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Housing societies and the principle of mutuality for taxation of receipts

[] When do the funds collected by a housing society become taxable? We examine this, with respect to the principle of mutuality

One cannot earn profits from himself – this is the basic argument on which the income of a housing society is contested to be tax-free as a society and its members are same thing. However, not all the receipts of a housing society are covered under this principle of mutuality. Let us discuss how the doctrine of mutuality works.

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What is the principle of mutuality and what does it cover?

A housing society is formed by house owners, for the purpose of providing maintenance services to the members of the society. Likewise there may be clubs, manufacturers and producers’ associations, residents’ welfare associations and many other organisations that pass the test of mutuality. For the purpose of providing services, a housing society collects moneys from its members. In this case, the contributors of the money and the people who avail of the services, are the same set of people.

No man can make a profit out of himself. In other words, no one can enter into a trade or business with himself. This is called the doctrine of mutuality in legal parlance. So, the members contribute towards the funds of the housing society, with the aim to render services to the members at large and not with the motive of any profit. However, it may be noted that not all the profits made by a mutual concern like a housing society, are completely tax exempt.

Court rulings on the doctrine of mutuality

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For an income of a housing society to be exempt, the Supreme Court, in the case of Indian Tea Planters’ Association Vs CIT 82 ITR, p.322 (Cal) prescribed that the contributor and the recipient of the services, should broadly be the same. Likewise, in the case of CIT Vs Bankipur Club Ltd, 226 ITR p.97 (SC), the Supreme Court held that excess of receipts over actual expenditure incurred by a club, for facilities extended to its members as part of the membership of the club, is not taxable as income. Likewise, while explaining the doctrine of mutuality, the Supreme Court, in the case of CIT Vs Kumbakonam Mutual Benefit Fund Ltd, 53 ITR p.241 (SC), laid down that the essence of mutuality lies in the return of what one has contributed to a common fund. It further held that all participants must be contributors to the common fund.

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Under the tax laws, any income, as well as profits accruing to a person or earned by a person, becomes taxable. However, where many persons come together to finance some of the activities of the group and where there are dealings with outsiders as well, then, even the surplus returned to those persons cannot be regarded as profits. There has to be perfect identity of the persons who are contributing and who are participating in the benefits and services. Even trading between persons associating together in this way, does not give rise to profits. So, the question of any tax liability does not arise. Even when the trade or activity is mutual, just because there are only certain members of the association who take advantage of the facilities offered by the organisation, it will not vitiate the mutuality of the enterprise.

Taxation of transfer fees and non-occupancy charges

So, on this logic, the transfer fee received by a housing society for transfer of a flat in the building, does not partake the character of ‘income’, as the money is collected from either an outgoing member or an incoming member, as decided in the case of CIT Vs Apsara Cooperative Housing Society Ltd, 204 ITR p.662 (Cal). The assessee was a cooperative housing society. During the relevant year, the assessee received transfer fee, for change of hands of a flat. The tribunal held that the persons became members first, before they were entitled to get the flats transferred in their names or were liable to pay the transfer fees. There was an element of mutuality, with respect to the transfer fees and therefore, this receipt was not to be subjected to tax.

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It was held by the tribunal that there was no profit element in the transaction. The society, under its regulations or bye-laws, realises transfer fees from a member, when the member intends to transfer the flat to any other person, member or otherwise and this amount was taken for the benefit of the members of the society and not for business purposes. Likewise, non-occupancy charges recovered by the society from its members, are not taxable in the hands of society on the principle of mutuality.

What are not covered under the doctrine of mutuality?

Section 2(24) of the Income Tax Act, 1961, recognises the principle of mutuality and excludes all businesses involving such principle, from the purview of the Act. However, it taxes certain items under Clause (vii) of that section.

The principle of mutuality applies to all the non-commercial activities of the society. However, if any activity is carried out commercially by the housing society – for example, letting out the terrace for a mobile antenna – it would no longer be possible to argue that the same is exempt by the principle of mutuality. This is because the contributor (i.e., the telecom company) and the participants (i.e., the members of the society) are not the same set of people and therefore, such business activity carried out by the housing society will become taxable. Likewise, any interest earned by the housing society will also be taxable, unless the same is covered under Section 80 P exemption of the Income Tax Act. Interest on fixed deposits in a bank, is taxable as income.

(The author is a tax and investment expert, with 35 years’ experience)

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Category: Must Knows

Debora Berti

Università degli Studi di Firenze, IT

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