Regarding "Double deduction" issue in charitable trusts .
In other words, Is depreciation permissible when the entire cost of the asset
has been allowed as application of Income?
by Ms.Bhavya Rangarajan, Advocate,
and Ms.B.Mala, CA, Associate,
M/s Subbaraya Aiyar, Padmanabhan & Ramamani Advocates, Chennai
(Disclaimer: This content of the article relates to date of published and the IT Act provisions applicable at that time)
Income from property held under trust
2 The Income-tax Act grants exemption to income from property held
under trust for religious or charitable purposes, subject to the
fulfillment of certain conditions laid down under the Act. This
exemption is provided under Sec. 11. The relevant part of Clause 1 of
the said section reads as follows:
“Subject to the provisions of sections 60 to 63, the following
income shall not be included in the total income of the previous year
of the person in respect of the income-
(a) income derived from property held under trust wholly for
charitable or religious purposes, to the extent to which such income
is applied to such purposes in India; and, where any such income is
accumulated or set apart for application to such purposes in India,
to the extent to which the income so accumulated or set apart is not
in excess of [fifteen] per cent of the income from such property;......"
So, we see that income from property held under trust is exempt. The
basic condition for claiming the exemption is that income should be
derived from the property held under a trust and the said income
should be applied for charitable or religious purpose in India.
Income to be determined on commercial principles
The income derived from trust property has to be determined on normal
commercial manner without classification under the various heads set
out in Sec. 14. The various heads of income will not come into play
here. The following decisions lay out this principle
In CIT Vs Trustee of H.E.H. The Nizam's
Supplemental Religious Endowment Trust 127 ITR 378 (AP),
it was held that trust not being a business undertaking, its
income has to be determined as per its books of account. In this
case, the Court held that all outgoings, irrespective of the fact
that they relate to the assessment of the previous years, constitute
expenditure and are to be excluded from the income of the trust.
A similar view was held in CIT Vs. Ganga Charity
Trust Fund 162 ITR 612 (GUJ) and Gonvindu
Naicker Estate Vs. ADIT 248 ITR 368 (Mad).
In CIT Vs The Estate of Shri V.L. Ethiraj 136 ITR 12 (MAD),
the Court held as under:
“The language of s. 11(1)(a) makes it clear that the income
derived from the property held under trust wholly for charitable and
religious purposes, to the extent to which such income is applied to
such purposes in India, is excluded. When once the income from the
property as such is excluded, there is no question of computing the
income from the property by applying provisions of s. 14.
Therefore, it is clear that the Tribunal has committed an error in
holding that as a first step the ITO has to determine the different
heads of income, with reference to the statutory deductions provided
for in the relevant sections and thereafter should arrive at the
total income. Consequently, the Tribunal is in error in giving the
directions which it did. Since there is no question of computing the
income under different heads with reference to the relevant statutory
deduction for the purpose of determining the income under s. 11(1),
the question of allowing any other outgoing by way of expenditure in
addition to the statutory deductions does not arise”
Similarly, in CIT Vs Rao Bahadur Calavala Cunnan Chetty
Charities, 135 ITR 485 (Mad), the Court held that the
expression "income" has to be understood in the popular or
general sense and not in the sense in which the income is arrived at
for the purpose of assessment to tax by the application of some
artificial provisions either giving or denying deduction. Taking into
account the purpose for which the conditions of Sec. 11(1)(a) are
imposed, it would be clear that one has to consider the income as
arrived at in the context of what is available in the hands of the
assessee, subject of course to any adjustment for expenses extraneous
to the trust. If the expression "income" is so understood,
then one has to take the accounts of the assessee with
reference to the receipts and deduct therefrom the expenses necessary
for earning or looking after that income. The net amount that remains
would be available for distribution or application for charitable
purpose. In applying the income for charitable purposes,
even capital expenditure may be incurred. Therefore, the nature of
the expenditure in the hands of the entity which receives the money
is not the criterion. So long as the assessee disburses the
amount for charitable purposes, the assessee would have
complied with that part of the requirement of Sec. 11, namely,
application of the income for charitable purposes. Therefore, the
income from the properties held under trust would have to be arrived
at in the normal commercial manner without reference to
the provisions which are attracted by Sec. 14.
A similar view has been taken in CIT Vs Sheth
ManilalRanchhoddas Vishram Bhavan Trust 198 ITR 598 (Guj) wherein
it was held that the income from the properties held under trust
would have to be arrived at in the normal commercial manner without
classification under the various heads set out in Sec. 14. It held
that the expression "income" has to be understood in the
popular or general sense and not in the sense in which the income is
arrived at for the purpose of assessment to tax by application of
some artificial provisions either giving or denying deduction.
Therefore, it is clear from the above that the income of the trust is
to be calculated on commercial principles.
Analysis of the term ‘applied’
Next, we look into the term ‘applied’. The term ‘applied’ is
of crucial importance. This word envisages actual application of the
income for the purposes of the trust. It cannot be taken to mean
‘spent’. Rather, it is the application of income. For instance,
in CIT Vs. Trustees of H. E. H. the Nizam’s Charitable Trust
[1981] 131 ITR 497 AP, the sanction was communicated to the
donee but disbursement in respect thereof did not take place during
the year. The Court held that it is not correct to equate the word
"applied" with the word "spent". If the
Legislature had intended that the amounts should actually be spent,
there was nothing preventing it from using that word. Therefore, as
there was no doubt that the money was sanctioned for a specific
purpose, it was said to be ‘applied’.
The Supreme Court in the case of Gangabai Charities Vs. CIT
(1992) 197 ITR 416 held that the crux of the statutory
exemption under section 11(1)(a) of the Act is not the income earned
from property held under trust but the actual application of the said
income for religious and charitable purposes.
Entire cost of the asset has been allowed as application of
income
An issue to be considered is whether depreciation will be allowed
when the entire cost of the asset has been allowed as application of
income. Depreciation on assets of a trust is to be deducted for the
purpose of calculating the income of a trust. This is because of the
fact that the concept of commercial income necessarily envisages
deduction of depreciation on assets of the trust.
Depreciation
Depreciation is a noncash expense that reduces
the value of an asset as a result of wear and tear, age or
obsolescence. Depreciation is allowed as a deduction under the Income
Tax Act. In CIT
Vs. Alps Theatre
[1967]
65 ITR 377 (SC)., it
was held that depreciation is allowable as a deduction
both according to accountancy principles and according to the Indian
IT Act. If not, one would not have a true picture of the real income
of the business. In CIT Vs. Raipur
Pallottine Society 180 ITR 579 (MP), it
was held that a charitable trust is entitled to depreciation in
respect of assets held by it.
The issue which then arises is whether allowing depreciation will
lead to a double deduction.
Allowing depreciation in the computation of income to be
applied will not lead to a double deduction.
Deduction of depreciation is different from application of income, as
has been explained in following case laws.
In CIT Vs Raipur Pallottine Society 180
ITR 579 (MP), it was held that depreciation on assets held by assessee-trust provided in books of accounts is
allowable. If depreciation is not allowed as a necessary deduction
for computing the income of charitable institution, then there would
be no way to preserve the corpus of the trust for deriving income.
The Revenue’s contention that depreciation under Sec. 32 of the Act
could be allowed only when income was computed under the head
"Business" falling under Sec. 28 of the Act was not
accepted and in this regard, the court relied on the observations of
the Karnataka High Court in CIT Vs. Society of the Sisters of
St. Anne (1984) 146 ITR 28 (Kar).
In Director of Income Tax (Exemption) Vs. Framjee Cawasjee
Institute (1993) 109 CTR 463 (Bom), the Court held that
depreciation on depreciable assets had to be taken into account
in computing the income of the trust although the amount
spent on acquiring such assets had been treated as application of
income of trust in the year in which assets were acquired. The
Tribunal had clarified the position by stating that:
“When the ITO says that full expenditure has been allowed in the
year of the acquisition of the assets, what he really means is that
the amount spent on acquiring these assets had been treated as
application of income of the trust in the year in which the
income was spent in acquiring these assets. This does not mean that
in computing income from those assets in subsequent years,
depreciation in respect of those assets cannot be taken into
account.” As the position was clear, the Court declined the
reference.
In CIT Vs. Tiny Tots Education Society (2011) 330 ITR 21
(P&H), the Court held that depreciation is
allowable on capital assets from the income of charitable trust for
determining the quantum of funds which have to be applied for
the purposes of the trust in terms of Sec. 11.
The provision relating to compulsory application of income is
altogether a different concept and would come into play only after
the income is determined. In determining the income,
depreciation has to be taken into account. Application
of income is not computation of income of the charitable
institution. Therefore, the question whether depreciation is to be
allowed or not has nothing to do with the application of income.
Income is always to be computed on commercial principles and as per
system of accounting followed by the assessee, subject always to the
statutory provisions.
A similar view has been held in CIT Vs Market Committee, PIPLI
330 ITR 16 (P&H) wherein depreciation was allowed
on capital assets of the charitable trust for determining the quantum
of funds to be applied for the purposes of the trust in terms of Sec.
11. The court was of the view that depreciation in case of trusts was not a double deduction as it was not an expenditure; it only reduced
the percentage of funds available for charitable or religious purposes.
It negatived the claim of the Revenue which relied on the decision in
Escorts Ltd. Vs. Union of India (1993) 199 ITR 43 (SC)
The Escorts Ltd. case distinguished
The P&H Court in Market Committe, Pipli (supra) distinguished the case as follows:
In the Escorts case, two deductions were claimed under both Sections
32(1) (ii) and 35(1)(iv) of the Act. The assessee therein had
incurred expenditure of a capital nature on scientific research
relating to the business which resulted in acquisition of an asset,
and had claimed depreciation on the asset under Section 32 and 100%
deduction as expenditure on scientific research under Section
35(1)(iv)
The Apex Court had observed that: “…. Where a capital asset
used for scientific research related to the business of the assessee
is also ipso facto an asset used for the purpose of the business, it
is impossible to conceive of the legislature having envisaged a
double deduction in respect of the same expenditure, one by way of
depreciation under Sec. 32 of the IT Act, 1961 and other by way of
allowance under Secs. 35(1)(iv) of a part of the capital expenditure
on scientific research, even though the two heads of deduction do not
completely overlap and there is some difference in the rationale of
the two deductions......"
However, in the instant case, the trust is not claiming double
deduction on account of depreciation. The income of the assessee
being exempt, the assessee is only claiming that depreciation should
be reduced from the income for determining the percentage of funds
which have to be applied for the purposes of the trust. It cannot be
held that double benefit is given in allowing the claim for
depreciation for computing income for the purposes of Sec. 11.
Hence, the Escorts case was distinguished and reliance was placed by
the Court on CIT Vs. Society of the Sisters of St. Anne, CIT Vs.
Raipur Pallottine Society, CIT Vs. Sheth Manilal Ranchhoddas Vishram
Bhavan Trust etc.
Decision following Escorts Ltd. case
The Kerala High Court however followed the Escorts Ltd. (supra) decision in Lissie
Medical Institutions Vs CIT (2012) 245 KLR 525 and laid
down that after allowing cost of acquisition as application of income
for charitable purposes and over and above if depreciation is claimed
on such assets, so much of the depreciation allowed will generate
income outside the books of account and unless the depreciation is
simultaneously written back by the assessee as income available for
application for charitable purposes in the next year, there will be
violation of Sec. 11(1)(a) of the Act.
The Court held that:
a) depreciation could not be allowed when income itself was exempt as
it will confer double benefit which is not permissible; and
b) in the absence of clear statutory indication to the contrary, the
statute should not be read as to permit an assessee two deductions on
the same expenditure.
The Court failed to note that the Escort’s case was not
the case of a charitable trust/institution involving the
question as to whether its income should be computed on commercial
principles in order to determine the amount of income available for
application to charitable purposes.
The Court also relied on the CBDT clarification obtained from
the Central Board wherein they have stated as follows:
"The Central Board of Direct Taxes is
of the considered view that where an assessee has acquired an asset
through application of income and has also claimed this amount as
expenditure in its income expenditure account, depreciation on such
asset would not be allowable to the assessee. Such notional statutory
deductions like depreciation, if claimed as deduction while computing
the income of the 'the property held under trust' under the relevant
head of income, is required to be added back while computing the
income for the purpose of application in the income expenditure
account. This would imply that a correct figure of surplus from the
trust property is reflected in the Income & Expenditure account
of the trust to determine the income for the purpose of application
under section 11 of the Income Tax Act. This would reduce the
possibility of revenue leakage which may be a cause for generation of
black money.”
The Court failed to note that the CBDT was dealing with the larger
issue of checking generation of black money and the CBDT has not
categorically held that charitable trusts are not entitled for the
claim for depreciation.
Further CBDT circulars are not binding on the assessee. Moreover, the
statute does not expressly state that depreciation is not allowable
in computing the income of charitable trusts.
Subsequent decisions
However, subsequently, in the same year, the High Court of Delhi
dealt with a similar issue in DIT Vs. Vishwa Jagriti Mission
and once again distinguished the Escorts Ltd. case (supra)
In DIT Vs. Vishwa Jagriti Mission (2012) 73 DTR (Del) 195, the
Court held that in computing the income of a charitable
institution/trust, depreciation of assets owned by the
trust/institution is a necessary deduction on commercial principles.
The amount of depreciation debited to the accounts of the charitable
institution has to be deducted to arrive at the income available for
application to charitable and religious purposes. It also
distinguished the Escorts Ltd. case and held
that:
“…. In the Escorts case, the Supreme
Court was not concerned with the case of a charitable
trust/institution involving the question as to whether its
income should be computed on commercial principles in order to
determine the amount of income available for application to
charitable purposes. It was a case where the assessee was
carrying on business and the statutory computation
provisions of Chapter IV-D of the Act were applicable. In the present
case, we are not concerned with the applicability of these
provisions. We are concerned only with the concept of commercial
income as understood from the accounting point of view. Even under
normal commercial accounting principles, there is authority for the
proposition that depreciation is a necessary charge in computing the
net income. Secondly, the Supreme Court was concerned with the case
where the assessee had claimed deduction of the cost of the asset
under Section 35 (1) of the Act, which allowed deduction for capital
expenditure incurred on scientific research. The question was whether
after claiming deduction in respect of the cost of the asset under
Section 35 (1), can the assessee again claim deduction on account of
depreciation in respect of the same asset. The Supreme Court ruled
that, under general principles of taxation, double deduction in
regard to the same business outgoing is not intended unless clearly
expressed. The present case is not one of this type, as rightly
distinguished by the CIT(Appeals).”
In CIT Vs. Institute of Banking Personnel 264 ITR 110, the
Court followed the principle laid down in CIT vs. Munisuvrat
Jain (1994) Tax LR 1084 (Bom) and held that depreciation is
allowable on the assets the cost of which has been fully allowed as
application of income under Sec. 11 in past years. The Court rejected
the argument of the Revenue that that depreciation can be allowed as
deduction only under Sec. 32 of the IT Act and not under general
principles; and held that normal depreciation can be considered
as a legitimate deduction in computing the real income of the
assessee on general principles or under Sec. 11(1)(a) of the IT Act.
It held that income of a charitable trust derived from building,
plant and machinery and furniture was liable to be computed in normal
commercial manner although the trust may not be carrying on any
business and the assets in respect whereof depreciation is claimed
may not be business assets. In all such cases, Sec.32 of the IT Act
providing for depreciation for computation of income derived from
business or profession is not applicable. However, the income of the
trust is required to be computed under Sec. 11 on commercial
principles after providing for allowance for normal depreciation
and deduction thereof from gross income of the trust.
Following these judgments, the Income tax Appellate Tribunals have
also decided the issue in favour of the assessee and allowed
depreciation in the following cases:
- Coimbatore Stock Exchange Ltd. Vs Department Of Income Tax on 8 February
- ITO(OSD) Vs. M/s. The Educational Trust of the Seventh Day Adventists in ITA No. 640/Mds/2009
- DDIT (Exemptions) Vs. M/s. St. John's Educational Trust in ITA Nos. 987 to 990/Mds/2010 dated 18.10.2010 etc.
Conclusion
Therefore, in our view, the plethora of above decisions amply endorse the concept that :
- Depreciation is allowable even when the entire cost of asset has been allowed as application of income as the trust’s income should be computed on commercial principles, and
- Application of income is different from computation of income
