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TMI Blog2020 (4) TMI 827X X X X Extracts X X X X X X X X Extracts X X X X ..... he transaction, thereby opening the scope for a manifest or latent profitbased dealing in the transaction with parties outside the closed circuit of members. It would be amenable to income tax as per Section 2(24) of the 1961 Act. In the present case, it is indisputable that Pepsi Foods Ltd. is a contributor to the common pool of funds. However, it does not participate in the surplus as a beneficiary for at least two reasons first, Pepsi is not a member of the purported mutual concern as the Tripartite Agreement as well as the terms of SIA approval permit only franchisees to become members of the mutual concern. Notably, Pepsi Foods Ltd. is not a franchisee and thus, it cannot participate in the surplus. Second, Pepsi does not enjoy any right of participation in the surplus or any right to receive back the surplus which are mandatory ingredients to sustain the principle of mutuality. The contention of the assessee company that Pepsi Foods Ltd., in fact, does benefit from the mutual operations by virtue of its exclusive contracts with the franchisees is tenuous, as the very basis of mutuality is missing as far as Pepsi Foods Ltd. is concerned, as discussed hitherto. Even if ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ted from taxability because of the underlying notion that they operate for the common benefit of the members wishing to enter into a social exchange with no commercial intent. Further, all the members of the club not only have a common identity in the concern but also stand on an equal footing in terms of their rights and liabilities towards the club or the mutual undertaking. Such clubs are a means of social intercourse, as rightly observed by CIT (A) in the present case, and are not formed for the facilitation of any commercial activity. On the contrary, the purported mutual concern in the present case undertakes a commercial venture wherein contributions are accepted both from the members as well as non-members, as discussed earlier. Moreover, one member is vested with a myriad set of powers to control the functioning and interests of other members (franchisees), even to their detriment. Such an assimilation cannot be termed as a case of ordinary social intercourse devoid of commerciality. Once it is conclusively determined that the assessee company had not operated as a mutual concern, there would be no question of extending exemption from tax liability. Application of i ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ter having obtained approval from the Secretariat for Industrial Assistance (for short SIA ) for the purpose of economisation of the cost of advertising and promotion of the franchisees as per their needs. The approval was granted subject to certain conditions as regards the functioning of assessee, whereby it was obligated to operate on a non-profit basis on the principles of mutuality. The relevant clauses of the approval granted by the SIA for the aforementioned operations read thus: 3. It is noted that the broad framework within which such subsidiary shall be managed and operated in India is as follows: The franchises and Tricon India will both make contribution of a fixed percentage of their respective revenues (net of taxes) to the proposed New Company on regular basis; The proposed New Company would be a non-profit enterprise governed by the principles of mutuality. No part of the contributions or other income shall enure to the benefit of any individual contributor; The contributors will be optimally used by the proposed new Company to economise the cost of advertising and promotion cater to the specific needs of franchisees to concentrate on restaur ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... % of Revenues, in the manner directed by Tricon and/or TRIM in writing from time to time, on such local store marketing, advertising, promotional and research expenditure proposed by Franchisee and approved in advance by Tricon and/or TRIM during the relevant Accounting Period, in accordance with the requirements and guidelines set out in the Manuals, provided that if Franchisee fails to spend the full amount as directed by Tricon and/or TRIM franchisee will pay the unspent amount to TRIM within the period specified in a written demand from TRIM. Upon receipt of the unspent amount TRIM will spend the amount on regional and/or national advertising, promotions or research expenditure conducted by TRIM in its discretion....... xxx xxx xxx 4.1 Tricon may at the request of TRIM, but subject to Tricon s sole and absolute discretion pay to TRIM any such amount(s) as it may deem appropriate to support the AMP [sic] activities during any Accounting Period for the avoidance of doubt, it is clarified and agreed between the Parties that Tricon shall have no obligation to pay any such amounts if it chooses not to do so. xxx xxx xxx 8.4 In the event there is any surplus ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... y linked to sales and profit of the franchisees the contributors. Accordingly it cannot be said that such activity is immune from the taint of commerciality. Unlike in the cases of a club, the appellant Co. is not existing for any social inter course nor is it for cultural activities where the idea of profit or trade does not exist. What is essential is that there should not be any dealing with outside body which results in a benefit which promotes some commercial/business venture. There should not be any profit earning motive in any transaction directly or indirectly. In fact in the appellant s case the essence of mutuality also appears to be missing in that there is no instance or scope of say trading between persons associating together. Thus though the form taken up to conduct its revenue activity undoubtedly resemble a mutual concern but the contributions made on the other hand are undeniably for business considerations. In my opinion, taking an overall view of the intent and motive of the appellant company to form a mutual concern it can be concluded that the underlying purpose was solely for commercial consideration. Therefore in view of the above as demonstrated by the ap ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ch contributions and hence on the principle that no man can do business with himself, the excess of income over expenditure is not amenable to tax. However, in the present case the authorities below have returned a finding of fact that the fund as contributors such as Pepsi Food Ltd which do not benefit from the APM Activities. Moreover, the principle of mutuality is applicable to those entities whose activities are not tinged with commercial purpose. As a matter of fact in the instant case the parent company i.e., YRIPL which has also contributed to the brand fund is under the agreement under no obligation to do so. The contributions of YRIPL are at its own discretion. Thus, looking at the facts obtaining in the present case, it is quite clear that the principle of mutuality would not be applicable to the instant case.... 9. On cogitating over the rival submissions, we reckon that the following questions of law would arise for our consideration in the present case: (i) Whether the assessee company would qualify as a mutual concern in the eyes of law, thereby exempting subject transactions from tax liability? (ii) Whether the excess of income over expenditure in the han ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... o buttress this submission, it is urged that once the basic purpose of benefiting the actual contributors is lost, mutuality stands wiped out. 13. We have heard Mr. Balbir Singh, learned senior counsel for the appellant and Mr. V. Shekhar, learned senior counsel for the respondent. Re: Question (i): 14. The doctrine of mutuality traces its origin from the basic principle that a man cannot engage into a business with himself. For that reason, it is deemed in law that if the identity of the seller and the buyer; or the vendor and the consumer; or the contributor and the participator is marked by oneness, then a profit motive cannot be attached to such a venture. Thus, for the lack of a profit motive, the excess of income over the expenditure or the surplus remaining in the hands of such a venture cannot be regarded as income taxable under the Income Tax Act, 1961 (for short, the 1961 Act ). What is taxable under the 1961 Act is income or profits or gains as they accrue to a person in his dealings with other party or parties that do not share the same identity with the assessee. For income, there is an underlying exchange of a commercial nature between two dif ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... der to undertake the examination of mutuality, we gainfully advert to The English and Scottish Joint Cooperative Wholesale Society Ltd. v. Commissioner of Agricultural Income Tax, Assam AIR 1948 PC 142, which has been quoted with approval by this Court in Commissioner of Income Tax, Bombay City v. Royal Western India Turf Club Ltd. AIR 1954 SC 85 and Bangalore Club (supra). The aforestated stream of judicial pronouncements expound three conditions/tests to prove the existence of mutuality: (i) Identity of the contributors to the fund and the recipients from the fund; (ii) Treatment of the company, though incorporated as a mere entity for the convenience of the members and policy holders, in other words, as an instrument obedient to their mandate, and; (iii) Impossibility that contributors should derive profits from contributions made by themselves to a fund which could only be expended or returned to themselves. Whereas the legal position on what amounts to a mutual concern stands fairly settled, the factual determination of the same on a case to case basis poses a complex issue that requires deeper examination. Such examination ought to be conducted in the light of the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... interference of any alien commercial entity in the transaction. With the interference of any alien entity, the idea of conducting business with oneself is defeated and any profits or gains accruing therefrom become subject to tax liability. This proposition of law is succinctly predicated in British Tax Encyclopaedia - British Tax Encyclopedia (I), 1962 Edition, Pgs. 1200 and 1201 , which reads thus: For this doctrine to apply it is essential that all the contributors to the common fund are entitled to participate in the surplus and that all the participators in the surplus are contributors, so that there is complete identity between contributors and participators. This means identity as a class, so that at any given moment of time the persons who are contributing are identical with the persons entitled to participate; it does not matter that the class may be diminished by persons going out of the scheme or increased by others coming in It is pertinent to note that in order to determine the breach in mutuality, the court is well within its powers to go beyond the periphery of the concern and undertake an examination akin to the lifting of the veil in order to discern t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... on or TRIM and Pepsi Foods Ltd. and therefore, the amounts received from Pepsi Foods Ltd. cannot be viewed as advertising contributions from a member of the mutual undertaking as such. 21. In the present case, therefore, the assessee company is realising money both from the members as well as non-members in the course of the same activity carried on by it. This court, in Royal Western India Turf Club Ltd. (supra) has categorically held such operations to be antithetical to mutuality. We deem it apposite to take note of the dictum in Bankipur Club (supra), wherein this principle has been restated thus: 22. ...if the object of the assessee company claiming to be a mutual concern or club , is to carry on a particular business and the money is realised both from the members and from non-members, for the same consideration by giving the same or similar facilities to all alike in respect of the one and the same business carried on by it, the dealings as a whole disclose the same profitearning motive and are alike tainted with commerciality... and the resultant surplus is profit income liable to tax 22. The contention of the assessee company that Pepsi Foods Ltd., in f ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... chisees. As per the terms of the SIA approval, YRIPL and franchisees were equally obligated to make contribution of a fixed percentage to the assessee company. This requirement was incorporated as a precondition for the grant of permission to operate as a mutual concern. Clause 3 of the approval letter reads thus: The franchises and Tricon Indian will both make contribution of a fixed percentage of their respective revenues (net of taxes) to the proposed New Company on regular basis: However, drifting from this mandate, the Tripartite Agreement made it discretionary upon YRIPL to contribute to the common pool, thereby putting it at a higher pedestal than the franchisees. Clause 4.1 of the Tripartite Agreement reads thus: 4.1 Tricon may at the request of TRIM, but subject to Tricon sole and absolute discretion pay to TRIM any such amount(s) as it may deem appropriate to support the VVIP activities during the Accounting Period for the avoidance of doubt, it is clarified and agreed between the Parties that Tricon shall have no obligation to pay any such amounts if it chooses not to do so. (emphasis supplied) Thus, clause 4.1 is not in confirmity with the te ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... guidance to this effect. Literally understood, the word mutual points towards reciprocity and a mutual arrangement is one in which the members/parties have reciprocal rights or understanding or arrangement. An arrangement wherein one member is subjected to the absolute discretion of another, in such a manner that the entire liability may fall upon one whereas benefits are reaped by all, is antithesis to the mutual character in the eyes of law. 26. The contention advanced by the appellant that it is not mandatory for every member of the mutual concern to contribute to the common pool fails to advance the case of the appellant. It is no doubt true that every member of the mutual concern might not be required to contribute to the common pool at all times. However, it does not mean that one member cannot be made to contribute under any pretext whatsoever. For, that would amount to the grant of an overriding position to a member in the mutual agreement, extending upto even overruling the requests for contribution from other members for mutual necessity. It is this allpervasive overriding position of one member over the others that negates the effect of mutuality. There is a fine li ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... lus is remaining in a given assessment year, it is unlikely to reduce the liability of the franchisees in the following year as their liability to the extent of 5 per cent is fixed and non-negotiable, irrespective of whether any funds are surplus in the previous year. The only entity that could derive any benefit from the surplus funds is YRIPL, i.e. the parent company. This is antithetical to the third test of mutuality. 29. `Be that as it may, the dispensation predicated in the Tripartite Agreement may entail in a situation where YRIPL would not contribute even a single penny to the common pool and yet be able to derive profits in the form of royalties out of the purported mutual operations, created from the fixed 5 per cent contribution made by the franchisees. This would be nothing short of derivation of gains/profits out of inputs supplied by others. That cannot be countenanced as being violative of the basic essence of mutuality. The doctrine of mutuality, in principle, entails that there should not be any profit earning motive, either directly or indirectly. The third test of mutuality, quoted above, requires that the purported mutual operations must be marked by an impos ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... , clause C predicates thus: C. TRIM has been established as a wholly owned step down subsidiary Tricon to manage of the retail restaurant business, the advertising medial and promotion at regional level and national level of KFC. Pizza Hut and other brands currently owned or acquired in future by Tricon and on its parents and of its associate company. In the absence of any ambiguity, the terms of a contract are to be understood in their ordinary and natural sense, thus revealing the true intent of the contracting parties. The aforequoted clause clearly points towards the fact that the assessee company was formed to manage business on behalf of the holding company. In its true form, it was not contemplated as a non-business concern because operations integral to the functioning of a business were entrusted to it. 34. The doctrine of mutuality bestows a special status to qualify for exemption from tax liability. It is a settled proposition of law that exemptions are to be put to strict interpretation. The appellant having failed to fulfil the stipulations and to prove the existence of mutuality, the question of extending exemption from tax liability to the appellant, th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ndertaking. Such clubs are a means of social intercourse, as rightly observed by CIT (A) in the present case, and are not formed for the facilitation of any commercial activity. On the contrary, the purported mutual concern in the present case undertakes a commercial venture wherein contributions are accepted both from the members as well as non-members, as discussed earlier. Moreover, one member is vested with a myriad set of powers to control the functioning and interests of other members (franchisees), even to their detriment. Such an assimilation cannot be termed as a case of ordinary social intercourse devoid of commerciality. Re: question No. (ii): 36. Once it is conclusively determined that the assessee company had not operated as a mutual concern, there would be no question of extending exemption from tax liability. Be that as it may, to support an alternative claim for exemption, the assessee company took a plea in the written submissions that it was acting under a Trust for the contributors, and was under an overriding obligation to spend the amounts received for advertising, marketing and promotional activities. It is urged that once the incoming amount is ear ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ligation, income is diverted and never reaches the person in whose hands it is sought to be assessed... Similarly, in The Commissioner of Income Tax, Kerala, Ernakulam v. The Travancore Sugars Chemical Ltd. (1973) 3 SCC 274, this Court restated thus: 22 It is thus clear that where by the obligation income is diverted before it reaches the assessee, it is deductible. But, where the income is required to be applied to discharge an obligation after such income reaches the assessee it is merely a case of application of income to satisfy an obligation of payment and is therefore not deductible. 39. The CIT (A), while rejecting this ground, relied upon Sitaldas Tirathdas (supra), and observed thus: ... Where an assessee applies an income to discharge an obligation after the income reaches the hands of the assessee, it would be an application of income and this would resulting taxation of such income in the hands of the appellant. 40. We note that the same ground was also pressed in appeal before the Tribunal which finds mention in the Tribunal s order dated 31.01.2008 in the following words: (b) In failing to consider and appreciate that the amount rec ..... X X X X Extracts X X X X X X X X Extracts X X X X
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