By Noshir H. Dadrawala posted in Karmayog.org
The Finance Act 2008 and the proposed New Direct Tax Code will have far reaching consequences on charitable organizations in India.
However, first, let us have a look at the more recent Finance (No.2) Act 2009:
The Finance (No.2) Act, 2009 which is applicable with retrospective effect from April, 1 2009 will have the following effect on charitable institutions in India.
Definition of 'Charitable Purpose'
The scope of Section 2 (15) of the Income Tax Act has been broadened. Prior to this amendment, "Charitable purpose" included: "relief of the poor, education, medical relief and the advancement of any other object of general public utility".
Finance (No.2) Act 2009 has now added: "preservation of environment (including watersheds, forests and wildlife) and preservation of monuments or places or objects of artistic or historic interest".
Anonymous Donations
Section 115BBC was introduced for the first time by the Finance Act 2006 to tax anonymous donations to charitable organizations at the maximum marginal rate of 30%.
A degree of relief has been provided under the present amendment such that anonymous donations aggregating up to 5% of the total income of the organization or a sum of rupees hundred thousand, whichever is higher, will not be taxed.
Now coming to the Repercussions Of Finance Act 2008 W.E.F. April 1, 2009:
The Finance Act 2008 which has come into effect from April 1, 2009 has far reaching effect on charitable organizations which have been established for a purpose other than relief of the poor, education and medical relief.
The Finance Act, 2008 has excluded any trade, commerce or business related activity by any trust or NGO having as its charitable purpose "the advancement of any other object of general public utility".
Charitable organizations exclusively engaged in the field of education, medical relief and relief of poor are NOT affected by this amendment.
With effect from 1st April 2009, income from trade, commerce or business of those NGOs which fall under the fourth category of 'charitable purpose' (i.e. "the advancement of any other object of general public utility"), shall not be treated as charitable activity and the entire exemption of such Trust will be lost.
Consequently such organizations will not be eligible for any exemption under section 11 or other provisions which provide exemptions towards charitable purpose. Even if the business activity of such an organization is incidental, it will lose its charitable status.
There seems to be a belief among some accountants that only the business income of the organization will become taxable at the rate of 30%. The fact is, if the organization is hit by this provision it will loose its charitable status and the entire income will become taxable.
It is pertinent to note that this amendment prohibits "business activity" and NOT "profit making". In other words generating profit through charity shows, rent from property or conferences facilities, etc. is permissible and valid.
However, the CBDT's circular categorically denies incidental business or commercial activities such as marketing products of the beneficiaries or greeting cards etc, on a regular basis.
Many experts are of the view that Consultancy income should not be considered as part of business or commercial activity. 'Consultancy' is a professional exercise based on intellectual capital and expertise.
Going by the statute and various case laws, the following activities by charitable organizations established for "the advancement of any other object of general public utility" would not be considered as business income:
a.. Income from Consultancy;
b.. Income from rent (from immovable properties);
c.. Income from conference halls and other such facilities;
d.. Income from one time activities such as charity shows, etc;e.. Income from professional service related with expertise incidental to charitable work, etc.
And, now, finally, let's take a quick look at the New Direct Tax Code 2009:
A new Direct Tax Code has been proposed by the government of India, for which a draft and a discussion paper were recently released by the Union Finance Minister, Mr. Pranab Mukherjee.
The Direct Tax Code will replace the existing Income Tax Act that was enacted in 1961, which had replaced an earlier legislation of 1922 enacted prior to the country's independence. The government intends to present the relevant bill during the winter session of parliament, after considering and incorporating, if seen fit, the opinions on its provisions from the public. The government hopes it will become law in 2011.
The new code will completely overhaul and simplify the existing tax proposals for not only individual tax payers, but also corporate houses and foreign residents. The idea is to keep the provisions simple so that even an average taxpayer can understand the language, than having to go to chartered accountants and income tax practitioners. It will also introduce the concept of tax calculators.
The new code proposes to cut tax rates to bring in more people and companies under the tax net, phase out profit-linked exemptions for companies and replace them with investment-linked incentives. Business losses will be allowed to be carried forward indefinitely, while rules for capital gains and mergers and acquisitions will be rationalized, according to the draft plan.
The new code will also recast the powers of the Central Board of Direct Taxes, induce more transparency in decision-making and tune it to tax boards of countries like the USA, Canada and Britain.
Effect of the Proposed Direct Tax Code on Charities In India
The draft Direct Tax Code was released by the Finance Minister on August 12, 2009 for comments. This code seeks to replace the Income Tax Act, 1961. This proposed Code has raised several issues which will have serious implications, especially for the Charitable / Non-Profit Sector.
Key Issues:
1) Charitable organizations will not be allowed to carry forward unspent income from one financial year to the next. If they do, they will have to cough up15% tax on the same! The same principle will apply for multi-year grants - organizations will not be able to set aside or accumulate funds for long-term projects. Income and expenditure will have to be accounted on cash basis only. In particular, grant-making agencies based in India will be affected the most.
2) Though surplus of one year will be taxed, it may be difficult for the NPO to bring forward deficit of a past year, and set it off against the surplus. Thus, if you spend borrowed money for a project, you may end up paying tax when the grant is actually received next year.
3) Further restrictions are being placed on incidental business activities. For example, a charitable organization selling greeting cards may be able to do so only if these are produced by the beneficiaries.
4) Concept of 'Charitable Purpose' is proposed to be replaced by 'permitted welfare activities'.
5) Approval under 35AC (100% deductibility for donors) will be discontinued. Charitable organizations will be able to offer a maximum of 50% deductibility to their donors.
These changes are likely to come into play with effect from 1st April 2010.On the positive side, NPOs will be able to invest surplus funds in share market or private banks. They will also not be required to pay 30% tax on anonymous donations.The finance ministry has uploaded on its website - www.finmin.nic. in the draft direct tax code, a discussion paper, a comment on the code and what rating people would like to give to it.
All charitable organizations are requested to oppose some of these drastic changes in the New Tax Code which will adversely affect charitable giving and charitable activities across India.
Forget yourself for others, and others will never forget you.
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