TMI Blog2011 (8) TMI 752X X X X Extracts X X X X X X X X Extracts X X X X ..... ost of factors need to be considered to arrive at a conclusion as to at what point does the relationship of mutuality end and that of trading begin". - the nature of the transaction between the assessee and the bank/banks would disqualify application of the principle of mutuality. - Decided against the assessee. - 422, 443, 529, 530, 531, 532 and 533 of 2006 - - - Dated:- 27-8-2011 - RAO V.V.S., RAMESH RANGANATHAN, JJ. JUDGMENT V. V. S. Rao J.- 1. These appeals by the Revenue are against the orders of the Income-tax Appellate Tribunal (ITAT), Hyderabad Bench, holding that the interest accrued to the assessee club from its deposits with banks and financial institutions, which are its corporate members, are not tainted with commerciality ; and that such interest income is not taxable on the principle of mutuality. The question of law raised in these appeals by the Revenue is whether interest accrued on the fixed deposits, parked with commercial banks, is liable to tax. I. T. T. A. Nos. 422, 529, 530, 531, 532 and 533 of 2006 are filed against the Secunderabad Club and the other three appeals, being I. T. T. A. Nos. 443 of 2006, 78 and 81 of 2007, are filed against t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e fee ; and nominees of the corporate members of the club enjoy the same facilities and privileges as other members. There were as many as 31 corporate members but the assessee deposited their funds with the above named six banks/financial institutions. The contention was that the interest earned by the assessee from these corporate members is interest earned from its members and, consequently, the principle of mutuality applies. The asses-see relied on the decision of the Supreme Court in Civil Appeals Nos. 4777 and 4778 of 1998, dated February 5, 1998 (unreported judgment in CIT v. Cawnpore Club Ltd. [2004] 140 Taxman 378 (SC) and CIT v. Bankipur Club Ltd. [1997] 226 ITR 97 (SC) ; [1997] 5 SCC 394. 3. The Assessing Officer came to the conclusion that the assessee did not deposit the amounts with the banks treating them as corporate members ; and the banks had not accepted the deposits from the assessee in their capacity as a member of the club. They accepted the deposits from the assessee as any other depositor and paid the same rate of interest as is payable to general public and, therefore, corporate membership in the club had no nexus whatever with their capacity of accept ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ictional Tribunal on the specific issue in the appellant's own case for earlier years is binding. He also discussed Natraj Finance Corporation [1988] 169 ITR 732 (AP), Cawnpore Club [2004] 140 Taxman 378 (SC) and came to the conclusion that they do not lay down any ratio applicable to the case and followed the decision of the Tribunal dated August 13, 2003, in the case of the assessee itself. The appeal was, therefore, dismissed. 5. The learned Tribunal, Hyderabad Bench, reversed the orders of the Commissioner of Income-tax. Having come to the conclusion that the interest income earned by the assessee on the deposits made by its corporate members is not liable to be taxed, the learned Tribunal deleted the additions made by the Assessing Officer as confirmed by the Commissioner of Income-tax (Appeals). The Tribunal referred to various precedents and held that the assessee did not engage in any business by parking their surplus money in the banks and that, "even if it is held as a trade with members as no outsiders are involved, the income is not exigible to tax". 6. The senior standing counsel for the Revenue raised the following contentions. The income derived by providing ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... eferred to Merchant Navy Club [1974] 96 ITR 261 (AP), CIT v. West Godavari Rice Millers Association [1984] 150 ITR 394 (AP), CIT v. Darjeeling Club Ltd. [1985] 153 ITR 676 (Cal), Natraj Finance Corporation [1988] 169 ITR 732 (AP), Director of I. T. (Exemption) v. All India Oriental Bank of Commerce Welfare Society [2003] 184 CTR 274 (Delhi), Canara Bank Golden Jubilee Staff Welfare Fund v. Deputy CIT [2009] 308 ITR 202 (Karn), CIT v. Standing Conference of Public Enterprises [2009] 319 ITR 179 (Delhi), CIT v. Delhi Gymkhana Club Ltd. [2011] 339 ITR 525 (Delhi) ; [2011] 10 Taxman 114 ; [2011] 53 DTR 330 (Delhi) CIT v. Talangang Co-operative Group Housing Society Ltd. [2011] 339 ITR 518 (Delhi) ; [2010] 44 DTR 58 (Delhi), Cawnpore Club Ltd. [2004] 140 Taxman 378 (SC) ; Bankipur Club Ltd. [1997] 226 ITR 97 (SC), Chelmsford Club [2000} 243 ITR 89 (SC), Union of India v. Onkar S. Kanwar [2002] 258 ITR 761 (SC), CIT v. Naga Hills Tea and Co. Ltd. [1973] 89 ITR 236 (SC), CED v. R. Kanakasabai [1973] 89 ITR 251 (SC) and CIT v. Vegetable Products Ltd. [1973] 88 ITR 192 (SC). Point for consideration 8. The point that arises for consideration in these appeals is whether the principle of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n. It was held that, when the members had associated themselves together for the purpose of insuring each other's life on the principle of mutuality assurance and had contributed to a common fund from out of which payments were made in the event of death, they were alone the owners of the common fund, and they were entitled to participate in the surplus. The incorporation of the company did not alter the identity of the contributors and those who received the surplus and, accordingly, the company did not carry on any business at all. Thus, Styles' case [1889] 2 TC 460 established the principle of mutuality and was followed not only in England but in many other common law jurisdictions. 11. English and Scottish Joint Co-operative Wholesale Society Ltd. v. Commissioner of Agricultural I. T. [1948] 16 ITR 270 (PC) ; [1948] AC 405 ; [1948] 2 All ER 395 (PC) (hereafter Scottish Joint Society) dealt with the question whether the profit distributed to two member co-operative wholesale societies, from out of the surplus earned by the joint wholesale society, was exempt from the Assam Agricultural Income-tax Act, 1939. The member societies advanced monies to the Joint Society. As and wh ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... athing Club which owned bathing beach provided various amenities. Ordinary members of the club paid subscription and they enjoyed the right to a bath. In addition, they also allowed others who were, however, required to buy a ticket for bathing. This facility was extended to the hotel guests. The hotels purchased a block of tickets, and re-sold it to the hotel guests. In 1963, a question arose as to the club's liability for income-tax in respect of receipts from the hotels. The Income-tax Appeal Board affirmed the liability rejecting the mutuality principle. The fact that the hotels had no right to vote weighed with the Appeal Board. Therefore, the rules were amended giving one vote to each hotel member who were required to pay annual subscription as in the case of ordinary members. None the less, the Commissioner proposed to tax the profit element in the proportion of the hotel membership subscription. The Court of Appeal of Jamaica held against the club, but allowed an appeal to the Privy Council. The Judicial Committee considered the question whether the club was assessable to income on the profit element contained in the receipts from hotels whose guests had the right to use th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Wholesale Society Ltd. [1948] 16 ITR 270 (PC) and other cases, the Supreme Court observed that (page 560) : "the principle that no one can make a profit out of himself is true enough but may in its application easily lead to confusion. There is nothing per se to prevent a company from making a profit out of its own members. Thus, a railway company which earns profits by carrying passengers may also make a profit by carrying its shareholders or a trading company may make a profit out of its trading with its members besides the profit it makes from the general public which deals with it but that profit belongs to the members as shareholders and does not come back to them as persons who had contributed them. Where a company collects money from its members and applies it for their benefit not as shareholders but as persons who put up the fund the company makes no profit. In such cases, where there is identity in the character of those who contribute and of those who participate in the surplus, the fact of incorporation may be immaterial and the incorporated company may well be regarded as a mere instrument, a convenient agent for carrying out what the members might more laboriously do ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 'at what point, does the relationship of mutuality end and that of trading begin' is a difficult and vexed question. A host of factors may have to be considered to arrive at a conclusion." 17. Chelmsford Club [2000] 243 ITR 89 (SC) was an appeal against the judgment of the Delhi High Court taking the view that the annual letting value of the Chelmsford Club was assessable to income-tax under the head 'income from property'. In appeal, referring to Styles [1889] 2 TC 460 English and Scottish Joint Co-operative Wholesale Society Ltd. [1948] 16 ITR 270 (PC) and Bankipur Club Ltd. [1997] 226 ITR 97 (SC), the Supreme Court held that, "it is not only the surplus from the activities of the business of the club that is excluded from the levy of income-tax, even the annual value of the club house, as contemplated in section 22 of the Act will be outside the purview of levy of income-tax", and that, "the law recognises the principle of mutuality excluding the levy of income-tax from the income of such business to which the principle is applicable". 18. The question whether the club's interest income from fixed deposits in nationalised banks/scheduled banks or from Government securit ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... oy all the facilities offered by the club to its members, subject to payment of admission fee under the rules. Every corporate member shall pay admission fee of Rs. 10 lakhs and shall be entitled for nomination to two memberships and for every additional nominee, to which a corporate member is entitled to nominate, admission fee shall be Rs. 5 lakhs. This is subject to the relevant rule dealing with the right of the corporate member to nominate. It provides that, where the paid up capital is Rs. 5 crores and above, the corporate entity can apply for additional memberships not exceeding five. As per the declaration to be given by the corporate member, while seeking membership, the nominees shall be their employees, and the nominees shall be withdrawn as soon as they cease to be the employees of such a corporate member. Another important rule, which is peculiar to corporate membership, is rule XII(A). It deals with termination of the corporate membership, and provides that a corporate member shall automatically cease to be a member after expiry of a period of 10 years from the date of its election as corporate member on its ceasing to have an office or place of business in Hyderabad ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... that, in the event of winding up, even the corporate members also have a share in the surplus after meeting the liabilities and, therefore, the interest on deposits cannot be treated as income. We find it difficult to countenance these submissions. 22 Jurisprudentially an incorporated company is different from its promoters, members and/or shareholders. The directors or senior executives themselves cannot be treated as juridical persons. It is a vintage principle that an incorporated juridical person is different from the persons who represent the juridical person. Under the Indian Companies Act, the subscribers to memorandum of a company, and every person holding equity share capital, are treated as members, but such members do not have the right to interfere in the management of the affairs of the company, except to the limited extent as provided in the memorandum and articles of association of the company. Not all the directors participate in the management unless they are specifically assigned such duty, although as members of the board of directors they decide the policy and are liable as per the memorandum of association and other provisions of the Companies Act, 1956. T ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ry/permanent member who contributes to the club avails of the facilities of the club and it is he or she who receives the surplus contribution, if any, paid or participates and enjoys the fruits of the surplus funds generated by the activities of the club. It is only a member who would be entitled to a proportionate amount in the event of liquidation, and it is the member who has the right to be elected to the committee of the club, and a right to vote. In the case of a corporate member, the amount of membership/subscription is contributed by the juridical person whereas participation in the club activities is by a natural person nominated to participate and avail of the facilities of the club. A corporate member, as per the rules, has no right to be elected to the committee of the club, nor entitled to as many votes as the number of its nominees. Further, there is a ceiling of 250 corporate members and they are negligible (it was 31 at the relevant time) in comparison with other ordinary/permanent members. Corporate members represent an insignificant minority and it is the ordinary/permanent members who control and manage the activities of the club for their mutual benefit. As not ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... or business when the surplus is used for earning profit by way of interest income. There is no dispute that the Secunderabad Club has parked its funds with financial institutions who are in the business of accepting deposits and lending money. The surplus was also deposited in nationalised banks who carry on banking business as described in section 6 of the Banking Regulation Act, 1949. Money was also deposited with financial institutions who had necessary permissions to accept deposits. When a person deposits money in a bank, the relationship is that of a creditor and a debtor, and they would be bound by the contract that regulates the deposit and payment of interest thereon. When the club deposits its funds with a bank, the latter does not treat the club any differently from its other depositors, nor is any higher rate of interest offered. Similarly when the club deposits its surplus with banks, the latter might have been treated as the preferred bank for obvious reasons. If that is the case, the club could as well have lent the money to all its members and collected interest. The Secunderabad Club chose to deposit its surplus in banks for reasons of safety, an assured return of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... no man can trade with himself" is not available in respect of a nationalised bank holding a fixed deposit on behalf of its customer and that, "the relationship is one of a banker and a customer". 30. In Madras Gymkhana Club [2010] 328 ITR 348 (Mad), a similar question was considered by a Division Bench of the Madras High Court and, after referring to several judgments, it was held that the investment of surplus funds had nothing to do with the objects of the club ; investment of surplus in the bank, and earning of interest, had absolutely no nexus to the objects enumerated under the rules of the club ; investments with the corporate members could not be equated or brought within the concept of mutuality ; the principle was applicable in respect of the income earned by the club out of the contributions received from its members and it had no application in respect of interest earned on the deposit of surplus funds in banks. The relevant observations are as follows (page 357) : "With the above principles in mind, when the deposit of surplus funds even with a member bank, is considered, one can easily visualise that the deposit of such funds would enure to the benefit of that ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... mer of the bank or institution and the relationship that is engendered is that between a banker and its customer. The fact that the funds which are invested have their source in the contribution by the members of the assessee cannot be dispositive of the nature of the receipt obtained by the assessee on account of the interest payments on the deposits made. In determining the exigibility to tax of receipts on account of interest, it is the character of the receipt as interest that must play a determinative role. A payment on account of interest by the bank or a party with whom the deposit is placed is an arm's length transaction with a third party. The recompense which is received by the assessee by and as a result of the transaction does not fulfil the condition of mutuality to which the contributions received from the members of the assessee are subject." (emphasis supplied) 32. As noticed supra, the Delhi High Court has taken a contra view. In Delhi Gymkhana Club [2011] 339 ITR 525 (Delhi), the court referred to three of its earlier decisions, and affirmed the view of the Income-tax Appellate Tribunal that the income from FDRs in banks would also attract the doctrine of mutu ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... by trading with himself, it is not possible to consider that the income derived from transactions between members inter se possessed the character of income of a non-mutual benefit concern." 34. Reading the above observations, it is not possible to accept the contention of the counsel for the assessee that interest earned even from third parties would be exempt from the charge of income-tax, in all types of transactions. The ratio therein is that, if an incorporated entity is engaged in trade, the profit from it, even if they are transactions with members, would be taxable and the principle of mutuality would have no application. 35. The decision of this court was long prior to Bankipur Club Ltd. [1997] 226 ITR 97 (SC) and Chelmsford Club [2000] 243 ITR 89 (SC), and no reference was made therein to Royal Western India Turf Club Ltd. [1953] 24 ITR 551 (SC). As we have considered these cases in the light of the law laid down by the Supreme Court in these three judgments, we do not feel compelled to apply the ratio in Natraj Finance Corporation [1988] 169 ITR 732 (AP). We, however, hasten to add that, if an association of persons receives contributions from its own members and ..... X X X X Extracts X X X X X X X X Extracts X X X X
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