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Judgment
N.V. Balasubramanian, J.—These four tax case references have been made by the Income Tax Appellate Tribunal, Madras, at the instance
of the Revenue and the relevant assessment years are 1976-77 to 1979-80. The previous year relevant to the assessment years ended on 30th
September of the respective years.
The question which has been referred for the decision of this court reads as under :
Whether, on the facts and in the circumstances of the case, the Appellate Tribunal is correct in law in holding that the status of the assessee should
be taken as that of ''guarantee company'' and that exemption u/s 11 of the Income Tax Act should be allowed in respect of the assessee''s income
from the assessment years 1976-77, 1977-78, 1978-79 and 1979-80 ?
The assessee filed returns of income for the assessment years 1976-77 and 1977-78 claiming the status of ""guarantee company"". The Income
Tax Officer initially assessed the assessee for both the assessment years and treated the assessee as ""company"" for the purpose of Section 11 of
the Income Tax Act, 1961 (hereinafter to be referred to as ""the Act""), The Income Tax Officer, however, reopened the assessment u/s 147(b) of
the Act and in the reassessments made for the said assessment years 1976-77 and 1977-78, adopted the status as an ""association of persons"".
Similarly, the assessee filed its returns of income for the assessment years 1978-79 and 1979-80 in the status of a guarantee company, but the
Income Tax Officer assessed the assessee in the status of an ""association of persons"".
The assessee carried the matter by way of appeal before the Appellate Assistant Commissioner. The Appellate Assistant Commissioner held
that the reopening of the assessment for the assessment year 1976-77 and 1977-78 was not justified as the reopening was done on the basis of
change of opinion. The Appellate Assistant Commissioner, however, in the appeals preferred for the assessment years 1978-79 and 1979-80 held
that the status of the company should be taken as ""guarantee company"" and the assessee was entitled to exemption on the facts of the case.
The Revenue carried the matter in appeals before the Income Tax Appellate Tribunal against the orders of the Appellate Assistant
Commissioner. The Tribunal, in the appeals preferred for the assessment years 1976-77 and 1977-78, held that the Appellate Assistant
Commissioner was not correct in holding that the reopening of the assessment was not justified. Since this part of the order has become final, it is
not necessary to elaborate reasons given by the Tribunal for sustaining the reassessment proceedings. The Tribunal went into the merits of the case
for all the assessment years. The Tribunal held that the Revenue has accepted for more than two decades the status of the assessee as ""guarantee
company"" and allowed exemption u/s 11 of the Act. The Tribunal, therefore, held that in the absence of any change in the circumstances, the
assessee should be assessed in the status, ""guarantee company"". In so far as the question regarding exemption u/s 11 of the Act is concerned, the
Tribunal held that the prominent object of the assessee was to promote trade and commerce and some of the offending objects on which reliance
was placed on behalf of the Revenue were only incidental to the main object of the assessee, and, therefore, the object of the assessee was
charitable in nature. The Tribunal held that the factual position remains that the liability of each member was merely Rs. 10 and there is no element
of distribution of profit and there are no materials to show that the profits of the assessee-company have been distributed among the members of
the company. In this view of the matter, the Tribunal held that the assessee should be treated as a guarantee company and the assessee is entitled
to exemption u/s 11 of the Act. It is, in this context, the reference has come before us for all the four assessment years regarding the status of the
assessee as well as regarding the eligibility of the assessee to claim the exemption u/s 11 of the Act.
The relevant objects of the assessee as found in Clause (3) of the memorandum of association of the assessee, are as under ;
(f) To gather information and have correspondence and business relationship with merchants about trade and to inform them by publicity or
advertisement.
(g) to arrange for collection of dues to members according to decision of the association ;
(h) to have correspondence with members and other associations to protect the interest of members and to improve their interests ;
(i) to improve legislation about trade and commerce, initiate legislation and approve of the same ;
(j) To co-operate with such association or bodies having similar objects to improve, gather information from such bodies and to inform them of the
improvements in trade and commerce ;
(k) to spend for temple Kattalais, temple gardens, free libraries and trade expenses ;
(l) to purchase or take on lease, for the purposes of the objects of the association land and building, construct such buildings and to maintain and
repair the same ;
(m) to sell properties not required by the association and to invest them in known banks, deposit them and to put them in current account;
(n) to collect mahimai from members and rents from members for the expenses mentioned above ;
(o) to meet the expenses of incorporation, printing charges, advertisement, salary for staff, travel expenses and stamps ;
(p) to associate with other societies or associations not having objects contrary to the objects of this association and to amalgamate and corporate
with them ;
(q) if association''s funds permit, to start handicrafts relating to machineries ;
(r) to establish handicrafts for earning for purposes not having objects contrary to the objects of the association.
Before considering the question as to eligibility of the assessee to claim exemption u/s 11 of the Act, it is necessary to find out the status of the
assessee. It is found that the assessee was registered under the provisions of the Indian Companies Act, 1913, and for the past nearly two
decades, the Revenue has adopted the status of the assessee as that of a guarantee company. It is found that during the relevant assessment years,
the number of members was 156. The definition of ""company"" as found in Section 3(1)(i) of the Companies Act, 1956, reads as under ;
(i) ''company'' means a company formed and registered under this Act or an existing company as defined in Clause (ii).
Admittedly, the assessee is an existing company as it was formed and registered under the provisions of the Indian Companies Act, 1913. The
assessee-company being a guarantee company, had no share capital. Clause (5) of the memorandum of association states that the liability of
members would be limited to the guarantee of the company''s returns by themselves and to the extent of Rs. 10 to each member. It is not a
company as contemplated u/s 25 of the Companies Act as it is not registered either under the relevant provisions of the Indian Companies Act,
1913, or the Companies Act, 1956, as a company falling within either u/s 26 of the previous Act or u/s 25 of the present Act. But the fact that it
was incorporated and registered under the Indian Companies Act and it was a guarantee company cannot be overlooked. The fact that it was not
registered u/s 25 of the present Act could not automatically make the assessee which is a guarantee company as an association of persons.
Therefore, the Income Tax Officer was not justified in adopting the status of the assessee-company as an association of persons, for the failure of
the assessee to register itself as a company u/s 25 of the Companies Act, 1956. We are, therefore, of the view that the Appellate Tribunal was
justified in holding that the status of the assessee-company should be taken as a guarantee company.
The next question that arises is whether the objects of the assessee-company can be treated as charitable in nature. The relevant objects of the
assessee-company as found in the memorandum of association have been set out in detail in the earlier part of the judgment. The prominent object
of the assessee was to promote trade and commerce and in the light of the decisions of the Supreme Court in Additional Commissioner of Income
Tax, Gujarat Vs. Surat Art Silk Cloth Manufacturers Association, and in Commissioner of Income Tax, Madras Vs. Andhra Chamber of
Commerce and Others, , the dominant or the primary purpose of the assessee is the promotion of trade and it is an object of public utility not
involving the carrying on of any activity to earn profit. The objects which were relied upon on behalf of the Revenue, viz., Clauses (q) and (r) are
only incidental and subsidiary objects to the primary purpose which are charitable in nature. The subsidiary objects would not render the main
object of the assessee non-charitable, and the objects of the assessee are still charitable in nature. The following passages in Additional
Commissioner of Income Tax, Gujarat Vs. Surat Art Silk Cloth Manufacturers Association, are relevant and would be applicable to the facts of
the case (page 12) :
The test which has, therefore, to be applied is whether the object which is said to be non-charitable is a main or primary object of the trust or
institution or it is ancillary or incidental to the dominant or primary object which is charitable. It was on an application of this test that in
Commissioner of Income Tax, Madras Vs. Andhra Chamber of Commerce, , the Andhra Chamber of Commerce was held to be a valid charity
entitled to exemption from tax. The court held that the dominant or primary object of the Andhra Chamber of Commerce was to promote and
protect trade, commerce and industry and to aid, stimulate and promote the development of trade, commerce and industry and to watch over and
protect the general commercial interests of India or any part thereof and this was clearly an object of general public utility and though one of the
objects included the taking of steps to urge or oppose legislation affecting trade, commerce or manufacture, which, standing by itself, may be liable
to be condemned as non-charitable, it was merely incidental to the dominant or primary object and did not prevent the Andhra Chamber of
Commerce from being a valid charity. The court pointed out that if ''the primary purpose be advancement of objects of general public utility, it
would remain charitable even if an incidental entry into the political domain for achieving that purpose, e.g., promotion of or opposition to
legislation concerning that purpose, was contemplated''. The court also held that the Andhra Chamber of Commerce did not cease to be charitable
merely because the members of the chamber were incidentally benefited in carrying out its main charitable purpose. The court relied very strongly
on the decisions in IRC v. Yorkshire Agricultural Society [1928] 1 KB 611 ; 13 TC 58 and Institution of Civil Engineers v. IRC [1931] 16 TC
158, for reaching the conclusion that merely because some benefits incidentally arose to the members of the society or institution in the course of
carrying out its main charitable purpose, it would not by itself prevent the association or institution from being a charity.
In our view, there is a mixing up of the objects of the assessee-company with the powers of the assessee-company in various clauses in the
memorandum of association. There are certain clauses which only empower the assessee-company to embark upon certain activities and they
cannot be regarded as objects of the assessee-company. In our view, the Clauses (q) and (r), even if they are considered to be the objects of the
association, they are only subsidiary objects and would not militate against the main objects of the assessee, namely, to promote the trade and
commerce and would not render the assessee a non-charitable institution. We are also of the view that the Clauses (q) and (r) of the memorandum
of association can be regarded as only powers conferred on the assessee to embark upon such activities and, therefore, we are of the view that the
objects of the assessee are charitable in nature and the assessee is entitled to exemption, provided other conditions are satisfied.
The next contention that was advanced on behalf of the Revenue is that even assuming that all the objects of the assessee are charitable in
nature, the claim for exemption by the assessee u/s 11 of the Act must fail as there are no clauses in the memorandum of association compelling the
assessee to utilise the income only for such purposes. According to learned counsel for the Revenue, the assessee being a guarantee company, is
free to utilise the income by distributing the profits to its members by way of dividend and the fact that the assessee-company did not distribute the
profits by way of dividend to its members would not show that there is no element of distribution of profits among the members. According to
learned counsel for the Revenue, there must be a specific bar in the memorandum of association to distribute the profits to the members and in the
absence of any inbuilt prohibition, the assessee being a company can distribute entire profits among the members. In support of his proposition,
learned counsel for the Revenue placed ''strong reliance on the decision of the Delhi High Court in the case of DELHI STOCK EXCHANGE
ASSOCIATION LTD. Vs. COMMISSIONER OF Income Tax, NEW DELHI., and the decision of the Supreme Court which affirmed the
decision of the Delhi High Court, cited supra, in Delhi Stock Exchange Association Ltd. Vs. Commissioner of Income Tax, New Delhi, and the
decision of this court in the case of Commissioner Of Income Tax, Madras Vs. Madras Stock Exchange Ltd. And Others., .
Mr. V.S. Jayakumar, learned counsel for the assessee, on the other hand, submitted that the assessee-company is a company incorporated
and limited by guarantees and the decision of the Delhi High Court which was affirmed by the Supreme Court in Delhi Stock Exchange Association
Ltd. Vs. Commissioner of Income Tax, New Delhi, relates to a case of a company limited by shares. He placed strong reliance on the provisions
of Section 25 of the Companies Act and submitted that under Clause (b) of Sub-section (1) of Section 25 of the Companies Act, where a
company proves to the satisfaction of the Central Government that the company intends to apply its profits in promoting its objects and to prohibit
the payment of any dividend to its members, the Central Government is empowered to issue necessary licence. He submitted that the Madras
Stock Exchange was permitted u/s 26 of the Companies Act, 1913, to omit the word, ""limited"" from its name by an order of the appropriate
Government and, therefore, the observation made by this court on the scope of Section 37 of the Companies Act was not necessary to decide the
case as Section 37 of the Companies Act deals with the case of a company limited by guarantee. He, therefore, submitted that the decision of this
court in Commissioner Of Income Tax, Madras Vs. Madras Stock Exchange Ltd. And Others., has no application to the facts of the case. He
further submitted that there was no element of distribution of profits among the members and there is nothing to show that the profits have been
distributed among the members of the assessee-company.
We have carefully considered the rival submissions of the parties. It is not disputed that the assessee-company did not get the necessary
approval from the appropriate Government either u/s 26 of the Companies Act, 1913, or u/s 25 of the Companies Act, 1956. We have already
held that the assessee-company is liable to be treated as a guarantee company. The Appellate Tribunal placed reliance on the fact that the profits
of the assessee-company have not been distributed among the members of the company. The mere fact that the profits were not distributed among
the members during the relevant years would not be sufficient to claim that the assessee is entitled to the exemption u/s 11 of the Act. This court in
the case of Commissioner Of Income Tax, Madras Vs. Madras Stock Exchange Ltd. And Others., considered the scope of the provisions of
Section 37 of the Companies Act which relates to companies limited by guarantee and after noticing the views expressed in Palmer''s Company
Law held that the fact that the assessee is limited by guarantee does not stand in the way of distribution of its profits among its members. The
above view was arrived at on the basis of the interpretation placed by it on the provisions of Section 37 of the Companies Act and this court held
as under (page 565) :
What is prohibited is a right of participation in the divisible profits of the company otherwise than as a member. It follows that there is no
prohibition against the distribution of profits among the members as such. Table C of Schedule I to the Companies Act contains the articles
applicable to such companies limited by guarantee and not having a share capital. The articles in Table C do not contain any provision either
enabling or preventing the distribution of dividends. However, there is no legal prohibition against the distribution of dividends in the case of a
company limited by guarantee.
Therefore, the fact that the assessee-company is a company limited by guarantee does not stand in the way of the company to distribute the
profits to its members. In other words, when there are no legal restriction against the distribution of profits to its members, it is open to the
company even limited by guarantee also to distribute the profits among its members and the mere fact that the company had not distributed the
profits would not prevent the company from distributing the entire profits to its members in future years. Therefore, in each case, it has to be seen
whether there are restrictions against the distribution of profits to its members even in the case of a company limited by guarantee. The Appellate
Tribunal, unfortunately, has not adverted to this aspect of the case. The Appellate Assistant Commissioner, however, noticed in his order that the
memorandum of association of the assessee-company stipulated that no part of the net receipts is distributable to the members, and the receipts
are expendable for promotion of trade and other public charitable purposes only. The Appellate Assistant Commissioner also noticed that in the
memorandum of association, the assessee-company is not given any power to utilise the surplus in any manner it likes. He also referred to bye-law
69 which states that whatever reserve fund the asses-see had, the reserve fund should also be utilised only for the objects of the trust.
The Appellate Tribunal has not adverted to any of the restrictions found in the memorandum of association or the restrictions found in the bye-
laws of the assessee-company. It solely relied upon the fact that the surplus income of the assessee was not utilised for any purpose other than the
objects of the assessee. As held by the Delhi High Court in DELHI STOCK EXCHANGE ASSOCIATION LTD. Vs. COMMISSIONER OF
Income Tax, NEW DELHI., , even assuming that all the objects of the assessee are charitable in nature, the claim for exemption would fail when
there is no legal obligation compelling the assessee to utilise the income only for such purposes. The Delhi High Court, in that context, held as under
(page 538) :
These provisions are very widely worded and, considering these also in the light of the important fact that the company is at complete liberty to
distribute its profits by way of dividends, we have no doubt in our minds that the company was at complete liberty to deal with its profits in any
manner it liked. It was not under any compulsion in law to hold the profits or to utilise them wholly or even in part only for religious or charitable
purposes. It would have been perfectly legitimate for the company to have distributed its entire profits among its members and to have set apart or
utilised no part of it for charitable purposes. The mere fact that the company did not in fact distribute any dividends will not be of any help to the
assessee as the requirement for the purposes of the exemption is, not the factual position, but whether in law the company is under any obligation
to devote its profits only to religious or charitable purposes. That test unfortunately fails in the present case.
In the above context, it may be pointed out that the HYDERABAD STOCK EXCHANGE LTD. Vs. COMMISSIONER OF INCOME TAX,
A. P., was a company registered as a charitable company under the Companies Act and hence prohibited from distributing dividends.
Commissioner Of Income Tax, Madras Vs. Madras Stock Exchange Ltd. And Others., was a company limited by guarantee. The observations of
the court at page 565-66 indicate that where there is no prohibition against distribution of dividends, the exemption u/s 11 would not be available
and the court proceeded to discuss the question regarding the assessability of income from some of the activities only on the ''hypothesis of there
being scope for exemption u/s 11(1)(b)''. We are, therefore, of the view that the present assessee being at complete liberty to distribute its profits
by way of dividend and in other ways referred to above to the members and others it cannot qualify for exemption u/s 11.
The above view of the Delhi High Court was affirmed by the Supreme Court and the Supreme Court also emphasised that there must be an
obligation created to spend the money exclusively and essentially on charities, and where there is no obligation that the income derived from the
company was to be exclusively used for charitable purposes, the claim for exemption u/s 11 would fail as it would be perfectly legitimate and open
to the assessee to spend or distribute the whole or part of the income to its members. The mere fact that the assessee-company has not distributed
its surplus profits among its members as dividend will not hold good. Whether there was a legal obligation imposed to distribute its profits on the
charitable purposes has to be seen from the relevant clauses of the memorandum of association and not from the practice adopted as it is always
permissible for the assessee to deviate from such practice and only if there are prohibitions or inherent restrictions against the distribution of profits
among its members, the assessee''s claim for exemption can succeed. We have already seen that the Appellate Assistant Commissioner has
referred to a clause in the memorandum of association as well as Clause 69 of the bye-laws of the assessee-company. Since the Tribunal has not
gone into the question whether there was a legal obligation imposed upon the assessee-company to utilise or apply its income only for the
charitable objects, we are of the view that the Tribunal should consider the question whether there was a legal obligation imposed by the
memorandum of association or the relevant bye-laws to distribute the profits for its charitable purposes. Though we answer the question of law on
the facts found by the Tribunal in favour of the Revenue, the Tribunal, however, is directed to consider the question whether the assessee is entitled
to exemption u/s 11 of the Act in the light of the observations made by us above.
The question of law referred to us consists of two parts and they are not interconnected with each other and, therefore, we reframe the
question as under :
Whether, on the facts and in the circumstances of the case, the Appellate Tribunal was right in law in holding that the status of the assessee
should be taken as that of guarantee company ?
Whether, on the facts and in the circumstances of the case, the Appellate Tribunal was correct in law in holding that the exemption u/s 11 of the
Income Tax Act should be allowed in respect of the assessee''s income for the assessment years 1976-77, 1977-78, 1978-79 and 1979-80 ?
In so far as the first question of law as refrained by us is concerned, we answer the question of law in the affirmative and against the Revenue.
In so far as the second question of law as reframed by us is concerned, though we answer the question of law in the negative and in favour of the
Revenue, the Appellate Tribunal should go into the question afresh whether there is a legal obligation against distribution of profits amongst the
members of the assessee. However, in the circumstances of the case, there will be no order as to costs.