentals

At the heart of the Deloitte Touché Tohmastu case lies the doctrine of mutuality, a concept deeply rooted in taxation law. This doctrine hinges on a fundamental principle – the idea that an individual or entity should not be allowed to engage in business with themselves. Underpinning this principle is the legal presumption that when the seller and buyer are essentially the same entity, there can be no profit motive associated with such a transaction. In such circumstances, any surplus or income remaining in the hands of this entity cannot be considered taxable under the law. Instead, taxation is applied to income or profit arising from transactions between distinct parties.

The doctrine of mutuality is a multi-faceted concept with several conditions that must be satisfied for it to be applicable. The following core conditions are integral to the application of this doctrine:

1. Common Identity: One of the fundamental criteria for the doctrine of mutuality to apply is the presence of a shared identity among the members of an association and those who participate in any surplus or benefits. It asserts that individuals should not contribute to a common fund without being entitled to partake as beneficiaries in the surplus. Inversely, no person should participate as a beneficiary without first being a contributor or a member of the class of contributors to the common fund.

2. Non-Profiteering: Mutuality requires that an association operates without a profit motive. All contributions should be directed toward achieving non-commercial objectives. In cases where there is a profit motive, the doctrine of mutuality is considered inapplicable. Therefore, an association’s operations should be centered around the well-being of its members rather than engaging in profit-oriented ventures.

3. Obedience to Mandate: The doctrine of mutuality mandates that an association should operate solely for the convenience and benefit of its members. Arrangements within the association should exhibit reciprocity and mutual understanding. Such arrangements should not feature the absolute discretion of one member over others, which would lead to unequal distribution of liabilities and benefits. Instead, all operations within the association should be guided by the collective mandate for the mutual benefit of its members.

Delving into the Deloitte Touché Tohmastu Case: Applying the Doctrine of Mutuality

Having established a solid foundation for understanding the doctrine of mutuality, let’s analyze how this doctrine was applied in the context of the CIT vs. Deloitte Touché Tohmastu case.

Common Identity:

The first condition for the application of the doctrine of mutuality is the presence of a common identity among the association’s members. The Delhi High Court found that in this case, there was no claim that any outsider had contributed to the mutual fund. As a result, there was a clear and shared identity between contributors and participants. All members were part of the closed circuit, ensuring a common identity.

In contrast, the case of Yum Restaurants (Marketing) Pvt Ltd vs. Commissioner of Income Tax, a precedent cited in the Deloitte case, involved an outsider, Pepsi Foods Ltd, who contributed to a mutual fund but did not participate as a beneficiary. The court ruled that this did not satisfy the common identity criterion. Therefore, the application of the doctrine of mutuality in that case was negated.

Non-Profiteering:

The second fundamental condition of mutuality is the absence of a profit motive. An association must operate without any profit-seeking intentions, and all contributions must be aimed at achieving non-commercial objectives. The core objective should be to benefit its members rather than to engage in commercial activities.

In the Deloitte Touché Tohmastu case, the court found that the association’s primary goal was to benefit its members by allowing them to be identified as members of the association. This identification assured their respective clients of certain standards and practices. The ultimate purpose was to benefit the member firms with the goodwill of the association, which they could leverage with their individual professional excellence. The focus was on shared information and expenses within the profession, not profit-oriented ventures. Consequently, the association’s operations did not exhibit any commercial intent, satisfying the non-profiteering criterion.

Obedience to Mandate:

The third condition of mutuality requires the association to operate solely for the convenience and benefit of its members. There should be a mutual understanding and arrangement among members to adhere to the mandate of the association for the collective benefit of all members. This arrangement should ensure that no single member holds absolute discretion over others.

In the case of Deloitte Touché Tohmastu, the Articles of Association established clear guidelines for member firms’ obligations. It outlined their responsibilities in alignment with the purposes and policies of the association. Furthermore, the Articles stated that members were bound by specific requirements and protocols established by the governing bodies. While allowing some flexibility to comply with local laws, the Articles emphasized that member firms should conduct themselves in a manner that advances the reputation of the association and the collective interests of its members. This aspect of the case clearly fulfilled the obedience to mandate criterion of mutuality.

Delhi High Court’s Ruling: The Three-Pronged Test of Mutuality

The Delhi High Court, after a meticulous examination of the facts and legal aspects of the Deloitte Touché Tohmastu case, rendered a judgment that significantly impacts the application of the doctrine of mutuality. The court’s ruling is a testament to the importance of adhering to the three key conditions of mutuality – common identity, non-profiteering, and obedience to mandate. Let’s examine the court’s judgment in detail.

Common Identity: The court ruled that the receipts of Deloitte Touché Tohmastu from its members did not qualify as fees for technical services. It emphasized that there was a complete identity between contributors and participants, as no outsider had contributed to the mutual fund. The shared identity among all members was a crucial factor in the court’s decision. Consequently, the first test of mutuality was deemed satisfied.

Non-Profiteering: The court meticulously examined the association’s objectives and operations, concluding that Deloitte Touché Tohmastu did not have a profit motive. The association’s primary purpose was to benefit its members, and all contributions were directed toward non-commercial objectives. The Articles of Association made it abundantly clear that the focus was on enhancing professional standards and practices, not on generating profits. Therefore, the second test of mutuality was deemed satisfied.

Obedience to Mandate: The court also reviewed how the association’s mandate was followed by its members. The Articles of Association provided clear guidelines for member firms’ obligations, ensuring that their actions and conduct were in alignment with the collective interests of the association’s members. This adherence to the mandate of the association for mutual benefit further affirmed the application of the doctrine of mutuality.

In conclusion, the Delhi High Court’s judgment unequivocally upheld the application of the doctrine of mutuality in the case of Deloitte Touché Tohmastu. All three tests of mutuality were deemed satisfied, leading to the court’s ruling that the association’s receipts from its members were not in the nature of fees for technical services. Consequently, these receipts were exempt from taxation under the principle of mutuality.

Implications of the Ruling

The judgment in the CIT vs. Deloitte Touché Tohmastu case carries substantial implications for the world of taxation and the treatment of mutual associations. The court’s clear and comprehensive application of the doctrine of mutuality has several far-reaching implications:

1. Clarity in the Application of Mutuality: The ruling provides much-needed clarity on the application of the doctrine of mutuality. Taxpayers and legal experts now have a well-defined set of criteria to determine when mutuality applies, ensuring consistent and accurate tax treatment in cases of mutual associations.

2. Protection for Non-Profit Entities: Entities established for non-profit purposes, like mutual associations, benefit from this ruling. As long as they meet the criteria of common identity, non-profiteering, and adherence to mandate, they can continue to enjoy tax-exempt status.

3. Legal Precedent: The judgment in this case sets a legal precedent for future cases involving mutuality. Courts and tax authorities can refer to this ruling as a benchmark for assessing the tax liability of mutual associations.

4. Guidance for Taxpayers: Taxpayers involved in mutual associations now have a roadmap for structuring their operations to meet the criteria of mutuality. This guidance can help them make informed decisions to ensure their tax-exempt status.

5. Global Implications: The ruling’s principles can apply to mutual associations beyond India. The concepts of common identity, non-profiteering, and adherence to mandate are universal, making this ruling relevant in a global context.

Conclusion: A Landmark Decision

The Delhi High Court’s judgment in the CIT vs. Deloitte Touché Tohmastu case has not only clarified the doctrine of mutuality but has also established a precedent that will significantly influence future cases involving mutual associations. The principles of common identity, non-profiteering, and obedience to mandate, as outlined by the court, offer a robust framework for assessing the application of mutuality in taxation.

This landmark decision not only ensures that entities adhering to the principles of mutuality continue to enjoy tax exemptions but also provides a guiding light for taxpayers, legal experts, and tax authorities in navigating the intricate terrain of mutual associations. As a result, it contributes to greater legal certainty and consistency in the world of taxation, ultimately benefiting both taxpayers and the broader legal landscape.

FULL TEXT OF THE JUDGMENT/ORDER OF DELHI HIGH COURT

These four appeals under Section 260A of the Income Tax Act brought by revenue to assail common order dated 11.04.2022 passed by the Income Tax Appellate Tribunal are taken up together for disposal on account of similar legal and factual matrix. These appeals registered as ITA 399/2022, ITA 402/2022, ITA 403/2022, and ITA 404/2022 pertain to Assessment Years 2008-09, 2009-10, 2010-11 and 2011-12 respectively. On issuance of notice, the respondent/assessee entered appearance through counsel. We heard learned counsel for both sides and perused the written submissions filed by them.

2. Briefly stated, circumstances leading to these appeals are as follows.

2.1 The respondent/assessee is an association (Verein), established in Switzerland, with its members being Chartered Accountant firms situated across the world. The respondent/assessee Verein filed returns of income for the concerned Assessment Years (2008-09 to 2011-12) declaring its income at nil; however, in the return of income for Assessment Year 2011-12, the respondent/assessee also claimed a refund of Rs.1,35,18,298/-.

2.2 The said returns of income having been selected for scrutiny, notices under Section 143(2) of the Act were issued to the respondent/assessee. By way of assessment orders dated 28.02.2011 (for assessment year 2008-09), 12.01.2012 (for assessment year 2009-10), 23.04.2013 (for assessment year 2010-11) and 23.05.2014 (for assessment year 2011-12) the total income of the respondent/assessee Verein were determined respectively as Rs.9,71,58,805/-, Rs.15,32,08,246/-, Rs.20,12,98,446/- and Rs.13,70,59,258/- by the Assessing Officer.

2.3 The respondent/assessee being aggrieved by the said assessment orders preferred appeals before the Commissioner, Income Tax. The said appeals of the respondent/assessee were allowed by CIT(A), observing that Verein is registered as not-for-profit entity under the Swiss laws and examination of records establish that the recoveries made by the respondent/assessee Verein from its members could not be held to be in the nature of trading receipts and the same stood covered by the concept of mutuality.

2.4 The first appeal filed by the appellant/revenue was dismissed by the Income Tax Appellate Tribunal, reaffirming that the Articles of Verein coupled with rest of the records established that Verein was functional on the principles of mutuality and consequently the money received by it in the form of subscriptions is not amenable to tax.

2.5Hence, the present appeal.

3. In the above backdrop, following solitary substantial question of law as proposed by learned counsel for appellant/revenue was framed:

“Whether the Tribunal erred in holding that the receipts of the assessee were not in the nature of fees for technical services and the same were exempt from tax on the principle of mutuality?”

After framing of the above substantial question of law, learned counsel for both sides kindly consented to address final arguments at this stage itself. Accordingly, we heard learned counsel for both sides.

4. Learned counsel for appellant/revenue contended that the impugned order is not sustainable in the eyes of law since the learned Tribunal failed to appreciate that the respondent/assessee was rendering specific services to its members and those services were being commercially exploited by the latter. It was argued on behalf of appellant/revenue that the so called subscription fee charged for the services rendered by the appellant/assessee to its members cannot be termed as contributions as the same was payment made by the members of the respondent/assessee in lieu of various services including information technology related services and thus the respondent/assessee was trading with its members and not trading with itself. It was further argued by learned counsel for the appellant/revenue that the respondent/assessee has been providing to its members a range of services including global wide area network, information security, software licenses etc, which services being technical services, the same were used by the members of the respondent/assessee to earn money and therefore, money paid by the members to the respondent/assessee was in the nature of fee for technical services, liable to be taxed since the members of Verein would not be in a position to perform their professional activities and earn profit, therefore, the principle of mutuality cannot be applied in the present case. Learned counsel for appellant/revenue placed reliance on the judgments in the cases titled Yum Restaurants (Marketing) Pvt Ltd vs Commissioner of Income Tax, (2021) 7 SCC 678 (SC); and Haryana State Co-op Labour & Construction Federation Ltd vs CIT, (2002) 122 Taxman 408 (P&H) and submitted that where members have no control over funds and they could not direct the remaining amount to be returned to them, principle of mutuality does not come into play.

5. Per contra, learned counsel for the respondent/assessee Verein supported the impugned order and contended that these appeals are completely devoid of merit. Learned counsel for respondent/assessee contended that the judicial precedents cited on behalf of the appellant/revenue are distinguishable. It was argued on behalf of the respondent/ assessee that Verein is a non-profit entity registered under Swiss laws and merely because its members contribute to its budgeted expenditure on the basis of their respective turnover does not alter the nature of the subscription into fee for technical services. Learned counsel for respondent/assessee took us through the relevant Articles and Regulations of Verein, showing that the respondent/assessee is an association of its members, managed by its members and providing services solely for the benefits of its members. Placing reliance on the judgments in the cases of CIT vs Bankipur Club Ltd, (1997) 5 SCC 394; Chelmsford Club vs CIT, (2000) 3 SCC 214 and Commissioner of Income Tax vs Common Effluent Plant (Thane Belapur) Association, (2010) SCC OnLine Bom 2042, learned counsel for the respondent/assessee strongly contended that the present case clearly stands governed by the concept of mutuality.

6. Thence, fulcrum of the present dispute being on the concept of mutuality, it would be apposite to briefly traverse through this doctrine. The doctrine of mutuality originated from the basic principle that an individual cannot engage into business with herself and it is deemed in law that if identity of the seller and the buyer is marked by oneness, then no profit motive can be attached to such a venture. On account of profit motive, excess of income over the expenditure or the surplus remaining in the hands of such venture cannot be regarded as income amenable to tax under law. For, it is the income or profit accruing to a person in his dealings with the other party which is taxable under law. Reference in this regard can be drawn from the apex court judgment in the case of Bankipur Club (supra). Plethora of judicial pronouncements including those cited by both sides in this case propound three basic conditions to test the existence of mutuality in a case. These conditions are element of commonality, element of non-profiteering and element of obedience to mandate.

7. Firstly, for applicability of doctrine of mutuality, there must be an element of commonality of identity between the members of the association and participators in the surplus. In this regard, the Hon’ble Supreme Court in the case of Yum Restaurants (supra) elucidated thus:

“18. Common identity – The first element involves the test of commonality of identity between the members or participators in the mutual concern and the beneficiaries thereof. Succinctly put, this limb of the three-pronged test requires that no person ought to contribute to the common fund without having the entitlement to participate as a beneficiary in the surplus thereof. Conversely, no person ought to participate as a beneficiary without first having been a contributor or a member of the class of contributors to the common fund. Common identity, as it occurs in the present context, signifies that the class of members should stay intact as the transaction progresses from the stage of contributions to that of returns/surplus. It must manifest uniformity in the class of participants in the transaction. The moment such a transaction opens itself to non-members, either in the contribution or the surplus, the uniformity of identity is impaired and the transaction assumes the taint of a commercial transaction. The emphasis on the words member and non-member is of import because the doctrine of mutuality does not prohibit the inclusion or exclusion of new members. What is prohibited is the infusion of a participant in the transaction who does not become a “member” of the common fund, on a par with other members, and yet participates either in the contribution or surplus without subjecting itself to mutual rights and obligations. The principle of common identity prohibits any one-dimensional alteration in the nature of participation in the mutual fund as the transaction fructifies. Any such alteration would lead to the non-uniform participation of an external element or entity in the transaction, thereby opening the scope for a manifest or latent profit-based dealing in the transaction with parties outside the closed circuit of members. It would be amenable to income tax as per Section 2(24) of the 1961 Act.”

(emphasis is ours)

In the said case, an outsider namely Pepsi Foods Ltd contributed to the common pool of funds but did not participate as beneficiary in surplus because it was not a franchisee of Yum Restaurants, therefore, the case was held to be not covered by the doctrine of mutuality.

7.1 In contrast, in the present case, it is nobody’s claim that any outsider contributed to the common pool of funds of Verein. In the case of Common Effluent Treatment Plant (supra), Bombay High Court observed thus:

“7. The principle of mutuality postulates that all the contributors to the common fund must be entitled to participate in the surplus and that all the participators in the surplus are contributors to the common fund. It is in this sense that the law postulates that there must be a complete identity between the contributors and the participators. The essence of the doctrine of mutuality lies in the principle that what is returned is what is contributed by a member. A person cannot trade with himself. It is on this hypothesis that the income which falls within the purview of the doctrine of mutuality is exempt from taxation”.

(emphasis is ours)

7.2 On this aspect, the case of Haryana State Co-op (supra) cited on behalf of the appellant/revenue is distinguishable insofar as in the said case the concerned assessee co-operative society was under no obligation to return the funds to the contributors, so it was not extended benefit of the doctrine of mutuality.

7.3 In contrast, in the present case, as reflected from various Articles of Verein, it has been established with domicile in Zurich, Switzerland and consists of members that are Chartered Accountant firms engaged in rendering professional services in the fields of accounting, audit, insolvency, law, management, consulting etc. There are elaborate provisions in the Articles of Verein which prescribe the duties of member firms to Verein and vice versa as well as obligations of member firms to each other. Article 7 of the Articles of Verein deals with the manner and the extent of collection of contributions from member firms towards budgeted operating expenses of Verein. Article 11.1 deals with dissolution of Verein if a resolution to that effect is adopted by the member firms. Article 11.2 meticulously stipulates distribution of surplus and liabilities of Verein in case of dissolution. Sub-Article (b) of Article 11.2 contemplates payment of surplus to each member firm in the proportion to its allocated contribution to budgeted operating expenses of Verein for the then fiscal year.

7.4 Merely because members of Verein are able to avail various technological services and license to use goodwill of Verein, their contributions cannot be regarded as quid pro quo. The Articles of Verein clearly show that all member firms of Verein come together and contribute to a common fund for achieving common objectives, which objectives qua Verein are non-commercial objectives and that all member firms contribute towards budgeted operating expenses of Verein and are entitled to proportionate share in the surplus lying with Verein in case of dissolution. Nothing in the Articles of Verein even feebly indicates any commercial nexus between the contributions and benefits enjoyed by its member firms.

7.5 There is, thus, a complete identity between contributors and participants. Consequently, the first test of mutuality stands satisfied.

8. The second test of mutuality is non-profiteering. As held in the case of Yum Restaurants (supra), the mutuality and non-profiteering character of the concern are to be determined in the light of its actual working structure; and the factum of corporation or incorporation or the firm in which it is clothed is immaterial. Therefore, one has to examine the actual framework of the Verein vis a vis its member firms.

8.1 Article 1.2 of the Articles of Verein show that the Verein was established for specific purposes mentioned in the articles. Those articles do not reflect even iota of element of commerciality between the members themselves or between the members and the Verein or between the Verein and any outsider. Article 7.5 contemplates that Verein shall not provide services to clients or direct or control the manner in which each member firm provides audit or other services to its clients and the Verein shall not share profits and losses of the member firms. Read in entirety, the Articles of Verein clearly convey that it is formed for the benefits of the members by allowing them to be identified as members of the Verein so as to assure their respective clients of certain standards. The ultimate object of Verein is to benefit its member firms with the goodwill of the Verein as a whole, to which they add with their individual professional excellence on the basis of shared information and expenses in the field of their profession. Thus, the sole objective of the Verein is to benefit its members in lieu of subscription to evolve better professional practices.

8.2 That being so, non-profiteering, the second test of mutuality also stands satisfied.

9. The third test of mutuality is obedience to the mandate of the association for convenience and benefit of its contributors and participators. The expression “mutuality” flows from the expression “mutual”, which indicates reciprocity of arrangement in which the concerned parties have reciprocal rights or understanding or arrangement to abide by the mandate of the group for benefit of other members. And such arrangement is unlike an arrangement in which one member would be subjected to the absolute discretion of another in such a manner that the entire liability may fall upon one whereas benefits are reaped by all or all others. In a mutual concern, an obligation to pay may or may not be there but at the same time, an over ridding discretion of one member over others cannot be sustained in order to preserve the real essence of mutuality. In other words, the association created should operate only for the convenience and benefit of its members.

9.1 Article 6.2(a) of the Articles of Verein mandates that in addition to all obligations, each member firm under the Articles, the supplemental regulation or otherwise shall support and adhere to the purposes and policies of the Verein; align national plans, strategies and operations with global plans strategies and operations in consultation with Verein Management; conduct itself in such a manner as to advance the reputation of the Verein; be bound by the requirements contained in resolution and protocols adopted by the Board of Directors or the governing bodies consistent with the Articles of Verein and supplemental regulations qua professional standards and methodologies, governance of the Verein and systems for quality control and risk management and other matters specified in or pursuant to the supplemental regulations. Article 6.2(b) stipulates that if due to local laws, any member firm is unable to comply with any of the provisions of the Articles or supplemental regulations or any other obligation undertaken in connection with membership of Verein it shall promptly inform the Verein of the particulars so that Verein may waive compliance or establish alternate requirement.

9.2 Thus, third test of mutuality also stands satisfied in the present case.

10. All three tests of mutuality having been satisfied as aforesaid, we are of the considered view that the receipts of the respondent/assessee Verein from its members were not in the nature of fees for technical services and that the same were exempt from tax having regard to the principle of mutuality. Accordingly, the substantial question of law framed above is answered in favour of the respondent/assessee and against the appellant/revenue. The order dated 11.04.2022 of the Tribunal, impugned in the present appeals is upheld and accordingly, the appeals stand disposed of.