Tax Liability Of Clubs

T N Pandey takes a look at the various legal provisions

The issue of taxing incomes of clubs from supply of drinks and refreshments, providing accommodation to admission fees and subscriptions from members has been a point of contention for long. However, this issue was settled in a batch of 16 cases by the Supreme Court in its judgement on May 8, 1997 (CIT vs Bankipur Club Ltd JT 1997 (5) SC 191).

The respective clubs claimed that they were entitled to tax exemptions on the income earned by them from the activities mentioned above. In their cases, the Income Tax Tribunal and the various high courts ruled that income earned from members as per the rules and regulations were not tainted with commercial or profit motives. These were offered only as a matter of convenience for the members and their families and friends. The surplus (ie excess of receipts over expenditure) arose as a result of mutual arrangement and hence cannot be said to be income for the purpose of the IT Act.

 

The Supreme Court examined the issue from the angle of mutuality, taking into account the law relating to mutual trading or mutual undertaking as given in Halsbury Laws of England, Simons Taxes and British Tax Encyclopedia. It concluded that for the application of the principle of mutuality, of a mutual society or concern (including members club), there must be a complete identity between the class of contributors and the class of participators. The particular label or form by which the mutual association is known, is of no consequence.

The crucial issue that arises in cases where it is claimed that on the basis of the principle of mutuality, the receipts by the society or club is exempt from taxation, has been stated by the Judicial Committee of the Privy Council in Fletcher vs IT Commissioner (1971(3) All ER 1185 at page 1189), thus:

...Is the activity, on the one hand, a trade, or an adventure in the nature of trade, producing a profit, or is it, on the other, a mutual arrangement which, at most, gives rise to a surplus?

Thus, in substance, the relationship between the club and its members should be that of a non-trading type. While considering the issue, the court also took into account the observations made in the book The Law and Practice of Income Tax by Kanga & Palkhivala, which said:

...The contributors to the common fund and the participators in the surplus must be an identical body. That does not mean that each member should contribute to the common fund or that each member should participate in the surplus or get back from the surplus precisely what he has paid.

The Madras, Andhra Pradesh and Kerala high courts have held that the test of mutuality does not require that the contributors to the common fund should willy-nilly distribute the surplus amongst themselves: it is enough if they have a right of disposal over the surplus, and in exercise of that right they may agree that on winding up the surplus will be transferred to a similar association or used for some charitable objects...

With this background, the court looked into the findings as recorded by the Tribunal to decide whether the clubs were entitled to the tax exemptions. The Appellate Tribunals and the high courts had found that the amounts received by the clubs for supply of drinks and refreshments or renting out the building or the amounts received by way of admission fees and periodical subscription charges from the members were only towards charges for the privileges, conveniences and amenities provided to the members, which they were entitled to as per the rules of the respective clubs.

It has also been found that different clubs charged various sums on the above counts only from members who could afford them. The facilities were offered only as a matter of convenience for the members (and occasionally for their friends). Hence it was decided that the surplus/excess of receipts over the expenditure as a result of mutual arrangement cannot be categorised as income for the purpose of the Act.

Referring to similar cases from English and Indian courts, it has been said that these decisions lay down the broad proposition that, if the object of the assessee company claiming to be a mutual concern or club, is to carry on a particular business and money is realised both from the members and non-members for the same consideration by giving the same or similar facilities to all alike in respect of the one and the same business carried on by it, the dealing as a whole discloses the same profit earning motive and are tainted with commerciality.

In other words, the activity carried on by the assessee in such cases, claiming to be a mutual concern or members club is a trade or an adventure in the nature of trade, and the transactions entered into with the members or non-members alike and the resultant surplus is certainly profit-income liable to tax.

The Court has however clarified that it is difficult to say as to at what point the relationship of mutuality end and trading begins. It would largely be a question of fact.

The settled law on the issue is that where a number of persons combine together and contribute to a common fund for the financing of some venture and will in this respect have no dealings or relations with any outside body, then any surplus returned to those persons cannot be regarded as profit. There must be a complete identity between the contributors and the participators. If these requirements are fulfilled, it is immaterial what particular form the association takes.The Court has however clarified that it is difficult to say as to at what point the relationship of mutuality ends and trading begins. It would largely be a question of fact.