Benefit of Accumulation of Trust fund is for 5 years or 7 years?

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Benefit of Accumulation of Trust fund is for 5 years or 7 years?

 

Trust, NGO, NPO etc are allowed to accumulate up to 15% of the income earned during the year for application for charitable or religious purposes in India in future without any restrictions and limitations.

However, if such trust wants to accumulate addition to 15% of the income subject to the compliance of the following conditions:

  1. such Trust furnishes a declaration in Form No. 10 electronically either under digital signature or electronic verification code to the Assessing Officer, stating the purpose for which the income is being accumulated or set apart and
  2. The period for which the income is to be accumulated or set apart cannot exceed five years;
  3. Such amount which is so accumulated or set apart is invested or deposited in the forms or modes specified in section 11(5);
  4. the statement i.e., Form No. 10 is required to be furnished on or before the due date specified under section 139(1) for furnishing the return of income for the previous year.
  5. While reckoning the period of five years referred to in clause (a), the period during which the income could not be applied for the purpose for which it is so accumulated or set apart, due to an order or injunction of any court, shall be excluded.

We have discussed in our earlier article at https://thetaxtalk.com/2020/08/31/charitable-trust-accumulation-of-income-u-s-112-its-application-thereafter-confusions-clarifications/ as to whether trust can generalize ‘towards the object of trust” in Form No. 10 so as to get the benefit of carry forward or not? Further, the issue whether the trust who has filed Form No. 10 for taking the benefit of accumulation u/s 11(2) can be changed afterwards was also discussed at –https://thetaxtalk.com/2020/09/01/changing-the-purpose-of-accumulation-of-income-in-form-no-10-after-its-filing-section-113a/

Another question received by me about the period for which the amount could be utilized. Is it 5 years or 6 years or even more?

Let us elaborate upon it. Before coming to the discussion, let us revisit section 11 of the Income Tax Act -1961 which is dealing with the present issue.

Income from property held for charitable or religious purposes.

  1. (1) Subject to the provisions of sections 60 to 63, the following income shall not be included in the total income of the previous year of the person in receipt of the income—

 (a) income derived from property held under trust wholly for charitable or religious purposes, to the extent to which such income is applied to such purposes in India; and, where any such income is accumulated or set apart for application to such purposes in India, to the extent to which the income so accumulated or set apart is not in excess of fifteen per cent of the income from such property;

 (b) income derived from property held under trust in part only for such purposes, the trust having been created before the commencement of this Act, to the extent to which such income is applied to such purposes in India; and, where any such income is finally set apart for application to such purposes in India, to the extent to which the income so set apart is not in excess of fifteen per cent of the income from such property;

 (c) income derived from property held under trust—

   (i) created on or after the 1st day of April, 1952, for a charitable purpose which tends to promote international welfare in which India is interested, to the extent to which such income is applied to such purposes outside India, and

  (ii) for charitable or religious purposes, created before the 1st day of April, 1952, to the extent to which such income is applied to such purposes outside India:

Provided that the Board, by general or special order, has directed in either case that it shall not be included in the total income of the person in receipt of such income;

 (d) income in the form of voluntary contributions made with a specific direction that they shall form part of the corpus of the trust or institution.

Explanation 1.—For the purposes of clauses (a) and (b),—

 (1) in computing the fifteen per cent of the income which may be accumulated or set apart, any such voluntary contributions as are referred to in section 12 shall be deemed to be part of the income;

 (2) if, in the previous year, the income applied to charitable or religious purposes in India falls short of eighty-five per cent of the income derived during that year from property held under trust, or, as the case may be, held under trust in part, by any amount—

   (i) for the reason that the whole or any part of the income has not been received during that year, or

  (ii) for any other reason,then—

  (a) in the case referred to in sub-clause (i), so much of the income applied to such purposes in India during the previous year in which the income is received or during the previous year immediately following as does not exceed the said amount, and

  (b) in the case referred to in sub-clause (ii), so much of the income applied to such purposes in India during the previous year immediately following the previous year in which the income was derived as does not exceed the said amount,

may, at the option of the person in receipt of the income (such option to be exercised before the expiry of the time allowed under sub-section (1) of section 139 for furnishing the return of income, in such form and manner as may be prescribed) be deemed to be income applied to such purposes during the previous year in which the income was derived; and the income so deemed to have been applied shall not be taken into account in calculating the amount of income applied to such purposes, in the case referred to in sub-clause (i), during the previous year in which the income is received or during the previous year immediately following, as the case may be, and, in the case referred to in sub-clause (ii), during the previous year immediately following the previous year in which the income was derived.

Explanation 2.—Any amount credited or paid, out of income referred to in clause (a) or clause (b) read with Explanation 1, 38[to any fund or trust or institution or any university or other educational institution or any hospital or other medical institution referred to in sub-clause (iv) or sub-clause (v) or sub-clause (vi) or sub-clause (via) of clause (23C) of section 10 or other trust or institution registered under section 12AA, being contribution with a specific direction that it shall form part of the corpus], shall not be treated as application of income for charitable or religious purposes.

Explanation 3.—For the purposes of determining the amount of application under clause (a) or clause (b), the provisions of sub-clause (ia) of clause (a) of section 40 and sub-sections (3) and (3A) of section 40A, shall, mutatis mutandis, apply as they apply in computing the income chargeable under the head “Profits and gains of business or profession”.

(1A) For the purposes of sub-section (1),—

 (a) where a capital asset, being property held under trust wholly for charitable or religious purposes, is transferred and the whole or any part of the net consideration is utilised for acquiring another capital asset to be so held, then, the capital gain arising from the transfer shall be deemed to have been applied to charitable or religious purposes to the extent specified hereunder, namely:—

   (i) where the whole of the net consideration is utilised in acquiring the new capital asset, the whole of such capital gain;

  (ii) where only a part of the net consideration is utilised for acquiring the new capital asset, so much of such capital gain as is equal to the amount, if any, by which the amount so utilised exceeds the cost of the transferred asset;

 (b) where a capital asset, being property held under trust in part only for such purposes, is transferred and the whole or any part of the net consideration is utilised for acquiring another capital asset to be so held, then, the appropriate fraction of the capital gain arising from the transfer shall be deemed to have been applied to charitable or religious purposes to the extent specified hereunder, namely:—

   (i) where the whole of the net consideration is utilised in acquiring the new capital asset, the whole of the appropriate fraction of such capital gain;

  (ii) in any other case, so much of the appropriate fraction of the capital gain as is equal to the amount, if any, by which the appropriate fraction of the amount utilised for acquiring the new asset exceeds the appropriate fraction of the cost of the transferred asset.

Explanation.—In this sub-section,—

  (i) “appropriate fraction” means the fraction which represents the extent to which the income derived from the capital asset transferred was immediately before such transfer applicable to charitable or religious purposes;

 (ii) “cost of the transferred asset” means the aggregate of the cost of acquisition (as ascertained for the purposes of sections 48 and 49) of the capital asset which is the subject of the transfer and the cost of any improvement thereto within the meaning assigned to that expression in sub-clause (b) of clause (1) of section 55;

(iii) “net consideration” means the full value of the consideration received or accruing as a result of the transfer of the capital asset as reduced by any expenditure incurred wholly and exclusively in connection with such transfer.

(1B) Where any income in respect of which an option is exercised under clause (2) of the Explanation to sub-section (1) is not applied to charitable or religious purposes in India during the period referred to in sub-clause (a) or, as the case may be, sub-clause (b), of the said clause, then, such income shall be deemed to be the income of the person in receipt thereof—

 (a) in the case referred to in sub-clause (i) of the said clause, of the previous year immediately following the previous year in which the income was received; or

 (b) in the case referred to in sub-clause (ii) of the said clause, of the previous year immediately following the previous year in which the income was derived.

(2) Where eighty-five per cent of the income referred to in clause (a) or clause (b) of sub-section (1) read with the Explanation to that sub-section is not applied, or is not deemed to have been applied, to charitable or religious purposes in India during the previous year but is accumulated or set apart, either in whole or in part, for application to such purposes in India, such income so accumulated or set apart shall not be included in the total income of the previous year of the person in receipt of the income, provided the following conditions are complied with, namely:—

 (a) such person furnishes a statement in the prescribed form and in the prescribed manner to the Assessing Officer, stating the purpose for which the income is being accumulated or set apart and the period for which the income is to be accumulated or set apart, which shall in no case exceed five years;

 (b) the money so accumulated or set apart is invested or deposited in the forms or modes specified in sub-section (5);

 (c) the statement referred to in clause (a) is furnished on or before the due date specified under sub-section (1) of section 139 for furnishing the return of income for the previous year:

Provided that in computing the period of five years referred to in clause (a), the period during which the income could not be applied for the purpose for which it is so accumulated or set apart, due to an order or injunction of any court, shall be excluded.

Explanation.—Any amount credited or paid, out of income referred to in clause (a) or clause (b) of sub-section (1), read with the Explanation to that sub-section, which is not applied, but is accumulated or set apart, to any trust or institution registered under section 12AA or to any fund or institution or trust or any university or other educational institution or any hospital or other medical institution referred to in sub-clause (iv) or sub-clause (v) or sub-clause (vi) or sub-clause (via) of clause (23C) of section 10, shall not be treated as application of income for charitable or religious purposes, either during the period of accumulation or thereafter.

(3) Any income referred to in sub-section (2) which—

 (a) is applied to purposes other than charitable or religious purposes as aforesaid or ceases to be accumulated or set apart for application thereto, or

 (b) ceases to remain invested or deposited in any of the forms or modes specified in sub-section (5), or

 (c) is not utilised for the purpose for which it is so accumulated or set apart during the period referred to in clause (a) of that sub-section or in the year immediately following the expiry thereof,

 (d) is credited or paid to any trust or institution registered under section 12AA or to any fund or institution or trust or any university or other educational institution or any hospital or other medical institution referred to in sub-clause (iv) or sub-clause (v) or sub-clause (vi) or sub-clause (via) of clause (23C) of section 10,

shall be deemed to be the income of such person of the previous year in which it is so applied or ceases to be so accumulated or set apart or ceases to remain so invested or deposited or credited or paid or, as the case may be, of the previous year immediately following the expiry of the period aforesaid.

Reading the fine lines of above provision of section 11(1), 11(2) with 11(3), one can draw the following views:

  1. If in any financial year, the amount could not be utilized up to 85% then the person can exercise the option of accumulation in that year. If option is exercised, the trust will be able to carry forward the accumulated balance for 5 years. It means that in the year of receipt of income by the trust, it will be treated as “deemed” to have applied.
    In short, the benefit is upfront for that year and for next 5 years i.e., the benefit is for 1+ 5 years as per the wording of section 11(1) & 11(2).
  2. Now, what if the amount is not utilized for a period of 1 +5 years?
  3. To illustrate, a trust got income in the FY 2019-20 and the amount is short of 85% and so the trust has opted to exercise an option of accumulation for FY 2019-20. It means that the trust will get the benefit of deemed application for FY 2019-20 on “deeming” clause. For the next 5 years i.e., 2020-21, 21-22, 22-23, 23-24 & 24-25 it has to use the amount for charitable purposes.
  4. Now, what happens if the amount is not applied till 2024-25? Section 11(3)(c) would come in to play, relevant part of which reads as under:11 (3) Any income referred to in sub-section (2) which—

(a)      …………..

(b)      ……….

(c)     is not utilized for the purpose for which it is so accumulated or set apart during the period referred to in clause (a) of that sub-section or in the year immediately following the expiry thereof,

(d)      ……..
shall be deemed to be the income of such person of the previous year in which it is so applied or ceases to be so accumulated or set apart or ceases to remain so invested or deposited or credited or paid or, as the case may be, of the previous year immediately following the expiry of the period aforesaid.

It may be carefully noted that the sub section 11(3), clause (c) reads that “or in the year immediately following the expiry thereof” which means that after a period of 1+5 years, one more year i.e., 7th year is allowed for application. In short, after expiry of the 6th year, the application can be done in the 7th year and if it is not done then such accumulated amount will be taxable in the 7th year.. This is further confirmed by the lines after conclusion of the clauses (a) to (d) which reads as

 shall be deemed to be the income of such person of the previous year…… of the previous year immediately following the expiry of the period aforesaid”.

The clause (c) and concluding part of 11(3) are operating in a synchronized way to make the unutilized amount chargeable to tax in the 7th year i.e., after a period of 1+5 years.

This is against the normal misconception that the amount needs to be utilized in a period of 5 years. Section 11(3) allows 7 years as the timing of taxation is provided by the lines as immediately following the expiry of the period aforesaid”. The combined reading of all the relevant sections enables one to draw the conclusions that the application of such funds accumulated has to be done within a period of 7 years. This is my personal view and I invite the suggestions and feedback on this view adopted by mine.

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