2015 (12) TMI 1901 - HC - Income Tax

Exemption u/s 10(23C)(vi) - claim rejected as society was diverting its income to the members of the society and, therefore, the society was not acting as a non-profitable institution - Commissioner rejected the application holding that the purpose/objects of the society as per the memorandum of association does not indicate that the institution is running solely for educational purpose HELD THAT - As perusal of the impugned order that based on a survey, a show cause notice was given and, thereafter, a finding has been given that the profits of the institution are being diverted to the members of the society in the garb of payment of interest on the unsecured loans given by them. The genuineness of this transaction has been doubted. A specific finding has been given that at the time when the members gave the loan, no rate of interest was payable by the institution but subsequently, for the subsequent assessment years, the rate of interest of 12% was charged to obviate the profit by way of interest and divert the money to its members in the garb of payment of interest on the loan given. For the assessment year 2005-06, the rate of interest was increased from 12% to 18% and in 2006-07 the rate of interest was increased to 21%. This increase in rate of interest was to ensure that the income of the society was diverted to its members in the garb of payment of interest. The increase in the rate of interest could be seen on account of the increase in the income of the society. There is also a specific finding that the bye-laws had no provision for taking loan on interest, though, subsequently, the amendment was made in its bye-laws during the financial year 2006-07, which will have no effect in so far as the present application of the petitioner is concerned. Thus an irresistible inference can be drawn that the petitioner's society, even if it was running an educational institution solely for education purposes, yet it was with the intention of earning a profit and it was not for a non-profit purpose. On this short ground, we are of the opinion that the order of the Commissioner does not require any interference. Decided against petitioner/society registered.

Summary

Issues Involved:
1. Whether the petitioner's institution exists solely for educational purposes and not for profit.
2. Whether the Commissioner correctly considered the petitioner's replies and subsequent events.
3. Whether the Commissioner erred in rejecting the exemption application based on the objects in the memorandum of association.
4. Whether the payment of interest to members on unsecured loans constitutes a diversion of income for profit.

Detailed Analysis:

Issue 1: Solely for Educational Purposes and Not for Profit
The petitioner, a society running the Kanpur Institute of Technology, sought exemption under Section 10(23C)(vi) of the Income Tax Act, 1961, claiming it operates solely for educational purposes and not for profit. The Commissioner rejected this application, citing that the institution was diverting income to its members under the guise of interest payments on unsecured loans. The court noted that the essential requirement for exemption is to determine if the institution is solely for educational purposes and not for profit. This inquiry must be based on actual activities rather than the objects stated in the memorandum of association. The Commissioner's reliance on the objects to reject the application was deemed incorrect.

Issue 2: Consideration of Replies and Subsequent Events
The Commissioner refused to consider subsequent replies and events following the High Court's remittance of the matter. The court clarified that the Commissioner was required to consider all replies, including those submitted after the High Court's decision. The refusal to consider these subsequent developments was an error.

Issue 3: Objects in the Memorandum of Association
The Commissioner's decision was partly based on the memorandum of association, which did not explicitly state that the institution was solely for educational purposes. The court held that the actual existence and activities of the educational institution should be the focus, not merely the stated objects. The Commissioner's rejection on this ground alone was incorrect. The court emphasized that the institution's activities and financial records should be scrutinized to determine its purpose.

Issue 4: Diversion of Income for Profit
The Commissioner found that the petitioner's institution was diverting income to its members through interest payments on unsecured loans, which increased from 12% to 21% over the years. This was seen as a method to divert profits to members, contradicting the claim of being a non-profit organization. The court upheld this finding, noting that the increase in interest rates and the lack of initial provisions for such loans in the bye-laws indicated an intention to profit. Despite the petitioner's argument that such payments were permissible under Section 13(1)(c) of the Act, the court found that these transactions suggested profit motives, justifying the Commissioner's decision to deny the exemption.

Conclusion:
The court dismissed the writ petition, affirming the Commissioner's decision. The petitioner failed to demonstrate that the institution was not operating for profit, despite being an educational institution. The Commissioner's inquiry into the actual activities and financial practices was deemed appropriate, and the rejection of the exemption application was upheld.