Vswaminathan B.Sc.,B.L., FCA
1. INTRODUCTION
The point of issue chosen for a study herein is the applicability of the ‘common law’- (as opposed to ‘legislative enactment’, also dubbed as ‘man-made law)- Principle, in legal parlance known as the ‘Doctrine Of Mutuality’ (the DoM), to any entity , being an ‘Association of Persons’; such as, social clubs’/associations, in general, and the so called ‘housing associations’, of a distinct type, in particular.
The urging need for a critical study of the stated point has imperatively assumed greater importance, in recent times; more so, because of the largely prevailing doubts, and attendant controversies gaining momentum, with no abatement, in the aftermath of a judgment of the SC handed down as recently as in 2013.
The referred Judgment has been delivered in the case of a social club, an unregistered ‘association of persons’ (AOP). Upholding the opinion of the HC, it has been held by the apex court that the club’s interest income from deposits with banks, -to be specific with its corporate member-banks, is exigible to taxation.
2. The point of issue happens to being projected, dubiously, as a point of law, or a mixed question of law and facts. And, according to the view floated around in certain limited quarters- surprisingly, also in supposed-to-be well informed professional circles,- the subject issue is regarded, unwittingly so, to have been conclusively settled by the apex court in re. Bangalore Club; and, that is believed to apply, and binding on all fours, to even ‘housing associations’. Notwithstanding that is an AOP, in the eyes of specially governing law and rules, indisputably an entity constituted solely by its members, wholly and exclusively for its in-house purposes; and, therefore, could not, for any valid reason or profound logic, rightly considered to have exposure to income-tax (also to service tax/GST) -by virtue of the DoM to apply.
3. The discussion herein is with view to try and substantiate, so as to explain, why any doubt created in this respect is not but patently misconceived, and merits to be ab initiode-cried /dis-credited. To be precise, on a proper insight and eminent appreciation of the surrounding legal position, there is, to say the least, no warrant for ‘housing associations’ (including a co-operative housing society, or an owners’ association, or by whatever other name called), to so concede, as to think of and voluntarily submit for taxation, any income- including accretions to its surplus funds parked with a bank or a financial institution, exclusively to be spent for the benefit of, and applied only for the common purposes of, its constituent members.
4. On Case Law dealing with issues arising in relation to the claim for tax exemption by invoking the DoM, propose to discuss below, only selected court decisions; in the hope that may serve the intended purpose of provoking any other equally concerned, but earnestly in quest of clarity in anyone’s own mind.
(Note that, the FONT supplied, wherever so done, is for an additional emphasis and focus on those areas)
4.1. In Bangalore Club vs Commissioner Of Income Tax (Supreme Court), CIVIL APPEAL NO. 125 OF 2007, Dated – 14 January, 2013 -Text of the SC Judgment is reported @ https://indiankanoon.org/doc/134553218/
A) For a ready reading and appreciation furnish below, extracts from, or narration of, the key portions from the SC Judgment:
The Bangalore Club (assessee) is an unincorporated Association of Persons (AOP). Dispute was in relation to several assessment years 1989-90….to 1999-2000. The assesse-club claimed tax exemption on the interest earned on fixed deposits kept with certain banks, which were its corporate members, by relying on the DoM.
The claim was rejected by the AO holding that there was a lack of identity between THE CONTRIBUTORS and THE PARTICIPATORS in the fund (of the Club). In first appeal, the CIT (A) reversed the AO’s Order holding that the DoM clearly applied.
In second appeal the ITAT concurring with the view taken by the CIT (A), held thus:
“7. …..the funds of the club are given in the form of deposits for earning income from the corporate members, namely, the banks here and, therefore, the earning of interest is clearly had risen out of the concept of mutuality only. The decisions relied upon by the DR have nowhere touch (sic) upon the fact as to whether it was with corporate members or not. Apparently, they had dealt with the situation where the transactions of interest are from persons who are not the members of the club. During the argument, the DR had admitted that the assessee had shown interest from certain other banks as its income which also goes to show that wherever the concept of mutuality was absent, the assessee had offered the same as income.”
Aside: In one’s perspective, there has been an apparent incongruity; in that, there seems to be no rhyme or reason in the Club not having claimed tax exemption, -just as of interest from corporate members, – also of interest on deposits with non-member banks.
The CIT (Admn.) took up the dispute to the HC under Section 260A.
Answering the questions in favour of the Revenue, the HC held thus :-
“12. On the facts of this case and in the light of the legal principles it is clear to us that what has been done by the club is nothing but what could have been done by a customer of a Bank.
The principle of ‘no man can trade with himself’ is not available in respect of a nationalized bank holding a fixed deposit on behalf of its customer. The relationship is one of a banker and a customer.”
“5. ….counsel appearing for the assessee strenuously urged that the assessee meets all the requirements, as laid down in The English & Scottish Joint Co-operative Wholesale Society Ltd. Vs. The Commissioner of Agricultural Income Tax, Assam[1], as affirmed by this Court in Chelmsford Club Vs. Commissioner of Income Tax, Delhi[2] in order to fall within the ambit of the principle of mutuality. According to the learned counsel, there is a complete identity between the contributors to the fund and the assessee and the recipients from the funds, in as much as the interest earned by the assessee from the surplus fund invested in fixed deposits with member banks are always available and are used for the benefit of members alike. It was asserted that there is no commercial motive involved in the dealings of the assessee with its members, including the banks concerned. It was also argued that the interest earned on such deposits with the member banks was always available for use and benefit of the members of the assessee, in as much as the said interest merged with the common fund of the club.”
(The counter arguments advanced by counsel for the Revenue are set out in paragraph 6 of the Judgment.)
B) In support of the mutually varying stance respectively taken, and to buttress the line of reasoning adopted and arguments advanced, both the Revenue and the opposite party, being the assessee- Club have relied on, mutually inconsistent, case law, in a one-sided manner.
Be that as it may, for an appreciation in proper perspective of the case law, in which the applicability or otherwise of the principle of mutuality has been dealt with by both the foreign and domestic courts – a long line of them- the following aspects- in addition to those set out elsewhere herein, might have to be made a conscious note of, and would require to be borne in mind:
The SC has adversely decided the issue, – in favour of the Revenue and against the assesse, on the grounds to be found in, besides the rest, the paragraphs 26,27 and 28, with pointed reference to the facts of the case on hand.
THE OBSERVATIONS IN PARAGRAPH 20, WITH SPECIAL EMPHASIS LAID ON THE ASPECT OF ‘BENEFIT’ TO THE MEMBERS OF A CLUB, IN GENERAL, CALL FOR A SPECIAL NOTING. FOR, THOSE COULD BE OF AVAIL, AND USEFUL GUIDANCE, IN CONSIDERING , IN ANY OTHER GIVEN CASE, AS TO WHERE TO LOOK FOR, FOR ASCERTAINING, ‘MANDATE OF THE CLUB; WHICH IN THE COURT’S OPINION, ‘MUST NOT BE CONSTRUED MYOPICALLY’, FOR THE REASONS STATED, AND IN THE LIGHT OF THE TWO OF THE OVERWHELMINGLY LARGE NUMBER OF JUDGMENTS CITED AND RELIED ON BY EITHER OF THE PARTIES .
4.2. CIT vs Secunderabad Club Picket (AP High Court)-Judgment reported –
@https://taxguru.in/income-tax/interest-bank-housing-society-taxable-principle-mutuality-apply.html
GIST (Extracts, etc., below):
“6. The senior standing counsel for the Revenue raised the following contentions. The income derived by providing facilities, services and amenities to the members is alone non-exigible on the principle of mutuality, but the income derived from third parties is taxable under the Act for invoking the principle of mutuality the purpose should be referable to the object of the society and parking of the funds for earning interest is not one of the objects of the assessee and, therefore, the income is exigible to tax. He relied on CIT v. Merchant Navy Club [1974] 96 ITR 261 (AP), Rajpath Club Limited v. CIT [1995] 211 ITR 379 (Guj), Sports Club of Gujarat v. CIT[1988] 171 ITR 504 (Guj), Madras Gymkhana Club v. Deputy CIT [2010] 328 ITR 348 (Mad), Chelmsford Club v. CIT [2000] 243 ITR 89 (SC) ; [2000] 3 SCC 214, CIT v. Bangalore Club [2006] 287 ITR 263 (Karn), Bankipur Club Ltd. [1997] 226 ITR 97 (SC), CIT v. Cawnpore Club [2004] 140 Taxman 378 (SC) and CIT v. Common Effluent Treatment Plant (Thane-Belapur) Association [2010] 328 ITR 362 (Bom) (Common Effluent Treatment Plant). A corporate member, being a juridical person, does not satisfy the criteria of being a contributor to the funds as well as the recipient to the funds. IN THE CASE OF A CORPORATE MEMBER, THE CONTRIBUTORY IS A JURIDICAL PERSON AND THE RECIPIENT OF THE SERVICES IS A NATURAL PERSON/PERSONS NOMINATED BY THE CORPORATE MEMBER. IN VIEW OF THIS, WHEN THE ASSESSEE DEPOSITED THEIR SURPLUS FUNDS WITH THE BANKS, WHO INCIDENTALLY HAPPENED TO BE CORPORATE MEMBERS, SUCH INCOME IS NOT IMMUNE FROM TAXABILITY.”
Aside: As recorded in Paragraph 7., counsel for the assessee has countered, with more force and substance, the pleas of the Revenue. And, he has done so, successfully, as is to be inferred from the final outcome of the dispute which has been in assessee’s favour.
“Point for consideration
8. The point that arises for consideration in these appeals is whether the principle of mutuality pleaded by the assessee is attracted and whether interest income earned from various deposits kept with the banks/financial institutions is a non-taxable receipt?
Principles and precedents
9. The business law maxim that no one can make profit out of himself over a period of time, has evolved into the principle of mutuality in income-tax law. In plain terms, the principle postulates that, “when persons contribute to a common fund in pursuance of a scheme for their mutual benefit, having no dealings or relations with any outside body, they cannot be said to have made a profit when they find they have overcharged themselves and that some portion of their contributions may be safely refunded”. If complete identity, between the contributors and the participants or recipients, is established, the surplus generated and returned to the contributors is not regarded as profit for the purpose of charging income-tax. IF THE PERSONS CARRY ON AN ACTIVITY, WHICH IS ALSO TRADE, IN SUCH A WAY THAT THEY AND THE CUSTOMERS ARE THE SAME PERSONS, NO PROFITS ARE YIELDED BY SUCH TRADE FOR TAX PURPOSES AND, THEREFORE, NO ASSESSMENT IN RESPECT OF THE TRADE CAN BE MADE. The surplus, resulting from trading, represents such contributions of the participants which is in excess of the requirements. Access to profits or services is a condition precedent to satisfy the element of mutuality.”
…….
“18. The question whether the club’s interest income from fixed deposits in nationalised banks/scheduled banks or from Government securities was exempt from tax on the principle of mutuality has been considered by various High Courts. THE VIEW, HOWEVER, IS NOT ONE AND THE SAME. In All India Oriental Bank of Commerce Welfare Society [2003] 184 CTR 274 (Delhi), Delhi Gymkhana Club Ltd. [2011] 339 ITR 525 (Delhi) AND TALANGANG CO-OPERATIVE GROUP HOUSING SOCIETY LTD. [2011] 339 ITR 518 (DELHI) THE DELHI HIGH COURT HELD THAT THE INTEREST INCOME ON DEPOSITS WITH THIRD PARTIES OR MEMBERS WAS NOT LIABLE TO TAX. The Karnataka High Court in Canara Bank Golden Jubilee Staff Welfare Fund [2009] 308 ITR 202 (Karn) and the Allahabad High Court in Cawnpore Club Ltd. took a similar view. IN CONTRAST, THE KARNATAKA HIGH COURT IN BANGALORE CLUB [2006] 287 ITR 263 (KARN) the Madras High Court in Madras Gymkhana Club [2010] 328 ITR 348 (Mad) and the Bombay High Court in Common Effluent Treatment Plant [2010] 328 ITR 362 (Bom) have held that interest received on deposits with corporate members, like banks, is not exempt on the principle of mutuality. The counsel for the assessee strongly relies on Natraj Finance Corporation [1988] 169 ITR 732 (AP). We would refer to some of these decisions at an appropriate place infra.”
……………
“29. In Bangalore Club [2006] 287 ITR 263 (Karn), the question was whether the principle of mutuality could be made applicable to funds deposited by the said club in four banks who are also members of the club, especially when the fund was raised from the contribution of several members, including the four banks, and the interest derived from it is visualised by several members of the assessee’s club. Following Sports Club of Gujarat [1988] 171 ITR 504 (Guj) and Kumbakonam Mutual Benefit Fund [1964] 53 ITR 241 (SC) the Karnataka High Court held that the principle of “no man can trade with himself” is not available in respect of a nationalized bank holding a fixed deposit on behalf of its customer and that, “the relationship is one of a banker and a customer”.
“32. As noticed supra, the Delhi High Court has taken a contra view. In Delhi Gymkhana Club [2011] 339 ITR 525 (Delhi), the court referred to three of its earlier decisions, and affirmed the view of the Income-tax Appellate Tribunal that the income from FDRs in banks would also attract the doctrine of mutuality and, therefore, no tax was payable thereon. We have perused the judgments relied on in Delhi Gymkhana Club [2011] 339 ITR 525 (Delhi), and are not able to persuade ourselves to agree with the view. We, for various reasons discussed supra, very humbly differ from the Delhi High Court’s view”.
4.3 Delhi High Court –
CIT v Talangang Coop. Group Housing (1 July, 2010)
https://indiankanoon.org/doc/160572372/
“9. As regards the interest derived from the deposits made by the society out of the contributions made by the members of the society, the tribunal placing reliance on the decision in All India Oriental Bank of Commerce Welfare Society (supra) has expressed the view that ONCE THE IDENTITY OF THE CONTRIBUTOR TO THE FUND OF RECIPIENTS IS ACCEPTED, THE PRINCIPLE OF MUTUALITY WOULD GET ATTRACTED. It is also noticeable that there is NOTHING ON RECORD TO SHOW THAT THE AMOUNT COLLECTED FROM THE RESPONDENT HAS BEEN DIVERTED FOR ANY OTHER PURPOSE.”
5. OWN OBSERVATIONS AND VIEWPOINTS
1) The opinion of the SC in Bangalore Club Case has been criticized, in the expert commentary in Palkhivala’s Text Book (Tenth Edition Vol. I, pg. 189), to be incorrect.
The faulted logic is in the SC taking the view that when a club earns interest on FDs placed with member–banks, the thread of mutuality is broken, and the interest is chargeable to tax.
According to the Experts’ commentary, as independently read and understood but dilated, even if the banks are corporate members of the Club, the monies deposited by the Club are used by the Banks in their lending business, and it is the Bank that earns profits. The relationship between the Bank(s) and the Club is one of debtor and creditor.
Differently but better put, in own words:
Bank, in the normal course, and as part of its business activities, invites and accepts Deposits from the members of the public, in general, as per the terms and conditions attached to all such deposits. Interest payment by Bank to all the holders of FDs essentially represents nothing but compensation for use of such monies deposited, for the business of the Bank. As such, it is for the Bank, not the Depositors, the transaction partakes the nature a ‘commercial’ transaction.
The fact that the depositor is a club, and the monies are deposited with its own member – corporate or not- with a view to earn interest, could conceivably not have the effect of changing the very nature /colour of the transaction. To treat it as one tainted with a trade or commercial motive /objective, more so as to jeopardize, or impact and impair the applicability of the ‘mutuality’ principle, otherwise open to be availed of /invoked, seems to make no sense. Further, to think or otherwise opine, in one’s unbiased but straightforward perspective, seemingly goes to offend, apart from legal sense, common sense, as well.
2) In laying down the three crucial tests to be applied/ the criteria to be satisfied, for applicability of the said principle, the concept /wording consistently used is, – ‘contribution’ (or its derivatives); being that made by a member of, and to the entity of which it is a member. That being so, for obvious reasons, interest paid by a bank to any entity of which it is a member, could not, -by any stretch of imagination, or thinking howsoever that be convoluted, be treated to have the character of a ‘contribution’ in any sense whatsoever. As to the Bank, regardless of its being a ‘member’ of any entity, not barring a club, for its own accounting, tax or other purposes, interest payment on Deposits, from all its customers, alike, might have to be necessarily considered as ‘interest’ outgoing; not as a ‘contribution’.
5. Any view to the contrary is open, rather most likely to be, in the ultimate analysis, infamously ridiculed for more than one valid reason; mainly, that goes to offend the very connotation of, as well as the basic distinction between, the two concepts namely, -interest and contribution.
6. To Sum Up –
As regards the case law developed and rolled out over the decades, with the above said doctrine as its focal point of controversy, the judgment of the apex court in Bangalore Club case stands out for more than one reason. That is, besides others:
1. The point of dispute has been wholly addressed to, and the verdict of the SC has been handed down, referring to and heavily relying upon, selectively so, both foreign and domestic court cases. In doing so, no due attention has been given to the other vital angles impinging on the point of issue.
2. The court has not been specifically addressed, substantially with sufficient force, hence not been gone into and appreciated by the court (s), on one very crucial clinching aspect; that is, why the interest income, taxed by the AO but in dispute, could not conceivably be regarded as partaking the nature of ‘contribution’ (or its grammatical variations) , as envisaged.
So much so, the SC Judgment has come to be taken out of context, and regarded and cited as a ‘precedent’, before adjudicating authorities, in every other case; in one’s firm conviction, wrongly and misguidedly so. Particularly, that is observed , even in cases in which the aggrieved entity, assessed to tax in a given case, is a ‘housing association’; not a social club or a like entity, such as, life insurance- and mutual assurance- companies, mutual benefit funds, turf club, so on, adjudicated upon and covered by foreign and domestic courts cited and relied upon.
7. EPILOGUE
On scouting around independently, as per information gathered from close knowledgeable friends’ circles, by and large, housing associations, including RWAs, have not conceded hence not offered for tax interest on surplus funds lying in bank deposits; ostensibly keeping in mind the applicable doctrine of ‘mutuality’. More importantly, going by sheer common sense, it needs to be specially noted that, unless and until the correct legal position happens to be fully and conclusively settled, it might not be prudent to volunteer and so offer for tax. For, if so done, it will prove and turn out to be suicidal, – also serve as a wrong signal, influencing / misleading consequence on, let alone self, the rest as well. That is, in the event of a clinching favorable adjudication by the Apex Court in future. To be precise, and add,- having returned and also paid tax, difficult problems, -such as prescribed time limit for otherwise possible courses of action – would arise in seeking and obtaining a refund, at a later date, in the event of a favourable court verdict in future, as indicated!
This, no gainsaying that, is a matter of the utmost common concern.
(Republished with amendments)
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