Surplus shown in books of accounts in normal course cannot be treated as undisclosed income: HC

Case Law Citation:- DIT (Exemption) vs. All India Personality Enhancement & Cultural Centre for Scholars (AIPECCS) Society (Delhi High Court), Income Tax (Appeal) no. 705 of 2008 and 924 of 2009, Writ Petition (c) 3797 of 2011, Date of Judgment: 07/10/2015

Brief of the Case

Delhi High Court held In the case of DIT (Exemption) vs. All India Personality Enhancement & Cultural Centre for Scholars Society that he expression ‘undisclosed income’ would connote assets or income, which the Assessee believes to be taxable and seeks to conceal the same from the Income Tax Authorities. The surpluses, which are recorded by the Assessee in its books maintained in the normal course and which according to the Assessee are not chargeable to tax cannot be assumed to be ‘undisclosed income’ only for the reason that a return of income surrendering the said surpluses to tax has not been filed; particularly, where the Assessee, for bona fide reason, subscribes to the view that he is not required to file his return of income.

On the matter of rejecting application u/s Section 10(23C)(vi) , it is clear that for the purposes of granting approval under Section 10(23C)(vi)t, the prescribed authority would not be concerned with the compliance of the provisos to Section 10(23C)(vi) of the Act, which prescribe the manner and form in which the funds of the Assessee can be invested as well as the manner and extent to which application of income is necessary for availing the benefit of section 10(23C)(vi) . The authority’s primary function would be to satisfy himself that the threshold conditions for grant of exemption under section 10(23C) exist; that is, the educational institution exists solely for the purposes of education and not for profit.

Also it is apparent that furnishing of audit report may be necessary for seeking approval under section 10(23C) of the Act; however, failure to file the same along with application would not be fatal to the application. In the event an Assessee furnishes the report/certificate, the approval as sought by the Assessee cannot be denied.

facts of the Case

The Assessee is a Society and was registered under the Societies Registration Act, 1860 on 26th December, 1980. The aims and objects of the Assessee as specified in its memorandum of association mainly were to establish schools in India and provide good quality education to all without distinction of race or creed or caste or social status, to organize special education for Gifted Children, To arrange and provide for scholarship for education to meritorious children and to do all other acts, as are incidental and conducive to the attainment of the above aims and objects.

On 15thJanuary, 1999 a search and seizure operation was conducted on the premises of the school run by the Assessee at Mehrauli. A survey under Section 132A was also carried out at the Accounts Department within the premises of the school. During the course of the survey, the Books of Accounts which were regularly maintained by the Assessee were inventorised; however, the same were not seized.

Thereafter, a notice under Section 158BC of the Act was issued on 22nd December, 1999. In response to the aforesaid notice, the Assessee filed a return for the block period 1st April, 1988 to 15th January, 1999 showing Nil income. In the note given below the computation of income, the Assessee claimed that its income was exempt under Section 10(22)/10(23C) of the Act. The Assessee claimed that it existed solely for the purpose of education and its receipts and payments were relatable to the said purpose only.

The Assessing Officer concluded that substantial surpluses in all years except Previous Years relating to the Assessment Years 1991-92 and 1992-93 indicated that the Assessee was functioning with the motive to earn profit. The AO held that the Assessee was indulging in non-educational activities and making speculative Investments. The AO proceeded to pass the assessment order dated 31st January, 2001 assessing a sum of Rs.12,80,66,147/-, being the surpluses as recorded in the books of the Assessee, as ‘undisclosed income’ during the block period. Separate penalty proceedings under Section 158BFA (2) of the Act and under Section 271(B) of the Act were also initiated.

Contention of the Assessee

The ld counsel of the Assessee submitted that since Revenue had not challenged the order dated 4th August, 2006 passed by the Tribunal under Section 254(2) of the Act, it was not open for the Revenue to impugn the same in the present appeal. He further contended that by virtue of Section 10(22) of the Act, the income of the Assessee was not chargeable to tax and, therefore, the Assessee was also not liable to file its return of income under Section 139 of the Act.

It was point out that during the period in question, the Assessee was not claiming any benefit under Section 11 or 12 of the Act, which related to exempting income derived from property held wholly for charitable or religious purposes; but was claiming benefit of section 10(22) of the Act, which provided a specific exemption to certain educational institutions. Therefore, the provisions of Section 139(4A) of the Act, which required an Assessee claiming benefit under sections 11 and 12 of the Act to file a return if its income exceeded the maximum amount not chargeable to tax, was inapplicable. He also referred to Section 158BB(1)(c)(B) of the Act and contended that the entries recorded in the books of accounts and other documents maintained in the normal course on or before the date of search would not be assessed as undisclosed income if the income did not exceed the maximum amount not chargeable to tax.

He relied upon the decision of this Court in L.R. Gupta v. Union of India: (1992) 194 ITR 32 (Delhi) in support of his contention that the surpluses as disclosed in the regular books of accounts could not be considered as undisclosed income only for the reason that the Assessee, claiming the same to be not chargeable to tax under the provisions of the Act, had not disclosed the same in its return.

He also pointed out that notice under Section 148 of the Act had been issued to the Assessee but the same had not been proceeded with. He submitted that the pre-condition for issuance of notice under Section 148 of the Act is a belief that the income of an Assessee had escaped assessment and as the AO had decided not pursue the matter under Section 147 and 148 of the Act, it was not open for the AO to claim that the surpluses generated by the Assessee were ‘undisclosed income’. He further emphasized that the question whether the Assessee was entitled to the benefit under Section 10(22) of the Act could not be a subject matter of determination in assessment for the block period under Section 158BC of the Act.

It was next urged that the Assessee had existed solely for educational purposes and not for the purpose of profit. He submitted that merely because the Assessee had generated surpluses in certain years, the same would not indicate that the Assessee was not existing solely for educational purposes. He referred to the decisions of the Supreme Court in Queens Educational Society v. CIT: (2015)] 372 (ITR) 699 (SC); Indian Chamber of Commerce v. CIT: (1975) 101 ITR 796 (SC); Aditanar Educational Institution v. CIT: (1997) 224 ITR 310 (SC) and Oxford University Press v. CIT: (2001) 247 ITR 658 (SC) in support of his contention that the pre-dominant purpose test must be used to determine whether the Assessee was existing only for educational purposes. He submitted that if the aforesaid test is applied, it would be apparent that the Assessee was existing solely for educational purposes and not for the purposes of profit. He further submitted that the institutions managed and run by the Assessee were affiliated to the Central Board of Secondary Education (CBSE) and as per the prevalent rules, affiliation could be granted only to non-profit institutions/societies.He also referred to the objects of the Assessee Society and also drew the attention of this Court to clause 21 and 22 of the Rules and Regulations of the Society, which provided that on dissolution of the society, its properties both movable and immovable would not be distributed amongst the members but would be given to another society having similar aims and objects. He urged that the objects of the society and the Rules and Regulations prohibited distribution of any surplus and, therefore, it could not be disputed that the Assessee existed only for the purposes of education and not for profit.

Regarding the investments made by the Assessee in FDRs, BVR Plantation, Consortium Finance and other assets were concerned, Mr Vohra submitted that at the material time there was no restriction as to the investments that could be made by an educational institution claiming benefit under Section 10(22) and 10(23C) of the Act. He submitted that the restrictions to make investments other than in the form as specified under Section 11(5) of the Act were not applicable to institutions claiming exemption under Section 10(22) of the Act. Similar restrictions were imposed by proviso to Section 10(23C)(vi) of the Act by virtue of the Finance Act, 1998 w.e.f. 1st April 1999; however, by virtue of the fifth Proviso to Section 10(23C)(vi) of the Act, exemption would not be denied to an Assessee if the investments were made prior to 1st June, 1998 and that the funds did not continue to remain so invested after 30th March, 2001. The effect of the aforesaid proviso was to grant the Assessee time till 30th March, 2001 to ensure that nonconforming investments were disinvested and funds were invested in conformity with Section 11(5) of the Act.

He submitted that all investments had been returned/liquidated by the Assessee prior to the specified date, except the investment in BVR Plantation Ltd., which was not recoverable as the said company was under liquidation. He contended that in the given circumstances the exemption under Section 10(22)/10(23C) of the Act could not be denied for the reason that the Assessee had invested its funds in real estate and other investments.

He also advanced contentions to assail the order dated 29thDecember, 2010 passed by the DGIT (E) rejecting the Assessee’s application for approval under section 10(23C) of the Act. He canvassed that the scope of examination for the purposes of granting (or refusing) approval under Section 10(23C)(vi) was limited to considering whether the objects and the nature of an Assessee fell within the scope of Section 10(23C)(vi) of the Act and whether the university or institution actually existed. He submitted that the approval contemplated under Section 10(23C)(vi) is to be granted at the beginning of the assessment year and, therefore, compliance of provisos to Section 10(23C), which also included the manner of utilization of funds by the Assessee, was outside the jurisdiction of DGIT(E). He referred to the decision of American Hotel & Lodging Association, Educational Institute vs. CBDT: (2008) 301 ITR 86 (SC) in support of its contention.

In addition, it was submitted that the Assessee’s application for approval could not be rejected on account of failure on the part of the Assessee to furnish the audit report along with the application. He contended that prescribed form for making an application for approval under Section 10(23C)(vi), Form-56D, only required that the same be accompanied by audited accounts and it was not mandatory to enclose the audit report of the Chartered Accountant. Further, the Assessee had furnished the audit report when called upon to do so and, therefore, its application for approval under Section 10(23C)(vi) of the Act could not be rejected for the reason that it was not accompanied with an audit report.

Contention of the Revenue

The ld counsel of the revenue contended that the decision of the Tribunal to recall its earlier order dated 25th June, 2004 was patently erroneous. He pointed out that the only reason on account of which the Tribunal had recalled its earlier order dated 25th June, 2004 was non-consideration of certain grounds urged by the Assessee. He contended that the Tribunal had completely reheard the matter and had decided the appeal contrary to the earlier decision made on 25th June, 2004. He referred to the decision of the Madras High Court in Vyline Glass Works Ltd. v. Assistant Commissioner of Wealth Tax: (2015) 371 ITR 355 (Mad.) in support of his contention that where a Tribunal renders a judgment without dealing with the specific factual situation, the same would be an irregularity of procedure and would not warrant a recall of the order. He submitted that, therefore, the Tribunal’s order dated 4th August, 2006 was erroneous and was liable to be set aside.

He, however, submitted that notwithstanding the fact that the Tribunal’s decision dated 4th August, 2006 had not been challenged at the material time, the Revenue could, nonetheless, challenge the same along with the final order. He referred to the Full Bench decision of this Court in Lachman Dass Bhatia v. Assistant Commissioner of Income Tax: ITA 724/2010, decided on 6th August, 2010 and drew the attention of this Court to paragraphs 21 to 24 of the said decision in support of his contention that where an order under Section 254(2) of the Act is passed recalling the earlier order and the main order under Section 254(1) is passed thereafter, both the said orders could be challenged in an appeal preferred against the later order under Section 254(1) of the Act.

It was next contended that the Tribunal had erred in accepting the Assessee’s contention that the surpluses recorded in its books of accounts maintained in the normal course could not be considered as ‘undisclosed income’. He contended that since the Assessee had not filed its return of income, it was not open for the Assessee to urge that the surplus recorded in its books was disclosed. He contended that it was incumbent upon an Assessee claiming exemption under Section 10(22) of the Act to file its return of income if the same exceeded the maximum amount not chargeable to tax ignoring the provisions of Section 11 and 12 of the Act.

He submitted that it was not open for the Assessee to consider its income as not chargeable to tax under Section 10(22) of the Act and avoid filing a return of income. He argued, empathetically, that the question whether the Assessee’s income was not taxable by virtue of Section 10(22) of the Act would arise only when the Assessee disclosed the same by filing a return. He referred to the decision of the Bombay High Court in Director of Income Tax v. Malad Jain Yuvak Mandal Medical Relief Centre: (2001) 250 ITR 488 (Bom.) in support of his contention that the Assessee was obliged to file its return even though it claimed its income was not chargeable to tax by virtue of Section 10(22) of the Act.

In addition to the non disclosure of surpluses recorded in the books, he submitted that the unaccounted cash of Rs. 44 Lacs was found in the residence of Col. Satsangi and the same would warrant making an assessment under Chapter XIV-B.

He also contested the Assessee’s claim that it was entitled to exemption under Section 10(22)/10(23C) of the Act. He argued that the Assessee had consistently generated surpluses after meeting its revenue and capital expenditure and this indicated that the pre-dominant object of the Assessee was not to impart education but to generate profits and the activity of running and managing educational institutions was carried on, predominantly, with the object of generating profits. In addition, he referred to the findings recorded by the Tribunal in its order dated 25th June, 2004 where it was held that non-educational activities were being conducted by the Assessee which included sale and purchase of immovable properties; investment of `4,33,620/- made with BVR Plantations and `2 lacs investment made with Consortium Finance; uncontrolled utilisation of funds by the Chairman of the Assessee; purchase of farm by the daughter of the Chairman of the Assessee; and advances made to the wife of the Chairman of the Assessee. He submitted that the instances noted by the Tribunal clearly indicated that the Assessee was not carrying on its activities solely for the purposes of education but was also indulging in other commercial activities in addition to benefiting the Chairman of the Assessee and his family members.

He referred to the following decisions in support of his contention that the Assessee was not eligible for claiming the benefit of Section 10(22) /10(23C) of the Act: Aditanar Educational Institution v. ACIT: (1997) 224 ITR 310 (SC), ACIT v. Surat Art Silk Cloth Manufactures Association: (1978) 121 ITR 1 (SC), American Hotel & Lodging Association, Educational Institute v. CBDT: (2008) 301 ITR 86 (SC) and Vishvesvaraya Technological University v. ACIT: (2014) 362 ITR 279 (Karnataka).

 Held by CIT (A)

CIT (A) upheld the order of AO. However, the quantum of undisclosed income was reduced to Rs.10,08,24,264/- as a consequence of allowance on account of depreciation.

Also in respect of penalty under Section 158BFA (2), the appeal of the assessee was rejected.

Held by ITAT

ITAT upheld the AO’s finding that the Assessee was not functioning solely for the purposes of education and, therefore, was not eligible for exemption under Section 10(22) of the Act.

Subsequently on the basis of miscellaneous application filed by the assessee, ITAT accepted that it had not considered certain grounds urged by the Assessee and by an order dated 4th August, 2006, recalled its earlier order. Thereafter ITAT passed an order dated 28th September, 2007 and allowed the Assessee’s appeal. It was held that surpluses disclosed by the Assessee in the Books of Accounts maintained in the regular course could not be considered as ‘undisclosed income’ of the Assessee under Chapter XIV-B of the Act. The Tribunal further accepted the contention of the Assessee that it was not required to file its return as its income was exempt under Section 10(22) of the Act.

In respect of penalty under Section 158BFA (2), ITAT allowed the assessee’s appeal.

Held by High Court

Whether the Revenue can impugn the Tribunal’s order dated 4th August, 2006

 It is relevant to note that the Assessee had, by way of an appeal (being ITA No.275/2005) filed in this court, impugned the order dated 25th May, 2004 passed by the Tribunal. The Assessee had also filed an application before the Tribunal under Section 254(2) of the Act for recall of the said order, in which the Assessee succeeded resulting in the order dated 4th August 2006; the same was also informed to this Court. On 6th November, 2013, in proceedings relating to the appeal filed by the Assessee i.e. ITA No. 275/2005, the counsel for the Revenue informed this court that the Revenue was likely to file an appeal against the Tribunal’s order of 4th August, 2006 and the hearing was adjourned. However, the Revenue neither filed any appeal against the order dated 4th August, 2006 nor filed any other proceedings to challenge the said order. In the circumstances, the Assessee’s appeal (ITA No. 275/2005) against an order dated 25th June, 2004 was disposed of by this Court on 13th February, 2014, as being infructuous. The only inescapable conclusion that can be drawn is that the Revenue had accepted the order dated 4th August, 2006 passed by the Tribunal and, thus, it would not be open for the Revenue to challenge the same in the present proceedings.

In the given circumstances, it was always open for the Revenue to challenge the Tribunal’s order dated 4th August, 2006 by filing an appeal on a substantial question of law, if it considered that the order dated 4th August, 2006 had partly amended the order dated 25th June, 2004. It was also open for the Revenue to challenge the said order by filing a writ petition as observed by the Full Bench of this Court in the aforementioned decision. However, the Revenue did neither. In the circumstances, it would not be open for the Revenue to assail the order dated 4th August, 2006 in the present appeals in the manner as is sought to be argued on behalf of the Revenue.

Accordingly, the first question – question A, is answered in the negative; that is, against the Revenue and in favour of the Assessee.

Whether block assessment under section 158BC could be made in respect of surpluses disclosed in the books maintained in the normal course.

 It is not disputed that the AO would have jurisdiction to make an assessment under Section 158BC only if the search and seizure operations carried out by the income tax authorities revealed any ‘undisclosed income’. Admittedly, other than the surpluses as disclosed by the Assessee in the books maintained by it in the normal course of its activities, the AO has not made any addition or bought to tax any income in the hands of the Assessee. Thus, the point in issue is whether the surpluses as disclosed in the books of accounts could be considered as ‘undisclosed income’ of the Assessee.

The expression ‘undisclosed income’ would connote assets or income, which the Assessee believes to be taxable and seeks to conceal the same from the Income Tax Authorities. The surpluses, which are recorded by the Assessee in its books maintained in the normal course and which according to the Assessee are not chargeable to tax cannot be assumed to be ‘undisclosed income’ only for the reason that a return of income surrendering the said surpluses to tax has not been filed; particularly, where the Assessee, for bona fide reason, subscribes to the view that he is not required to file his return of income. Also notice issued u/s 148 for income escarpment was not pursued by the AO. Clearly, the only inference that can be drawn is that either the AO was satisfied that the income of the Assessee had not escaped assessment and/or that the proceedings under Section 147/148 of the Act were not maintainable. It is also apparent that the AO was in knowledge of the activities carried on by the Assessee.

Although the judgment of L.R. Gupta v. Union of India (1992) 194 ITR 32 (Delhi) was rendered in the context of Section 132 of the Act the same would be equally applicable to the issue involved in this case – whether the surpluses recorded by the Assessee in its books of accounts could be considered as undisclosed income. This is so, because the search and seizure operations under Section 132 of the Act and the assessment that follows constitute an integral part of the scheme to tax undisclosed income. Further, by virtue of clause (c) of Section 132(1) of the Act, the expression ‘undisclosed income’ for the purposes of Section 132 of the Act also includes “income of property, which has not been, or would not be disclosed for the purposes of the Indian Income Tax Act, 1922 (11 of 1922) or this Act” and this condition is similar to that as specified in Clause 158B (b) of the Act.

The contention that the Assessee had not filed its return would render the entire surpluses as disclosed in its books as undisclosed income is not sustainable. According to the Assessee its income was entirely exempt under Section 10(22) of the Act and hence it was not required to file a return. Section 139(1) of the Act enjoins every person to file a return of income if the income for which the person is assessable under the Act exceeds the maximum amount, which is not chargeable to income tax. Indisputably, the income of an Assessee falling within the scope of Section 10(22) of the Act is not to be included in the total income of the Assessee. Thus, if such exemption was available, the Assessee was not obliged to file its return of income as its income would fall below the maximum amount which was not chargeable to income-tax.

It is relevant to note that Section 10 of the Act provides for exclusions from the total income of an Assessee at the threshold. Such exclusions are qualitatively different from the exemptions, allowances or deductions from the total income of an Assessee which may otherwise be available under other provisions of the Act such as Chapter VI-A. This is so because incomes exempt under Section 10 of the Act are not considered a part of total income of an Assessee.

It was urged on behalf of the Revenue that whether an Assessee is entitled to exemption under Section 10(22) of the Act could only be assessed once the Assessee files a return and, therefore, it was necessary for the Assessee to do so in the present case. We are unable to accept this contention. The language of Section 139(1) of the Act is unambiguous and a person is required to file a return only if his income exceeds the maximum amount not chargeable to tax under the Act. We, respectfully, are unable to concur with the views of the Bombay High Court in Malad Jain Yuvak Mandal Medical Relief Centre (supra); if the reasoning as canvassed on behalf of the Revenue is accepted, all Assessee whose incomes are below the taxable limit would also necessarily have to file a return for verification of their respective incomes. In our view, this view is not supported by the plain language of Section 139 of the Act.

It is relevant to note that even after the insertion of Sub-section 4C of Section 139 of the Act, university and educational institutions, which were covered under clause (iiiab) and (iiiad) of Section 10(23C) of the Act were excluded from the obligation to furnish their returns. The Memorandum explaining the provisions of Finance Bill, 2002 also expressly indicated that Sub-section 4C was proposed to be inserted in Section 139 because certain institutions claiming exemption under Section 10 were not obliged to file their returns and such amendment was, therefore, necessary to ascertain whether such institutions were complying with the conditions of the exemption claimed by them. Thus, in the facts of the present case, even if it is found that the Assessee was not entitled to benefit of Section 10(22)/10(23C) of the Act, its income as recorded in its regular books of accounts, nonetheless could not be treated as ‘undisclosed income’

In view of the aforesaid, the assessment order made by the AO under Section 158BC of the Act is not sustainable as in the absence of any undisclosed income, the question of framing a block assessment does not arise. We find no infirmity with the decision of the Tribunal in setting aside the block assessment order dated 31st January, 2001. We accept the contention advanced on behalf of the Assessee that the question whether the income of the Assessee was liable to be excluded from its total income by virtue of Section 10(22) of the Act was an issue which could not be made the subject matter of block assessment under Section 158BC, as the same is concerned only with the assessment of ‘undisclosed income’.

Whether the Assessee is entitled to benefit under section 10(22) /10(23C) of the Act.

 Insofar as the question whether the university or educational institution existing solely for educational purposes could be denied the benefit of Section 10(22)/10(23C)(vi) on the ground that its receipts exceeded its expenditure is concerned, the same is no longer res integra. It is now well established that an educational institution existing solely for educational purposes would not cease to be so only for the reason that some of its activities have yielded surpluses. The same views were expressed in the case of Sole Trustee, Loka Shikshana Trust v. CIT: (1975) 101 ITR 234 (SC); (1976) 1 SCC 254.

The aforesaid view was reiterated by the Supreme Court in a later decision in Addl. Commissioner of Income Tax v. Surat Art Silk Cloth Manufacturers Association: (1980) 121 ITR 1 (SC), wherein the Supreme Court applied the predominant object test for determining whether the Assessee existed solely for charitable purposes or for making profit. In Aditanar Educational Institution v. ACIT: (1997) 224 ITR 310 (SC), the Supreme Court reiterated that the predominant object test needs to be applied to determine whether the institution exists solely for educational purposes. In a recent decision, the Supreme Court in Queen’s Educational Society v. CIT: (2015) 372 ITR 699 (SC) summarized the law on this issue.

In the facts of the present case, it is seen that the objects of the Assessee society are solely for the purposes of education and not for purpose of profit. Distribution of surpluses is prohibited. Further, in the event of dissolution of the Assessee society, its assets would have to be transferred to another institution carrying on similar activities and the same cannot be distributed to its members. The Assessee has been running three schools that are affiliated to CBSE; admittedly, this which would not be permissible in case the Assessee did not exist solely for educational purposes and/or if the Assessee was found to be pursuing the profit motive. The surpluses generated by the Assessee are necessarily to be applied towards its charitable objects. In view of the aforesaid, the exemption under Section 10(22) of the Act cannot be denied to the Assessee only for the reason that it had been generating surpluses.

The exemption under Section 10(22) of the Act was not conditional on the funds of the institutions being invested in the form and manner as required under Section 11(5) of the Act. Thus, the university and the educational institution was free to apply and invest its funds in the manner as it deemed fit. This Court in the case of Director of Income Tax (Exemption) v. Prakash Education Society: (2006) 286 ITR 288 (Del.) considered a case where an Assessee had deployed its funds to purchase rights and bonus shares of companies and upheld the Tribunal’s decision that investments made by the Assessee therein did not disentitle the Assessee to exemption under Section 10(22) of the Act.

It is also relevant to note that Section 10(22) of the Act was omitted by virtue of Finance (No.2) Act, 1998 w.e.f. 1st April, 1999, and the provisions to exempt income of universities and educational institutions existing solely for educational purposes were introduced in Section 10(23C) of the Act by introduction of clauses (iiiab), (iiiad) and (vi) in that section. Clause (iiiab) excludes from the net of income tax, any income received by any university or educational institution existing solely for educational purposes which is wholly and substantially financed by the Government. Clause (iiiad) exempts educational institutions whose annual receipts do not exceed the prescribed limit. Clause (vi) extends the exemption to universities and educational institutions, existing solely for educational purposes and not for purposes of profit, which are approved by the prescribed authority.

The provisos to Section 10(23C) provided for several restrictions and conditions including the extent of income that could be accumulated and the form and manner in which its funds have to be invested, to avail the exemption under Section 10(23C) of the Act. It is relevant to note that the aforesaid conditions do not apply to universities and educational institutions, which are covered under clause (iiiab) and (iiiad) of Section 10(23C) of the Act but only to those institutions, which seek exemption under clause (vi) of Section 10(23C) of the Act.

The Central Board of Direct Taxes, by a Circular No. 772, dated 23^rd December, 1998 explained the object of the amendments to Section 10(22) and 10(23C). It is clear from the above that the restriction in accumulating surpluses generated by a university or an educational institution and investing the funds in a manner provided under Section 11(5) of the Act were introduced for the first time w.e.f. 1st April, 1999 and such conditions were not applicable for claiming exemption under Section 10(22) of the Act. In view of the above, the exemption available under Section 10(22) and 10(23C) could not be denied to the Assessee on the ground that it had invested its funds contrary to Section 11(5) of the Act, as the said condition was introduced by the fifth proviso to Section 10(23C) only w.e.f. 1st April, 1999.

With regard to the advances made to Col. Satsangi, it was explained that it was for the purposes of acquiring land at Malbaro, Gurgaon for the purposes of the Assessee. It was further asserted that the land so purchased had been registered and mutated in the name of the society. In the aforesaid facts, we find it difficult to accept that granting advances to persons involved in managing the schools and/or the affairs of the Assessee would disentitle the Assessee from the benefit of Section 10(22)/10(23C)(vi) of the Act.

As indicated hereinbefore, the activities of the Assessee must be viewed in the overall perspective of its nature and its principal object. It is not disputed that the surpluses generated by the Assessee could not be distributed to its members and there is also no allegation that the funds of the Assessee had been so distributed. The fact that certain advances had been made to Col. Satsangi and some of its family members who were also involved in running the school cannot be construed as diluting the predominant object of the Assessee. Seen from the overall perspective, it could hardly be disputed that the predominant activity of the Assessee was managing schools and the substratal purpose of its activities was education. Thus, in our view, the conclusion that the Assessee did not exist solely for educational purposes, but for the purposes of profit on the basis that it had advanced the aforesaid sums to Col. Satsangi and/or his family members who were involved in the affairs of the Assessee, is unwarranted.

Thus, in our view, the Assessee would qualify for exemption under Section 10(22)/10(23C). Accordingly, the fourth question – question D, is answered in the affirmative, against the Revenue and in favour of the Assessee.

Rejection of application for approval u/s 10(23C)

 We find considerable merit in the Assessee’s contention that for purposes of granting approval under Section 10(23C)(vi) of the Act, the prescribed authority, i.e. DGIT(E), would not be concerned with the compliance of the provisos to Section 10(23C)(vi) of the Act, which prescribe the manner and form in which the funds of the Assessee can be invested as well as the manner and extent to which application of income is necessary for availing the benefit of section 10(23C)(vi) of the Act. DGIT (E)’s primary function would be to satisfy himself that the threshold conditions for grant of exemption under section 10(23C) exist; that is, the educational institution exists solely for the purposes of education and not for profit.

In this regard, the DGIT (E) has to examine the Charter of the Society/Trust including its objects as also the bye-laws, rules and regulations for conduct of affairs of the Society/Trust. The DGIT (E) also has to satisfy himself that an educational institution does, in fact, exist. The provisos to Section 10(23C) contain further requirements that need to be complied with – such as applying minimum of 75% of income in the relevant year and investing accumulated funds only in permissible securities – for availing the benefit under section 10(23C)(vi). However, the same can be examined by the AO only at the end of the relevant period and cannot be the subject matter of enquiry at the threshold while considering an Assessee’s application for the requisite approval. In American Hotel & Lodging Association Institute (2008) 301 ITR 86 (SC), the Supreme Court had accepted the aforesaid view.

Having held that the prescribed authority is not required to examine whether the Assessee has complied with the provisos to section 10(23C) of the Act while granting approval under section 10(23C)(vi) of the Act, we must also add that the prescribed authority would also necessarily have to examine the manner in which the affairs of the university or an educational institution have been conducted in the past for the purposes of considering whether the Assessee qualifies the threshold requirement of Section 10(23C)(vi). If it is found that the Assessee has been carrying on its activities for the purposes of profit, contrary to its objects, the prescribed authority would be justified in rejecting the application for approval under Section 10(23C)(vi) of the Act. In such circumstances, it would not be open for an Assessee to claim that the approval be granted only because the objects prohibit pursuing any purpose other than as specified under Section 10(23C) of the Act. It would be well within the powers of the prescribed authority to take into account the actual nature of the functions and activities carried on by an Assessee.

However, in the facts of the present case, we are unable to accept that the Assessee was not pursuing a “charitable purpose” within the meaning of section 2(15) of the Act.

Whether the approval could be denied to the Assessee on account its failure to file the audit report along with its application in Form- 56D.

There are several provisions under the Act, including under Chapter VI-A of the Act, that require the Assessee to file audit reports/certificates for claiming benefit under those provisions. In that context, the Courts have held that the exemption/allowance claimed by the Assessee could not be denied if the audit report/certificates is not filed along with returns but is provided subsequently. At this stage reference may be made to the decision of the Full Bench of Punjab & Haryana High Court in Commissioner Income Tax v. Punjab Financial Corporation: (2002) 254 ITR 6 (P&H).

Mention may also be made of Circular No. 689 of 1994 issued by the Central Board of Direct Taxes in the context of section 143(1)(a) of the Act. The said circular, inter alia, provides that an adjustment under section 143(1)(a) could be made if there was an omission to furnish any information, which was required under a specific provision of the Act to be furnished along with the return, to substantiate any claim.

It is apparent from the above that furnishing of report/certificate is necessary, if required under any provision of the Act; however, omission to furnish the same would not disentitle the Assessee to the benefit of the statutory provision, if the Assessee subsequently furnishes the report/certificate.

Taking a cue from the above, it is apparent that furnishing of audit report may be necessary for seeking approval under section 10(23C) of the Act; however, failure to file the same along with application would not be fatal to the application. And, in the event an Assessee furnishes the report/certificate, the approval as sought by the Assessee cannot be denied. Thus, in our view, DGIT(E) was not justified in denying the Assessee approval under Section 10(23C)(vi) on the ground that the audit report had not been furnished along with the application but had been furnished by the Assessee subsequently, prior to the rejection of the application.

Accordingly, appeal of the assessee allowed.

Regards

KK Singh
Prop - KK Sir's Classes
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