2022 (10) TMI 855 - SC - Income Tax

Exemption u/s 11 / 10(23C)(vi) - Charitable activity u/s 2(15) - trust seeking approval as existed solely for educational purposes - correct meaning of the term solely in Section 10 (23C) (vi) which exempts income of university or other educational institution existing solely for educational purposes and not for purposes of profit - appellants were denied registration on the ground that they were not registered under the Andhra Pradesh Charitable and Hindu Religious Institutions and Endowments Act, 1987 (hereinafter, A.P. Charities Act ) as condition precedent for grant of approval - HELD THAT - Institutions existing solely for profit - This court is of the opinion that the interpretation adopted by the judgments in American Hotel 2008 (5) TMI 17 - SUPREME COURT as well as Queens Education Society 2015 (3) TMI 619 - SUPREME COURT as to the meaning of the expression solely are erroneous. The trust or educational institution, which seeks approval or exemption, should solely be concerned with education, or education related activities. If, incidentally, while carrying on those objectives, the trust earns profits, it has to maintain separate books of account. It is only in those circumstances that business income can be permitted- provided, as stated earlier, that the activity is education, or relating to education. The judgment in American Hotel (supra) as well as Queens Education Society (supra) do not state the correct law, and are accordingly overruled. Whether the PA (Commissioner or any other designated authority) is in any manner enjoined to confine the nature of inquiry to discern the object of a society, trust or other institution at the stage when it approaches the authority for approval under Section 10 (23C)? - Having regard to the plain terms of the second proviso to Section 10(23C), which refers to the procedure for approval of applications including those made by trusts and institutions imparting education, one can discern no such restrictions. From the pointed reference to audited annual accounts as one of the heads of information which can be legitimately called or requisitioned for consideration at the stage of approval of an application, the inference is clear the Commissioner or the concerned authority s hands are not tied in any manner whatsoever. The observations to the contrary in American Hotel (supra) appear to have overlooked the discretion vested in the Commissioner or the relevant authority to look into past history of accounts, and to discern whether the applicant was engaged in fact, solely in education. American Hotel (supra) excluded altogether inquiry into the accounts by stating that such accounts may not be available. Those observations in the opinion of the court assume that only newly set up societies, trusts, or institutions may apply for exemption. Whilst the statute potentially applies to newly created organizations, institutions or trusts, it equally applies to existing institutions, societies or trust, which may seek exemption at a later point. This court is also of the opinion that the Commissioner or the concerned authority, while considering an application for approval and the further material called for (including audited statements), should confine the inquiry ordinarily to the nature of the income earned and whether it is for education or education related objects of the society (or trust). If the surplus or profits are generated in the hands of the assessee applicant in the imparting of education or related activities, disproportionate weight ought not be given to surpluses or profits, provided they are incidental. At the stage of registration or approval therefore focus is on the activity and not the proportion of income. If the income generating activity is intrinsically part of education, the Commissioner or other authority may not on that basis alone reject the application. Clearly, charitable objects defined by the A.P. Charities Act, are pari materia with the IT Act. Thus, establishments or associations or organizations (widely phrased terms) formed for charitable purpose fall within the meaning of charitable institutions. These include societies and trusts, set up for educational purposes. A.P. Charities Act provides a statutory regulatory framework in regard to activities of charitable institutions in the state. Sections 72-74 deal with surplus funds and their treatment; Sections 75-77 deal with properties of trusts and charitable institutions and restrictions on transfers. These and other provisions enable the State, which is concerned in the proper administration of such organizations, to ensure that they are managed efficiently without misfeasance. They also contain provisions to protect the interests of trusts, especially funds and properties. It is held that charitable institutions and societies, which may be regulated by other state laws, have to comply with them- just as in the case of laws regulating education (at all levels). Compliance with or registration under those laws, are also a relevant consideration which can legitimately weigh with the Commissioner or other concerned authority, while deciding applications for approval under Section 10 (23C). This reasoning equally applies especially in Section 11(4A) which speaks of profits incidental which specifies that exemption in relation to income or trust of an institution which are profits or means of business cannot be exempted unless the business is incidental, trust or as the case may be institution and separate books of accounts are maintained by such trusts or institution in respect of such business . Thus, the underlying objective of seventh proviso to Section 10(23C) and of Section 11(4A) are identical. These have to be read in the light of the main provision which spells out the conditions for exemption under Section 10(23C) - the same conditions would apply equally to the other sub-clauses of Section 10(23C) that deal with education, medical institution, hospitals etc. The conclusions of this court are summarized as follows a. It is held that the requirement of the charitable institution, society or trust etc., to solely engage itself in education or educational activities, and not engage in any activity of profit, means that such institutions cannot have objects which are unrelated to education. In other words, all objects of the society, trust etc., must relate to imparting education or be in relation to educational activities. b. Where the objective of the institution appears to be profit-oriented, such institutions would not be entitled to approval under Section 10(23C) of the IT Act. At the same time, where surplus accrues in a given year or set of years per se, it is not a bar, provided such surplus is generated in the course of providing education or educational activities. c. The seventh proviso to Section 10(23C), as well as Section 11(4A) refer to profits which may be incidentally generated or earned by the charitable institution. In the present case, the same is applicable only to those institutions which impart education or are engaged in activities connected to education. d. The reference to business and profits in the seventh proviso to Section 10(23C) and Section 11(4A) merely means that the profits of business which is incidental to educational activity as explained in the earlier part of the judgment i.e., relating to education such as sale of text books, providing school bus facilities, hostel facilities, etc. e. The reasoning and conclusions in American Hotel (supra) and Queen s Education Society (supra) so far as they pertain to the interpretation of expression solely are hereby disapproved. The judgments are accordingly overruled to that extent. f. While considering applications for approval under Section 10(23C), the Commissioner or the concerned authority as the case may be under the second proviso is not bound to examine only the objects of the institution. To ascertain the genuineness of the institution and the manner of its functioning, the Commissioner or other authority is free to call for the audited accounts or other such documents for recording satisfaction where the society, trust or institution genuinely seeks to achieve the objects which it professes. The observations made in American Hotel (supra) suggest that the Commissioner could not call for the records and that the examination of such accounts would be at the stage of assessment. Whilst that reasoning undoubtedly applies to newly set up charities, trusts etc. the proviso under Section 10(23C) is not confined to newly set up trusts it also applies to existing ones. The Commissioner or other authority is not in any manner constrained from examining accounts and other related documents to see the pattern of income and expenditure. g. It is held that wherever registration of trust or charities is obligatory under state or local laws, the concerned trust, society, other institution etc. seeking approval under Section 10(23C) should also comply with provisions of such state laws. This would enable the Commissioner or concerned authority to ascertain the genuineness of the trust, society etc. This reasoning is reinforced by the recent insertion of another proviso of Section 10(23C) with effect from 01.04.2021. The interpretation of education being the sole object of every trust or organization which seeks to propagate it, through this decision, accords with the constitutional understanding and, what is more, maintains its pristine and unsullied nature. The assessees appeals fail. It is however clarified that their claim for approval or registration would have to be considered in the light of subsequent events, if any, disclosed in fresh applications made in that regard. This court is further of the opinion that since the present judgment has departed from the previous rulings regarding the meaning of the term solely , in order to avoid disruption, and to give time to institutions likely to be affected to make appropriate changes and adjustments, it would be in the larger interests of society that the present judgment operates hereafter. As a result, it is hereby directed that the law declared in the present judgment shall operate prospectively. The appeals are hereby dismissed, without order on costs.

Summary

Issues Involved:
1. Interpretation of the term "solely" in Section 10(23C)(vi) of the Income Tax Act, 1961.
2. Treatment of surpluses or profits generated by educational institutions.
3. Requirement of registration under the Andhra Pradesh Charitable and Hindu Religious Institutions and Endowments Act, 1987 (A.P. Charities Act) for institutions seeking exemption under Section 10(23C).

Detailed Analysis:

I. Interpretation of the Term "Solely" in Section 10(23C)(vi)

The court examined the term "solely" in the context of Section 10(23C)(vi), which exempts income of "university or other educational institution existing solely for educational purposes and not for purposes of profit." The court clarified that the term "solely" should be interpreted in its plain and grammatical sense, meaning "only" or "exclusively." The court noted that previous judgments, such as American Hotel and Lodging Association v. Central Board of Direct Taxes and Queen's Education Society v. Commissioner of Income Tax, erroneously applied the "predominant object" test, which is more appropriate for charities set up for general public utility rather than educational institutions. The court emphasized that educational institutions must have all their objects aimed at imparting or facilitating education and not engage in any unrelated activities.

II. Treatment of Surpluses or Profits Generated by Educational Institutions

The court addressed the issue of whether surpluses or profits generated by educational institutions disqualify them from exemption under Section 10(23C)(vi). The court held that the mere generation of surplus does not disqualify an institution, provided the surplus is incidental to the primary educational activity. The seventh proviso to Section 10(23C) allows for profits if the business is incidental to the attainment of its objectives and separate books of account are maintained. The court clarified that activities such as providing textbooks, school bus facilities, and hostels to students are incidental to education and do not disqualify the institution from exemption.

III. Requirement of Registration Under the A.P. Charities Act

The court upheld the requirement for educational institutions to be registered under the A.P. Charities Act as a condition for seeking exemption under Section 10(23C). The court noted that the A.P. Charities Act provides a regulatory framework for the administration of charitable institutions, including those involved in education. Compliance with such state laws is necessary to ensure proper management and monitoring of these institutions. The court affirmed that the provisions of the A.P. Charities Act and similar state laws are relevant considerations for the Commissioner or other concerned authorities while deciding applications for approval under Section 10(23C).

Conclusion:

1. The term "solely" in Section 10(23C)(vi) means exclusively and not predominantly or primarily.
2. Educational institutions can generate surpluses or profits incidentally, provided they are related to educational activities and separate books of account are maintained.
3. Compliance with state laws, such as the A.P. Charities Act, is mandatory for educational institutions seeking exemption under Section 10(23C).

The court overruled the interpretations in American Hotel and Queen's Education Society to the extent they conflicted with this understanding and directed that the law declared in the present judgment shall operate prospectively to avoid disruption. The appeals were dismissed without costs.