TDS – Section 194A : A Dilemma For Co-Operative Societies

The role of Co-operative banks and the Credit Co-operative societies in fulfilling the credit requirements of Indian economy can hardly be overemphasized. They have catered to the credit needs of deserving borrowers. Sec 194A which provides for deduction of interest other than interest on securities has been subject to constant amendment leading to Pandora’s Box of litigation. The scope of Sec 194A has been recently widened by Finance Act 2020, thereby increasing the confusion among the co-operative societies. The Author tries to analyze the effect of this recent amendment on the co-operative societies with special emphasis on the co-operative societies registered under the Maharashtra Co-operative societies Act, 1960.

Sec 194A provides for deduction of tax on the interest other than interest on securities. Clause (v) of subsection (3) provides for exemption for deduction of TDS from interest paid by one co-operative society to another.

It can be seen that Sec 194A has been subject matter of continuous amendment right from its insertion by Fin Act 1967. Broadly speaking it can be said that the amendments till 1971 were beneficial in nature and were providing exemptions from TDS to co-operative societies. However, after Fin Act 1991 there was a shift in paradigm and TDS provisions are being continuously made more and more stringent in respect of co-operative societies. Sec 194A has been further Amended by Fin Act 2020. After the amendment by Finance Act 2020, TDS has to be deducted u/s 194A by a co-operative society having gross receipts exceeding Rs 50 Cr in case of payment of interest to its members and also to other co-operative societies irrespective of the fact that whether it is engaged in the business of banking or not.

Sec 194A(3)(iiia) provides exemption for deduction of TDS in respect of payment of interest made to co-operative society engaged in carrying on the business of banking. The Cardinal point for consideration is as to what is the scope of the term co-operative society engaged in carrying on Banking Business. We can divide the co-operative society into three broad categories; the Co-operative societies carrying on business of banking, the co-operative societies providing credit facilities to its members and other co-operative societies .The term banking business has not been defined under the act. In such a case, it is safe to borrow the definition of Banking from Sec 5(b) of the Banking Regulation Act. As per definition the distinguishing feature for carrying on the business of banking is accepting deposits from general Public as opposed to accepting deposits from members. That is to say, if the co-operative society accepts deposits only from its members it is a co-operative society engaged in providing credit facilities to its members whilst if it is accepting deposit from general public it is a co-operative society engaged in a banking business. In any case, if the co-operative society has received a banking license from RBI, or it fulfills the condition as laid down in Sec 5(ccv) of the Banking Regulation Act, it shall be considered as engaged in the business of banking.

Let us take into consideration the recent judgments of Kerala High Court which is directly on the point

Chirayinkeezhu Service Co-operative Bank Ltd. v. Central Board of Direct Taxes (2019) 112 taxmann.com 272(Kerala)

The issue for consideration before the Honorable kerala High Court was whether Primary Agricultural Credit Societies registered under the provisions of the Kerala Co-operative Societies Act 1969 is eligible for benefit of non deduction of TDS as specified in Sec 194A(3)(iii)(a).

The HC after considering the submissions of the parties held as under vide Para 8

“Part V of the Banking Regulation Act comprises of Section 56 which deals with the circumstances, when the Act will apply to Co-operative Societies subject to modifications. The said Part also defines the terms “Co-operative Credit Society,” “Primary Agricultural Credit Society”, “Primary Credit Society” and “Primary Co-operative Bank”. It can be seen from a comparison of the definitions referred above that there is a distinction made between societies, the primary object and principal business of which is to provide financial accommodation to its members in connection with various activities, and those societies, the primary object and principal business of which, is the transaction of banking business. When viewed against the back drop of the definition of banking noticed above, it is apparent that it is the criteria of accepting deposits of money from the public, as opposed to members of the society, that serves to categorize a Co-operative Society as one engaged in the business of banking. In my view, in the absence of a definition of “banking” under the Income Tax Act, it would be safe for this Court to adopt the definition of “banking” as contained in the statute that regulates the business of banking in our Country, for the purpose of interpreting the word “banking” and the phrase “business of banking” under the Income Tax Act. On such an interpretation, the benefit of exemption under Section 194A(3)(iii)(a) would apply only when the interest income in respect of deposit made with the treasury accrues/arises to a co-operative society engaged in carrying on the business of banking, which in turn involves acceptance of deposits from the public, and not merely from its own members. In the instant writ petitions, there is no material that would suggest that the writ petitioner societies are engaged in carrying on a business that involves accepting deposits, for the purposes of investment or lending, from public as opposed to their own members. I therefore, find that in respect of the interest income earned on deposits made by the petitioners societies with the Treasury, the circulars issued by the Treasury department, based on like instructions received from the Income Tax Department, directing the deduction of tax at source on such interest income payments, cannot be legally faulted. The challenge in the writ petitions to the said circular issued by the Treasury Department is therefore rejected.”

Let us also take into consideration some judgments which have been rendered in the context of eligibility for deduction under section 80P. The question before the Honorable court was as to which co-operative societies are to be classified as co-operative Bank denying them deduction u/s 80P.

 The Citizen Co-operative Society vs ACIT (SC) 397 ITR 1

The issue for consideration before honorable Supreme Court was whether the assessee is eligible for deduction u/s 80P.  Supreme Court held that the Society cannot be considered as co-operative bank as it does not have any Banking license from RBI. However, the SC further observed that the society had two categories of members ordinary members and nominal members. The assessee used to accept the deposits from nominal members which were made with an intent to maximize return, and a portion of this deposits was advanced as a loan to the ordinary members. Hence the activities of the assessee were akin to that of finance business rather than a co-operative society. Loans were also granted to general public. With such activities the assessee has made a violation of co-operative societies Act.  Hence, it was held that it was not eligible for deduction u/s 80P.

The above decision was rendered in the context of the co-operative societies governed by the Mutually aided Co-operative Societies Act, 1995 (MACSA). Hence, the ratio of the decision would be applicable only in case of co-operative societies governed by the aforementioned Act.

The Supreme Court in the given case went beyond the registration granted and analyzed the actual working of the co-operative society. The deduction was denied as it violated the provisions of MACSA and was working on commercial principles

Quepem Urban Co-operative Credit Society Ltd vs ACIT,(Bom) 377 ITR 272,

The issue involved in this case was whether the co-operative society registered under the Goa Co-operative Societies Act was eligible for deduction u/s 80P. The HON’ HC in this case decided the issue by taking recourse to three conditions as specified in sec 5(ccv) of the Banking Regulation Act

(1) Its principal business or primary object should be banking business of banking;

(2) Its paid up share capital and reserves should not be less than rupees one lakh.

(3) Its bye-laws do not permit admission of any other co-operative society as its member.

As two out of above three conditions were not satisfied it was held that the co-operative society was not a co-operative Bank and hence it is eligible for deduction u/S 80P. However, after considering that the society had dealings with non-members directed to limit the deduction to dealing with members.

This decision was rendered while dealing the society registered under Maharashtra State Co-operative Societies Act, 1960. The Maharashtra Co-operative Societies Act, 1960 does not make any distinction between an ordinary member and a nominal member. Sec 2 of The Maharashtra Co-operative Societies Act, 1960 which defines a member takes within its sweep even a nominal/sympathizer/associate member. Hence, the ratio of Citizen Co-operative society would not be per se applicable in the case of co-operative Societies Registered under Maharashtra Co-operative Societies Act, 1960. Though this judgment was rendered prior to Citizen Co-operative society (Supra) it has been consistently followed by the Hon Bombay High Court in its subsequent Judgments ( Pr CIT vs Goa PWD Staff  Co-op Credit Society LTD (2016) 242 Taxman  422  and Pr CIT vs. Annasaheb Patil Mathadi Kamgar Sahakari Patpedhi Maryadit Ltd. (ITA NO 1574/2017)]

After the insertion of Sec 144-3A, 144-4A and 144-5A by the second amendment Act, 2017   to The Maharashtra Co-operative societies Act, co-operative credit society can accept deposits only from its members. It cannot accept deposits from non members/ nominal members. A co-operative society which is accepting deposits only from its members in accordance with the provisions of Maharashtra Co-operative Societies Act, shall be considered to be engaged in providing credit facilities to its members.  Thus the position is clear and unambiguous that such co-operative society cannot be considered to be engaged in the business of banking and the payer shall be liable to deduct TDS u/s 194A.

Per Contra, if the co-operative society has majority of dealings with non-members/ public at large in violation of The Maharashtra Co-operative societies Act it shall be considered to be in business of banking and the payer shall not be liable to deduct TDS. However, it may result in denial of exemption of Sec 80P to the co-operative society. In such a case the co-operative society may consider opting for the new tax scheme u/s 115BAD( Tax Rate of 22%) without claiming deduction u/s 80P.

TDS on payment of interest to nominal members

Even though there has been a change in the co-operative law relating to acceptance of deposits from nominal members, there has been no change in the definition of member per se and nominal member are still included in the list of members. Hence, there is no liability for deduction of TDS in respect of payment of interest to nominal member by a co-operative society having gross receipts less than Rs 50 Crores. In case of co-operative societies having turnover more than 50 Crs there is liability of TDS in the case the amount of interest exceeds Rs 50,000 in case of senior citizens and Rs 40,000 in case of others.

Chart Showing liability to Deduct Tax at source

*The limit of Rs 40,000 to be read as Rs 50,000 in case the payment is made to a senior citizen