Financial guidelines for trusts

The Finance Act, 2002 has made several amendments in the Income-tax Act, 1961 (the Act) regarding charitable or religious trusts and institutions. The salient features of these trusts and institutions under section 11 of the Act are:

•85 percent of the trust income must be applied in the accounting year itself to charitable purposes;

•15 percent of the trust income can be accumulated for an indefinite period without any condition;

•The deferment of application of income is permissible only in a case where the income has not been received during the accounting year;

•Donations from the corpus or income for the accounting year to other exempted trusts will be considered as application of income for charitable purposes and will be exempt from tax;

•The maximum period permissible for accumulation of income from April 1, 2002 is five years;

•A charitable trust whose total income in an accounting year exceeds one crore rupees is not required now to publish its accounts in a local newspaper.

In order to enjoy exemption from tax to the full extent, generally speaking at least 85 percent of the trust income has to be applied to charitable purposes in the accounting year itself. But the trust income may become finally known only at the end of the accounting year and it may therefore become difficult to determine precisely the amount required to be applied to charitable purposes before the close of the year. Part of the income accruing in the accounting year may be received at the end of that year and cannot therefore be applied to charitable purposes in that year. In several cases donations are received just a few days before the expiry of the year. Several interest warrants are also received in a similar manner.

Such cases cause genuine difficulties to the trust regarding application of its income to charitable purposes in the accounting year itself. Section 11(1) as amended now requires that the application of the income in the immediately following accounting year (i.e. the deferment of application of income) can be made only in cases where the whole or any part of the income has not been received during the accounting year.

The Act does not permit unrestricted accumulation of the trust income. In case of property held wholly for charitable purposes, the accumulation of trust income should not be in excess of 15 percent of the aggregate of the income from the trust property and voluntary contributions deemed to be income under section 12.

If 85 percent of the trust income is not applied to charitable purposes during the previous year and accumulation in excess of 15 percent of the trust income is made for the purposes of the trust, the income so accumulated shall not be included in the total income of the previous year if the following two conditions are fulfilled:

•a notice in writing should be given to the assessing officer in Form No. 10 in the prescribed manner specifying the purpose for which the income is being accumulated and the period for which the income is to be accumulated, but in no case is the income allowed to be accumulated for more than five years in respect of income accumulated on or after April 1, 2001 and 10 years in respect of income accumulated on or before March 31, 2001 and

•the accumulated income should be invested or deposited in the forms or modes of investment specified in sub-section (5) of section 11.

The accumulated income in respect of which these conditions are satisfied is entitled to exemption over and above the 15 percent of the income allowed to be accumulated without losing exemption. Where the income is accumulated in excess of the allowable limit, it is only the excess amount accumulated, and not the entire trust income, which becomes disentitled to exemption.

Donations from accumulated income of a charitable trust to another exempted trust will not be considered as application of income for charitable purposes and will be liable to tax accordingly. Thus inter-trust donations can only be made out of the corpus or the income for the accounting year and not out of the accumulated income of the trust. A charitable trust may have surplus accumulated funds which could be put to better use if donated to other charitable trusts doing better philanthropic work. The trust is now prohibited from making such donations. The provision allowing inter-trust donations only out of the corpus or the current year’s income is a retrograde step adversely affecting the growth of charitable trusts in the country.

Sub-section (3A) of section 11 provides that if due to unavoidable circumstances the accumulated income cannot be applied for the purpose it was accumulated, the assessing officer may permit it to be applied for payment to any other charitable trust in conformity with the objects of the trust. The proviso to the sub-section now inserted takes away the discretion of the assessing officer to allow the charitable trust to apply the accumulated income for payment to any other charitable trust.

The recent amendment of sub-section (3A) of section 11 made by the Finance Act, 2003 provides that where a charitable trust which has invested its income in the prescribed forms or modes is dissolved, the assessing officer may allow the donation made by it to another charitable trust as application of accumulated income for charitable purposes in the year in which the trust claiming exemption is dissolved and the same will be treated as application of income for charitable purposes and will be exempt from tax. This is by way of an exception to the provision that inter-trust donations can only be made out of the corpus or income of the trust for the accounting year.

Omission of the provision regarding publication of accounts of a charitable trust (whose total income exceeds one crore rupees in a previous year) in a local newspaper is an initiative taken by the Government in the right direction and is well appreciated by such trusts.

Similar principles apply, so far as may be, to approved educational and medical institutions, scientific institutions, notified trusts, trade unions, news agencies, etc. These institutions are now required to file their returns of income if their income without giving effect to exemption under section 10 exceeds the maximum amount not chargeable to income-tax [section 139 (4C)]. Failure to furnish the return of income attracts penalty under the Act. The return of income will not be considered as defective if the certificate for the tax deducted at source has not been furnished along with the return of income due to the default of the payer in not furnishing such a certificate. The certificate is, however, required to be produced within two years from the end of the assessment year [explanation to section 139(9)].

Rustom S. Gae, a former law secretary to the Government of India, is presently a senior advocate practising in the Supreme Court of India. He is known for his expertise on subjects relating to fiscal laws, company law and constitutional law. He writes frequently on legal issues pertaining to the community.