HIGH COURT OF DELHI

Commissioner of Income-tax

v.

Narinder Mohan Foundation

Madan B. Lokur and Dr. S. Muralidhar, JJ.

Income-tax Reference Nos. 271 and 381 of 1984

October 5, 2007

Section 13 of the Income-tax Act, 1961 - Charitable or religious trust - Denial of exemption - Assessment years 1976-77 and 1977-78 - Whether bonus shares received by a trust cannot be said to be funds invested by trust for purposes of section 13(4) - Held, yes - Whether it is not possible to read section 13(3) as bringing within fold of term prohibited persons, an HUF, which is a taxable entity by itself - Held, yes - Whether even if property of trust is being held for benefit of yet to be born person, it cannot be said that requirement of section 13(2)(h), read with section 13(3), is not met - Held, yes - Whether death of a spouse would result in ceasing of legal capacity of that spouse - Held, no

Interpretation of statutes : Rule of strict interpretation

Facts

The assessee-trust was founded by one ‘N’, who was the Managing Director of a company ‘M’. It purchased 1,08,082 shares of ‘M’. In addition the assessee also received 5,06,076 bonus shares of ‘M’. The assessee filed its return disclosing certain dividend income and claimed exemption of same. The Assessing Officer found that the shares held by the assessee in ‘M’, including the bonus shares and shares received by way of donation, were more than 5 per cent of the total shareholding of ‘M’ and, therefore, the benefit of section 13(4) was not available to it. The Assessing Officer also scrutinized the pattern of shareholding in ‘M’ held by a certain category of persons and found that six HUF’s, having members of ‘N’ family, five trusts settled by N’s family members for benefit of unborn persons and future spouses, and one ‘B’ along with his three sons held 7,30,849, 3,00,000 and 1,53,530 shares respectively and that if the said shares were added to the shares held in ‘M’ by the assessee, then the holding of the prohibited category of persons in terms of section 3(2)(h), read with section 13(3), would exceed 20 per cent of the total paid up share capital of ‘M’, which would make the assessee’s income ineligible for exemption in terms of sections 11 and 12. On appeal, the Commissioner (Appeals) held that the bonus shares had to be excluded for computing the percentage of the assessee’s shareholding in ‘M’ and, therefore, the assessee was entitled to the benefit of section 13(4). The Commissioner (Appeals) also held that since the shares held by the prohibited category of persons and close relatives did not exceed 20 per cent of the total shareholding in ‘M’ the assessee was entitled to exemption in terms of sections 11 and 12. On the revenue’s appeal, the Tribunal concurred with the view of the Commissioner (Appeals).

On reference :

Held

Whether bonus shares of ‘M’ received by assessee did not represent funds of the trust invested in the said concern for purposes of section 13(4)

In view of the decisions of the Delhi High Court in CIT v. Sir Shri Ram Foundation [2001] 250 ITR 55/116 Taxman 113 and CIT v. Sir Sobha Singh Public Charitable Trust [2001] 250 ITR 475, wherein it has been held that the bonus shares received by a trust cannot be said to be funds invested by the trust for the purposes of section 13(4), it was to be held in the instant case that the Tribunal was right in law in holding that bonus shares of ‘M’ received by the assessee did not represent funds of the trust invested in the said concern for purposes of section 13(4). [Para 9]

Whether prohibited category of persons mentioned in section 13(3) did not have substantial interest in ‘M’ in which the funds of the assessee were invested :

The categories of persons mentioned in section 13(3) include the author of a trust or the founder of the institution, any person whose contribution to the trust exceeds Rs. 50,000, where the author is a HUF, a member of the family, any trustee of the trust or manager. Any relative of any such author, founder person or even trustee are all mentioned in said section. Explanation 1 further describes a relative to include spouse of the individual, brother or sister of the spouse of the individual, any lineal ascendant or descendant of the individual or any spouse of a person referred to in sub-clause (ii), sub-clause (iii), etc. [Para 12]

The shareholding pattern of ‘M’, therefore, became relevant. It was not in dispute that six HUFs, having the members of ‘N’ family as the kartas, held 7,30,849 shares in ‘M’. The Commissioner (Appeals) and the Tribunal had concurrently found that they did not fall within the prohibited categories of persons referred to in section 13(3), read with Explanation 1. It was not possible to read section 13(3) as bringing within the fold of ‘prohibited persons’ an HUF, which is a taxable entity by itself. The device of piercing the veil of the legal entity of a HUF in order to ascertain the person in actual control of its functioning is unknown to this branch of tax law. The submission of the revenue that the persons who were actually in charge of the HUFs were themselves mentioned individually in section 13(3), and, therefore, it was implied that the HUF itself was one of the prohibited categories, could not be accepted. Taxation statutes admit of a strict interpretation. It is not possible to write into the categories mentioned in section 13(3) a category that is not mentioned there. Consequently, the conclusion reached by the Tribunal that the shares of the HUF could not be considered for the purpose of determining whether the persons mentioned in section 13(3) had a substantial interest in ‘M’, could not be interfered with. [Para 13]

As regards 3 lakh shares held by the various trusts settled by members of the ‘N’ family for the benefit of unborn persons and future spouses, in view of the decision of the same High Court in CIT v. Brig Kapil Mohan [2001] 252 ITR 830/118 Taxman 430, it was to be held that even if the property of the trust was being held for the benefit of yet to be born person, it could not be said that the requirement of section 13(2)(h), read with section 13(3), was not met. It could not, therefore, be said that the shares held by the trustees were not for the benefit of anyone. It was clear from the trust deeds themselves that the beneficiary could be an unborn child and that did not by itself take it outside the purview of section 13(2)(h), read with section 13(3). [Para 17]

Accordingly, it was to be held that the three lakh share held by the trust were held by prohibited categories of persons in terms of section 13(3). [Para 18]

As regards 1,53,530 shares held by ‘B’ and his three sons, there was no dispute that ‘B’ , being the husband of the sister of spouse of ‘N’, fell within the meaning of the term ‘relative’ under section 13. The only reason as to why the Tribunal appeared to have accepted the contention of the assessee that the shareholding should not be included for the purposes of calculating the 20 per cent shareholding was that the spouse of the assessee was no longer in that capacity after his death in 1969. There could be no manner of doubt that the Tribunal had erred in coming to that finding. It was beyond comprehension how N’s spouse would cease to remain in the legal capacity of a spouse after the death of her husband. [Para 19]

Therefore, after adding back the two pieces of shareholdings, i.e., 3 lakh shares held by the trusts and 1,53,530 shares held by ‘B’ and his three sons, the total shareholding of prohibited person in ‘M’ would be greater than 20 per cent of the total paid-up share capital. The factual position, therefore, was that the prohibited categories of persons held a substantial interest in ‘M’ and, therefore, the dividend income of the assessee could not be exempted from tax in terms of sections 11 and 12. [Para 20]