Hospitals, educational institutions, a plethora of other charitable trusts and probably even the country’s richest sports body are beginning to fear that the taxman, armed with a spate of court verdicts, could soon knock on their doors.
After the apex court set the ball rolling, a tax tribunal, which is the highest appellate body, last week ruled in favour of the tax department while questioning the practice by a Hyderabad hospital charging its patients to generate substantial profits. This was the first decision inspired by two Supreme Court rulings in October which, according to tax practitioners and trust advisors, have opened up a Pandora’s Box for charitable trusts in the country.
India’s income tax laws have favoured charities, granting preferential treatment since 1886.
But the recent stand taken by the judiciary is demanding that a charitable trust has to pass two fundamental tests before it can be spared of income tax: first, is a trust `solely’ — not just ‘predominantly’ but entirely — devoted to the purpose for which it is set up?; second, are its charges — whether to impart education or provide health care services — reasonable mark-ups over the costs?
“The magnitude of the implications appear to be such that most of such large institutions would have to revisit their structures and objects to avoid losing the entire exemption in view of these much stricter guidelines,” said Rahul Garg, managing partner of Asire Consulting, a tax and regulatory consultancy.
With the Supreme Court on two separate rulings on the same day laying down the principles for an educational trust and a general public utility, and now the Income Tax Appellate Tribunal giving its ruling based on the SC judgements, chances are the I-T department would look at many charitable trusts through the prism of these verdicts.
In the case of Fernandez Foundation of Hyderabad, the ITAT observed that it was a private limited company earning huge profits and had later converted itself into a Section 8 company (i.e, registered as a non-profit organization) to avail the benefits of tax exemption. The tribunal also noticed while it had availed land at concessional rate promising to treat at least 25% of the patients free, in reality such free treatment was very little.
Trust administrators argue that trusts should not be treated like companies as the former do not distribute their surplus as dividend but reinvest to expand facilities to further their professed activity. But, according to the Supreme Court, a `trade’ cannot be `charity’ and likewise charity’, cannot be trade. Thus, ploughing back surpluses or profits and claiming them to be charitable is under cloud. A trust which claims exemptions under ‘General Public Utility’ (GPU) should render charitable services only on cost plus marginal mark-ups. But what is a reasonable mark-up in the calculation of charges for services given by a trust?
“The ITAT ruling upholds the legislative intent in the clearest of terms, but the test prescribed regarding the cost, profit etc can create fresh litigation. It is desirable that the government prescribes certain ground rules in terms of manner of computing or some safe harbor rules which may bring out clarity on the issue,” said advocate K.R.Pradeep.
Given the implications of the multiple rulings, some of the chambers of commerce have in their pre-budget representations asked the government to step in to ring-fence charitable trusts from the tax office. “The rulings of the Supreme Court take a strict view on the meaning of charitable purpose and also the exemptions under the Act. The said interpretation has rendered a large number of private educational institutions and hospitals open for huge tax liability and potential denial of tax exemption. In a larger sense it tries to protect the use and dissuades the abuse,” said chartered accountant and advocate Girija GP.
However, the judgements could leave many wondering what would be the fate of the Board of Control for Cricket in India whose arguments were upheld by the ITAT Mumbai in November 2021. The tribunal in an appeal filed by the BCCI had endorsed the stand of the sports body that even though it’s making money through the Indian Premier League (IPL), the object of promoting cricket remains intact and hence its income should be exempt from tax.