Deduction – Section 43B of the Income-tax Act, 1961 – Issue of debentures in lieu of interest accrued under a rehabilitation plan, to extinguish the liability of interest altogether – No misuse of the provision of section 43B – Explanation 3C, which was meant to plug a loophole, cannot therefore be brought to the aid of Revenue on the facts of this case
On 28th November, 1996, the appellant filed a return of income declaring a loss of Rs. 1,03,18,572 for the assessment year 1996-1997. In the return, the appellant claimed a deduction of Rs. 2,84,71,384 u/s 43B based on the issue of debentures in lieu of interest accrued and payable to financial institutions. By an order dated 29th October, 1998, the A.O. rejected the appellant’s contention by holding that the issuance of debentures was not as per the original terms and conditions on which the loans were granted, and that interest was payable, holding that a subsequent change in the terms of the agreement, as they then stood, would be contrary to section 43B(d) and would render such amount ineligible for deduction.
The Commissioner of Income Tax (Appeals) allowed the appeal and held that it would not be correct to say that the issue of debentures in lieu of interest merely postponed the payment of liability. A debenture is a valuable security which is freely negotiable and openly quoted in the stock market. As the financial institutions had accepted the debentures in effective discharge of the liability for the outstanding interest which was no longer payable by the appellant, it was tantamount to actual payment for the intent of section 43B. As interest had been actually paid during the year and the payment was in accordance with the terms and conditions of the borrowings, interest of Rs. 2,84,71,384 is directed to be allowed u/s 43B.
This order was upheld in appeal by the Income Tax Appellate Tribunal which held that the payment of interest by conversion of the outstanding liability into convertible debentures is a real, substantial and effective payment, meeting the requirement of the word ‘actual’ and is not a fictional or illusory payment. The parties have understood it as an effective discharge by the assessee of the interest liability. The treatment given in the accounts as well as in their income tax assessments is in accord with the factual position.
Revenue filed an appeal against this judgment of the ITAT before the High Court. The High Court concluded, based on Explanation 3C, as follows: ‘Now, Explanation 3C, having retrospective effect from 1st April, 1989, would be applicable to the present case as it relates to A.Y. 1996-97. Explanation 3C squarely covers the issue raised in this appeal, as it negates the assessee’s contention that interest which has been converted into loan is deemed to be “actually paid”. In light of the insertion of this explanation which, as mentioned earlier, was not present at the time the impugned order was passed, the assessee cannot claim deduction u/s 43B.’
On 22nd July, 2016, the High Court dismissed the review petition filed by the assessee.
When the case went before the Supreme Court, it observed that the object of section 43B, as originally enacted, is to allow certain deductions only on actual payment. This is made clear by the non-obstante clause contained at the beginning of the provision, coupled with the deduction being allowed irrespective of the previous years in which the liability to pay such sum was incurred by the assessee according to the method of accounting regularly employed by it. In short, a mercantile system of accounting cannot be looked at when a deduction is claimed under this section, making it clear that incurring of liability cannot allow for a deduction but only ‘actual payment’, as contrasted with incurring of a liability, can allow for a deduction. The ‘sum payable’ referred to in section 43B(d), which is applied in the present case, however, does not refer to the mode of payment (in cash or by issue of a cheque or draft), unlike proviso 2 to the said section which was omitted by the Finance Act, 2003 effective from 1st April, 2004.
The Supreme Court noted that both the CIT and the ITAT found, as a matter of fact, that as per a rehabilitation plan agreed to between the lender and the borrower, debentures were accepted by the financial institution in discharge of the debt on account of outstanding interest. This was also clear from the expression ‘in lieu of’ used in the judgment of the CIT. That this was also clear not only from the accounts produced by the assessee, but equally clear from the fact that in the assessment of ICICI Bank, for the assessment year in question, the accounts of the bank reflect the amount received by way of debentures as its business income. This being the fact situation in the present case, the Supreme Court held that it was clear that interest was ‘actually paid’ by means of issuance of debentures, which extinguished the liability to pay interest.
The Supreme Court noted that Explanation 3C, which was introduced for the ‘removal of doubts’, only made it clear that interest that remained unpaid and has been converted into a loan or borrowing shall not be deemed to have been actually paid. It observed that as per the Circular explaining Explanation 3C, at the heart of the introduction of Explanation 3C was misuse of the provisions of section 43B by not actually paying interest but converting such interest into a fresh loan. The Supreme Court noted that on the facts found in the present case, the issue of debentures by the assessee was, under a rehabilitation plan, to extinguish the liability of interest altogether. No misuse of the provision of section 43B was found by either the CIT or the ITAT. Explanation 3C, which was meant to plug a loophole, cannot, therefore, be brought to the aid of Revenue on the facts of this case.
The Court held that if there be any ambiguity in the retrospectively added Explanation 3C, at least three well-established canons of interpretation come to the rescue of the assessee in this case. First, since Explanation 3C was added in 2006 with the object of plugging a loophole, i.e., misusing section 43B by not actually paying interest but converting interest into a fresh loan, bona fide transactions of actual payments are not meant to be affected. Second, a retrospective provision in a tax act which is ‘for the removal of doubts’ cannot be presumed to be retrospective, even where such language is used, if it alters or changes the law as it earlier stood. Third, any ambiguity in the language of Explanation 3C shall be resolved in favour of the assessee as per Cape Brandy Syndicate vs. Inland Revenue Commissioner (Supra) as followed by judgments of this Court – see Vodafone International Holdings BV vs. Union of India (2012) 6 SCC 613.
The Supreme Court held that the High Court judgment dated 18th May, 2015 was clearly in error in concluding that ‘interest’, on the facts of this case, had been converted into a loan. There was no basis for this finding; as a matter of fact, it is directly contrary to the finding on facts of the authorities below.
Consequently, the impugned judgment of the High Court was set aside and the judgment and order of the ITAT was restored. The appeals are allowed by the Supreme Court in the aforesaid terms.
5 Commissioner of Income Tax (Exemptions), Kolkata vs. Batanagar Education and Research Trust [(2021) 436 ITR 501 (SC)]
Cancellation of registration of a Trust – Sections 12AA and 80G(vi) of the Income-tax Act, 1961 – An entity which is misusing the status conferred upon it by section 12AA is not entitled to retain and enjoy said status
The Trust was registered u/s 12AA vide order dated 6th August, 2010 and was also accorded approval u/s 80G(vi).
In a survey conducted on an entity named School of Human Genetics & Population Health (SHG&PH), Kolkata u/s 133A, it was prima facie observed that the Trust was not carrying out its activities in accordance with its objects. A show cause notice was, therefore, issued by the CIT on 4th December, 2015.
In answer to the questionnaire issued by the Department, Rabindranath Lahiri, the Managing Trustee, gave answers to some of its questions as under:
‘Q. 11: Please confirm the authenticity of the above-mentioned corpus donation.
Answer: A major part of the donations that claimed exemption u/s 11(1)(d) were not genuine. The donations received in F.Ys. 2008-09, 2009-10 and 2010-11 were genuine corpus donations received either from the Trustees or persons who were close to the Trustees. In F.Ys. 2011-12 and 2012-13, a part of the donations were genuine like the earlier years. However, a major part of the donations received in these two F.Ys., viz., 2011-12 and 2012-13, shown as corpus donation were in the nature of accommodation entries to facilitate two things:
a) To procure loans from the bank we had to show substantial amount of capital reserve in our balance sheet.
b) We require funds for the expansion of our college. The fees received from the students along with genuine donations from the Trustees and their contacts were not sufficient to run the institution.
Q. 12: Why are you saying that a major part of the donations received were not genuine?
Ans: In those cases, which I admit as accommodation entries, a part of the donation received was returned back to the donors through intermediaries.
Q. 13: Who were the intermediaries and what were the modes of returning the money?
Ans: We were instructed to transfer funds through RTGS to the following seven (7) persons: 1. Santwana Syndicate, 2. P.C. Sales Corporation, 3. Kalyani Enterprises, 4. Riya Enterprises, 5. Laxmi Narayan Traders, 6. Hanuman Traders, and 7. Rani Sati Trade Pvt. Limited.
These payments were booked as capital expenditure under the head Building.
Q. 14: In response to the earlier question you have stated that you were “instructed”. Who gave you the instruction?
Ans: I can remember only one name right now, that is, Shri Gulab Pincha, Mob No. 9831015157. He was the key person for providing a large part of bogus donations received which was immediately returned back to the different parties in the guise of payments towards capital expenditure in building. We do now know any details in respect of the donors on behalf of whom Shri Gulab Pincha acted as a middle man. Shri Pincha provided us with the details of the donors, cheques of the donations, letters of corpus donations, etc. He also provided us with the names and bank account details of the seven (7) persons mentioned in Answer 13 to whom money had to be returned back through RTGS. He also collected the money receipts / 80G certifications on behalf of the donors.
Q. 19: The ledger copy for the period from 01.04.2014 to 04.09.2014 in respect of “General Fund” of your Trust having details of the donors is being shown to you to identify the bogus donations along with bogus donors.
Ans: After going through the list of the donors appearing in such ledger it is understood that the donors whose names are written in capital letters under the sub-head “Donation-13”, “Donation-I” and “Donations-II” having total amount of Rs. 6,03,07,550 are bogus and out of which Rs. 5,96,29,973 was returned back through RTGS to the above-mentioned seven (7) persons following the instructions of the mediators.’
On the basis of the material on record, the CIT came to the following conclusions:
‘a) Assessee trust has received a sum of Rs. 1,23,87,550 as bogus donation from M/s School of Human Genetics and Population Health and voluntarily offered as income. SHG&PH has admitted their bogus transactions by filing application before the Hon’ble Settlement Commission, Kolkata and through confirmation filed.
b) They have received bogus corpus donation not only from SGHG&PH but also from various parties in different years.
c) Society / Trust has grossly misused the provisions of sections 12AA and 80G(5)(vi).
d) They have violated the objects of the Trust as converting cheque received through corpus donation in cash beyond-the-objects. The Society was found to be involved in hawala activities.
e) Corpus donation received is not voluntary, merely an accommodation entry and fictitious.
f) Activities of the Trust are not genuine as well as not being carried out in accordance with its declared objects. The assessee’s case is covered within the 60th limb of section 12AA(3).
g) Even non-genuine and illegal activities carried on by the assessee through money laundering do not come within the conceptual framework of charity vis-à-vis activity of general public utility envisaged under the Income-tax Act as laid down in section 2(15).’
The CIT, therefore, invoked the provisions of section 12AA(3) and cancelled the registration granted u/s 12AA w.e.f. 1st April, 2012. Consequently, the approval granted to the Trust u/s 80G was also cancelled.
The matter was carried in appeal by the Trust by filing an appeal before the Tribunal.
After considering the entire material on record, the Tribunal concluded as under:
‘13. We have given a very careful consideration to the rival submissions. It is clear from the statements of the Secretary and Treasurer of SHG&PH that they were accepting cash and giving bogus donations. In the statement recorded in the survey conducted in its premises on 27th January, 2015, it was explained that SHG&PH’s source of income was the money received in the form of donations from corporate bodies as well as from individuals. In the said statement it was explained that there were about nine brokers who used to bring donations in the form of cheque / RTGS. The donations received would be returned by issue of cheque / RTGS in the name of companies or organisations specified by the nine brokers. SHG&PH would receive 7 or 8% of the donation amount. It was also stated that since the assessee was entitled to exemption under sections 80G and 35, their organisation was chosen by the brokers for giving donations to SHG&PH as well as for giving donations by SHG&PH. Till now, the assessee’s name did not figure in the statement recorded on 27th January, 2015. However, pursuant to the survey, proceedings for cancellation of the registration u/s 12A granted to them were initiated.
In such proceedings, Smt. Samadrita Mukherjee Sardar (in a letter dated 24th August, 2015) had given a list of donations which were given by them after getting cash of equivalent amount. It is not disputed that the name of the assessee figures in the said list and the fact that the donations paid to the assessee were against cash received from them in F.Y. 2012-13 of a sum of Rs. 1,23,87,550. Even at this stage, all admissions were by third parties and the same were not binding on the assessee.
However, in a survey conducted in the case of the assessee on 24th August, 2015, the Managing Trustee of the assessee admitted that it gave cash and got back donations. We have already extracted the statement given by the Managing Trustee. Even in the proceedings for cancellation of registration, the assessee has not taken any stand on all the evidence against it. In such circumstances, we are of the view that the conclusions drawn by the CIT(E) in the impugned order which we have extracted in the earlier part of the order are correct and call for no interference. It is clear from the evidence on record that the activities of the assessee were not genuine and hence their registration is liable to be cancelled u/s 12AA(3) and was rightly cancelled by the CIT(E). We, therefore, uphold his orders and dismiss both the appeals by the assessee.’
With this, the appeals preferred by the Trust were dismissed.
The Trust being aggrieved, filed an appeal before the High Court. By its order dated 4th July, 2018, the High Court allowed the appeal, setting aside the order of cancellation of the registration of the Trust, with the following observations:
‘On the basis of the evidence and the authorities cited before the adjudicating bodies below, we say that the respondent Revenue has not been able to establish the case so as to warrant cancellation of the registration of
the appellant Trust u/s 12AA(3). The respondent also has not been able to prove any complicity of the appellant Trust in any illegal, immoral or irregular activity of the donors.’
The Supreme Court observed that the answers given to the questionnaire by the Managing Trustee of the Trust show the extent of misuse of the status enjoyed by the Trust by virtue of registration u/s 12AA. These answers also show that donations were received by way of cheques out of which substantial money was ploughed back or returned to the donors. The facts thus clearly show that those were bogus donations and that the registration conferred upon it under sections 12AA and 80G was completely being misused by the Trust. According to the Supreme Court, an entity which is misusing the status conferred upon it by section 12AA is not entitled to retain and enjoy the said status. The authorities were, therefore, right and justified in cancelling the registration under sections 12AA and 80G.
In the opinion of the Supreme Court, the High Court completely erred in entertaining the appeal u/s 260A. It did not even attempt to deal with the answers to the questions as aforesaid and whether the conclusions drawn by the CIT and the Tribunal were in any way incorrect or invalid.
The Supreme Court, therefore, allowed the appeal of the Revenue.
Note: In the CIT’s findings quoted in the above judgment, reference to the ‘60th limb’ at (f) seems to be a typing / printing error as there is nothing like that in section 12AA(3). The finding at (f) effectively means that the case is covered within the scope of section 12AA(3).
