Tuesday, 5 December 2017

Companies should refrain from deducting TDS on Grants and not insist on GST registration for NGOs!

There should be no Tax Deduction at Source (TDS) nor should there be insistence on compliance under the Goods & Services Tax (GST) on 'GRANTS' (whether CSR grants or regular grants) made by any company or corporate trust/foundation to NGOs.

However, there seems to be a trend among some companies in India to treat NGOs (be they charitable trusts, societies registered under the Act of 1860 or Section 8 Companies) as ‘vendors of professional (commercial) services’ or the company’s ‘contractors/sub-contractors’. This is patently wrong and this practice should be stopped immediately.

Unfortunately, the stakes are so high, that some NGOs, because of their dire need for funds are succumbing under corporate pressure and accepting the dictates of these companies, little realizing the vicious trap that they are falling into – potentially jeopardizing their very tax exempt status. What's worse, because of the mistakes of a few, the entire sector gets tarred with the same brush!

NGOs should understand that when they sign business/commercial/professional contracts with companies and accept their position as vendors of business/commercial/professional services, with TDS deducted for professional or consultancy services (u/s 194J), they are exposing themselves as deemed business/commercial operators of  professional/consultancy services. This would not only jeopardize their tax exempt status u/s 12AA, but, also require them to register under GST if the turnover from such professional or consultancy services exceeds Rs. 20 Lakhs during the financial year.

What is a Grant?
It is important for both companies as well as NGOs to understand the nature of a grant. 

A grant is in the nature of a ‘gift’ and contractual or an agreement only to the extent of being given for a specific (charitable) purpose with specific terms & conditions regarding use of the gift (E.g. use the grant only to provide education to girls, do not spend more than five per cent of the grant on travel or overheads, spend only as per agreed budget lines, provide quarterly reports etc. etc.)

A ‘Donation’ too is in the nature of a gift, but, it is ‘unrestricted’. A grant on the other hand is a restricted donation or gift, with conditions set by the donor and accepted by the NGO under a grant agreement.

In the case of a ‘grant’ various prerequisites are attached to the grant prior to the NGO receiving the gift, often with specific expenditure requirements / limitations and reporting guidelines. However, this does not make a ‘grant agreement’ into a ‘professional service or consultancy contract’ liable to TDS and compliance under GST. 

Even the earlier ‘Technical Guide to Service Tax’ issued by CBEC in 2012 makes it clear: “Conditions in a grant stipulating merely proper usage of funds and furnishing of account also will not result in making it a provision of service.” 

NGOs Exist for ‘charitable’ and not ‘commercial’ purpose'
An NGO having registration u/s 12AA is Tax Exempt and is recognized by the tax authorities as an organization established for ‘charitable purpose’.

Under Section 2(15) of Income Tax Act 1961, “charitable purpose” includes:
1) Relief of the poor,
2) Education, Yoga
3) Medical relief, 
4) Preservation of Environment (including watersheds, forests and wildlife)
5) Preservation of monuments or places or objects of artistic or historic interest”
6) The advancement of any other object of general public utility.

Thus, how can an organization established for relief of the poor, advancement of education, medical relief etc., be a "vendor of (commercial) service/s" as understood in business or commercial terms?

To repeat, NGOs exists for "charitable purpose" as per objects enshrined in their trust deed or memorandum of association. An NGO generally sustains its work with the aid of grants and donations and not through commercial work contracts!

Therefore, we, at the Centre for Advancement of Philanthropy (CAP) always advise companies to sign 'grant agreements' and treat NGOs as their ‘CSR program partners’ instead of preparing vendor agreements and treating NGOs as their service contractors. 

All the companies that we at CAP advise and work with and which includes large finance, banking, pharmaceutical, engineering, textile and trading companies follow the process of sanctioning ‘grants’ without TDS or insisting on GST compliance for the NGO. 

No tax should be deducted at source on grants because:
a) A grant is a gift, albeit restricted or conditional
b) NGOs exists for 'charitable purpose' and they are not 'commercial providers of service/s'
c) A 'grant agreement' can have various conditions and stipulations as also specific expected deliverable, but, that does not make it a 'commercial contract'.
d) NGOs under CSR Rules are "Implementing Agencies" or ‘CSR implementing partners’ of companies and not the company’s ‘commercial contractors’ or ‘vendors’

Clearly, therefore, companies should desist from viewing and treating NGOs registered and existing for ‘charitable purpose’ as ‘commercial contractors' or 'vendors of commercial services'.

Benefit to the company
Companies should also realize and understand that as per Finance Act 2014: 'CSR Expenditure' shall not be allowed as 'Business Expenditure' under section 37 of Income Tax Act, 1961. However, any CSR expenditure which is allowed as deduction under other sections (e.g. u/s 80G) would be permissible!

In other words by entering into commercial CSR contracts or vendor agreements with NGOs, companies gain no tax advantage, because, such expenditure would not be deductible as business expenditure or write off. On the other hand, if it is a grant agreement and the funds are given by way of grant (i.e. specific / conditional / restricted contribution) and the NGO has 80G tax deduction certificate, the company can enjoy fifty per cent tax deduction.

Noshir H. Dadrawala

Wednesday, 29 November 2017

Proposed New Direct Tax Legislation

According to a Press Release dated 22nd November 2017 issued by the Ministry of Finance (Department of Revenue), the Government of India has constituted a Task Force for drafting a New Direct Tax Legislation.

The Task Force shall set its own procedures for regulating its work and shall submit its report to the Government within six months.

Members of the Task Force include:
(i) Shri Arbind Modi, Member (Legislation), CBDT – Convener
(ii) Shri Girish Ahuja, practicing Chartered Accountant and non-official Director State Bank of India;
(iii) Shri Rajiv Memani, Chairman & Regional Managing Partner of E&Y;
(iv) Shri Mukesh Patel, Practicing Tax Advocate, Ahmedabad;
(v) Ms. Mansi Kedia, Consultant, ICRIER, New Delhi;
(vi) Shri G.C. Srivastava, Retd. IRS (1971 Batch) and Advocate.

Shri Arvind Subramanian, Chief Economic Adviser- will be a permanent special invitee in the Task Force.

The Terms of Reference of the Task Force is to draft an appropriate direct tax legislation keeping in view:
(i) The direct tax system prevalent in various countries,
(ii) The international best practices.
(iii) The economic needs of the country and
(iv) Any other matter connected thereto.

The Government of India is of the view that since the Income-tax Act, 1961 was drafted more than half a century ago it needs to be redrafted in consonance with economic needs of the country. However, most tax experts are of the view that the Income Tax Act is now well settled. 

The present law already encompasses most of the international best practices such as GAAR, transfer pricing, BEPS, etc. Instead of changing the entire law, the government could perhaps have considered modifying the existing law so that the disputable provisions under current law  and litigation could be minimized.

Friday, 17 November 2017

More Hope for Company Directors Disqualified by RoC

High Court Stays RoC’s Order Disqualifying Individual Director!
MCA's Clarification also expected soon!!

The Madras High Court has issued an interim stay against an order of the Registrar of Companies (RoC), Chennai, disqualifying an individual from being director under the Companies Act, 2013, for five years till 2021. The court has also issued notice of motion to the Centre and the Registrar of Companies, in a petition filed by an individual director.

Alleged ‘Clean up Act’
In a so-called ‘clean up act’ Ministry of Corporate Affairs (MCA) had disqualified in September this year, 106,578 directors of companies that did not file their financial statements for three straight years. It had also identified 210,000 shell companies and bank accounts of around 200,000 shell firms were frozen.

In September 2017 MCA had planned to blacklist 300,000 directors of shell firms. National Stock Exchange (NSE) also asked 200 companies to take action against directors named in the MCA list.

Consequence of Disqualification
Under the Indian Companies Act 2013, a Director disqualified by MCA cannot serve on the Board of any company (including a not-for-profit Section 8 company) for a period of five years. His/her digital signature would also be treated as invalid.

This means, if an individual is Director on the Board of five companies and if one of these companies has failed to file accounts with the RoC for a block of three years, he/she would be disqualified for the next five years from serving on the Board of any of the five companies or any other company for the next five years.

While most of the blacklisted individuals were associated with small or defunct companies, the list also included a few prominent names. Reportedly, Pawan Goenka of Mahindra & Mahindra, S Narayan of Apollo Tyres, Vinod Kumar Dasari of Ashok Leyland, S Sridhar of DCB Bank, and GV Krishna of Hindustan Petroleum, are also on the list.

MCA’s move to disqualify directors is without following principles of natural justice. Being on defunct companies is not sufficient to disqualify a director since holding such a position doesn’t prove any wrongdoing.

According to the Companies Act, it is clear that such disqualified directors have to vacate directorship in the company concerned and also can’t seek fresh directorship or re-appointment in any other firm. However, what it does not suggest is a cascading removal from boards of other firms.

MCA may soon issue clarification
A couple of weeks back there was news that the Ministry of Corporate Affairs will soon clarify that a director’s disqualification would be limited only to the company which did not file statutory returns for three consecutive years, and not others which were compliant.

Reportedly, the ministry plans to file a transfer petition before the Supreme Court to club all writ petitions pending before different high courts into one, while stating that a director’s disqualification was applicable only to the defaulting company.

MCA’s draft proposed clarification
A director disqualified in terms of Section 164(2)(a) of the (Companies) Act would be liable to vacate his office as Director under the provisions of Section 167 (1)(a) only in the company that has defaulted in filing its statutory returns for three consecutive years. He would continue to hold his office of Director, if any held by him, in companies that are compliant in filing their statutory returns as per the Companies Act.

Madras High Court
The petition was filed by R Ganapathi, who has been the director at RSG Engineering and Constructions Pvt. Ltd, Deccan Softlab Pvt Ltd and Projelec Marketing and Management Pvt. Ltd, which weren't operative and were struck off from the Register of Companies prior to 2010. However, he was named in RoC's list of disqualified directors in an order dated September 8, 2017, for being a director in some other companies that had not filed annual returns continuously for three years.

Ganapathi argued that RoC’s order should be quashed as illegal, arbitrary and devoid of merit, and also sought direction from the Court to the Ministry and the Registrar to permit him to get re-appointed or appointed as director of any company in any company without any hindrance.

Ganapathi further argued that the new regulation disqualifying a company if it fails to file annual returns for three financial years, as per Section 164 of the Companies Act, 2013, came into effect only on April 1, 2014 and the time limit to disqualify companies under this would start only after October 30, 2017. The argument being three years from April 2014, would fall only by the end of March 31, 2017 and that the last date for filing annual return for the fiscal 2016-17 -- the third year from implementation of the new Act -- is October 30, 2017.

It was argued that the order of Registrar of Companies, Chennai, disqualifying the director without giving him any opportunity of being heard is against the provisions of the Act.

Hearing the petition, Justice M Duraiswamy has issued an order to issue a notice of motion returnable in four weeks. 

Thursday, 16 November 2017

Can interest on corpus be added back to corpus?

Here is an interesting case and an even more interesting judgment regarding donations that were made to the trust by donors who had not only instructed the trust that the donations should be treated as corpus, but, also instructed that the interest accrued thereon should be ploughed back towards corpus of the trust. 
Is that possible? 
Is this good in law? 
Read on to find out!

Facts of the case
The Assessee is a charitable institution, entitled to exemption under Section 11 of the Income Tax Act. Such exemption is subject to the conditions prescribed therein.

During the assessment years in question, it was found that on the voluntary contributions that were received by the Assessee, interest was earned and the income earned on the contributions were added by the Assessee to its corpus, acting upon the instructions in that behalf issued by the donors themselves.

In other words, when the donations were made to the trust, the donors had not only instructed the trust that the donations should be treated as corpus, but, also the interest accrued thereon should be ploughed back towards corpus of the trust.

Case history
Commissioner of Income Tax (CIT) while assessing Mata Amrithandamayi Mata Trust had taken the view that section 11(1)(d) of Income Tax Act 1961 covers donations with specific direction that they shall form part of corpus and not interest thereon since it would result in exemption to interest in perpetuity, defeating legislative intent.

In appeal, Income Tax Appellate Tribunal (ITAT) held that funds received by a trust with specific direction that they shall form part of the corpus includes interest accruing/credited on deposits from above donations, if the donors had so intended

Now, Kerala High Court in an order dated August 22, 2017 (Appeal No. 34 of 2017) has also upheld Income Tax Appellate Tribunal’s (ITAT) Order that interest on corpus funds received by the Assessee as corpus donations u/s 11(1)(d) of the IT Act, should also be exempt from Income Tax.

Questions of law before the High Court
Revenue had filed the appeal before the High Court for the Assessment years from 2007-08 through 2012-13 and the common questions of law framed for the consideration of the Court were:
1. Whether the ITAT has erred on facts and law in treating the interest on corpus funds received by the Assessee as corpus donations u/s 11(1)(d) of the IT Act, to be exempt from Income Tax. 
2. While section 11(1)(d) covers donations with specific direction that they shall form part of corpus it cannot include the interest thereon as it would result in exemption to interest in perpetuity defeating the legislative intent?
3. Whether voluntary contributions received by a trust with specific direction that they shall form part of the corpus include interest accruing/credited on deposits from above donations?

Kerala High Court’s view
Having considered the submissions made by Revenue and the Assessee trust, the High Court was of the view that the questions which were framed had to be answered in the light of Section 11(1)(d) of the Act.

A reading of Section 11 shows that subject to the provisions of Sections 62 and 63, the incomes enumerated therein shall not be included in the total income of the previous year of the person in receipt of the income.

One of the incomes enumerated in clause (d) of sub-Section (1) of Section 11 is, “the income in the form of voluntary contributions made with a specific direction that they shall form part of the corpus of the trust or institution”.

  • The High Court observed that the donors had instructed that the interest earned shall be added to the corpus of the trust and that this fact is undisputed. 
  • If that be so, the interest earned on the contributions already made by the donors would also partake the character of income in the form of voluntary contributions made with a specific direction that they shall form part of the corpus of the trust.
  • And, if that be so, conclusion is irresistible that the Tribunal has rightly held that the interest earned would qualify for exemption under Section 11(1)(d) of the Income Tax Act.

The High Court did not find any question of law arising in this case for consideration. Accordingly the appeal of Revenue failed and was accordingly dismissed!

Monday, 13 November 2017

Charging fees does not make an educational institute non-charitable

Income Tax Appellate Tribunal (ITAT) New Delhi in the case of Jaycees Public School vs. ITO (Appeal No: ITA No. 4554/Del/2012) has held that merely charging of fees does not make an educational institution non-charitable or existing for the purposes of profit.

Case history
Commissioner Income Tax (CIT) had in the assessment order passed u/s 143(3), taken the view that the income of the Assessee Society was not eligible for exemption u/ 11 & 12 of the IT Act, 1961, because income of the Society is from fee and other related levies which cannot constitute income falling within the ambit of classes as defined in section 11 & 12 of Income tax.

CIT was also of the view that the Assessee’s activities are commercial in nature and there is no element of charity. The school did not provide exemption from fees or charge concessional fees to poor students.

CIT while examining the income and expenditure statement of the Society found that fees were charged from students under different heads such as admission fee, tuition fee, computer fee, late fee, games fee, library fee, examination fee, miscellaneous fees, prospectus fees and all those fees aggregated to approximately Rs. 2.01 crores.

Therefore, the view was taken that the above income of the Society cannot be said to be income derived from property held under trust and fees received from the student do not amount to voluntary contribution.

Hence, it was held that the Society had the object to impart education, but, education was provided by charging fees to the students. Looking to the amount of fees collected (Rs. 2.01 Cr) from the student the assessing officer held that the school is engaged in profit-making activity.

In other words, the Assessing Officer’s  views were that if education is run on commercial lines, merely because it is a school, it does not mean that it would be entitled to the exemption under section 11 of the income tax act. Therefore he held that society’s income generated by way of tuition fees and other fees is not eligible for exemption under section 11 and 12 of the income tax act, 1961.

Further, if the students have to pay more than what is to be spent on them for imparting education, then there is no relief provided and the activity is merely a commercial and business activity.

Supreme Court’s verdict in a similar case

Recently, Supreme Court in Queen’s Education Society vs. CIT 372 ITR 699, has held that where a surplus is made by an educational institute which is also ploughed back for educational purpose, the said institution is to be held as existing solely for educational purposes and not for the purposes of the profit.

Supreme Court has further held that:

  • Where an educational institution carries on the activity of education, the fact that it generates a surplus does not lead to the conclusion that it ceases to exist solely for educational purposes and becomes an institution for the purpose of making profit.
  • The predominant object test must be applied – the purpose of education should not be submerged by a profit making motive.
  • A distinction must be drawn between having surplus income and an institution run “for profit”.
  • No inference arises that merely because imparting education results in making a profit, it becomes an activity for profit.
  • If after meeting expenditure, a surplus arises incidentally from the activity carried on by the educational institution, it will not cease to be an institution existing solely for educational purposes.

The ultimate test is whether in an overall view of the matter, in the concerned assessment year, the object is to make profit as opposed to educating persons.

ITAT’s verdict

In the Order dated 16th October 2017, ITAT observed that the school was engaged in educational activities and earned certain sums of money by way of fees. However, these sums of money were not applied for any non-educational purposes. The fees charged were also found to be reasonable and not exorbitant.

ITAT also observed that while the Society is running an educational institute it does not mean that the Assessee must run it for free. If the Assessee does not charge fees from student then it would not be possible for the trust to carry on its activities for which it is established as the excess would not be available to plough back for development of the educational facility for the students. Hence, ITAT did not find that the order of the Commissioner Income Tax cancelling the 12AA registration to the Society sustainable.

ITAT also disagreed with the contention of the Assessing Officer that it is necessary that Assessee should not charge fees or exempt fees to poor students or charge fees at concessional rate and then only it can be said that it is exists for the charitable purposes. ITAT did not approve of such finding because Section 2(15) of Income tax Act does not prescribe such condition (i.e. it is not necessary to provide free education or charge concessional fees in order to fall within the definition of ‘charitable purpose’).

In view of the above facts ITAT directed Commissioner of Income tax to restore the registration granted to the Assessee Society u/s 12A A of the Income Tax Act 1961.