Depreciation has been defined as the exhaustion of the effective life of a fixed asset owing to use or obsolescence and such exhaustion can be financially spread over its effective lifetime. This non-cash expense ensures true record of revenue or capital so that the balance sheet presents a true and fair view of the state of affairs. The same treatment holds good for charitable trusts also.
The Department of Revenue, in its Circular No.5-P(LXX-6) of 1968, has clarified that the word ‘income’ should be understood in its commercial sense, that is, book income, after adding back any appropriations or applications thereof towards the purpose of the trust or otherwise, and also after adding back any debits made for capital expenditure for the purposes of the trust or otherwise.
It should be noted in this connection that the amounts so added back will become chargeable to tax under Section 11 (3) to the extent they represent outgoings for purposes other than those of the trust. The amount spent or applied for the purposes of the trust from out of the income computed in the aforesaid manner, should be not less than 75 per cent of the latter if the trust is to get the benefit of exemption under Section 11(1). The Andhra Pradesh High Court has accepted the principles of accountancy for the purpose of determining the income derived from a trust’s property in CIT vs Trustee of HEH the Nizam’s Supplemental Religious Endowment Trust . In 1983, the Karnataka High Court in Commissioner of Income Tax vs Society of the Sisters of St. Anne , after considering the definition of depreciation, has held “if the depreciation is not allowed as necessary deduction for computing the income of a charitable institution, then there can be no way to preserve the corpus of the trust for deriving the income. Therefore, the amount of depreciation debited to the accounts of a charitable institution is to be deducted to arrive at the income for application to charitable and religious purposes.’’
In 1989, the High Court of Madhya Pradesh has accepted the definition of depreciation, and held “if depreciation is not allowed as a necessary deduction in computing the income of a charitable trust, then there would be no way to preserve the corpus of the trust” and categorically ruled that “the charitable trust is entitled to depreciation in respect of the assets owned by it.” In 1992, the Gujarat High Court has also held “that the expression income has to be understood in the popular or general sense and not in the sense in which the income is arrived at for the purpose of assessment to tax by application of some artificial provisions either by giving or denying deduction.”
Legitimate deduction The Bombay High Court (2003) held “that normal depreciation can be considered as a legitimate deduction in computing the real income of the assessee on general principles or under Section 11(1)(a) of the Income Tax Act, 1961.” The court rejected the contention of double deduction, and came to the conclusion “that the income of the trust is required to be computed under Section 11 on commercial principles after providing for allowance for normal depreciation and deduction, thereby, from the income of the trust.”
The Punjab and Haryana High Court in the year 2010 has ruled that there is no double deduction on account of depreciation after hearing the Revenue’s reliance on the apex court order in Escorts Ltd. The court correctly distinguished the cases under Section 11(1) and 35(1)(iv) of Escorts Ltd. in which Section 35(1)(iv) barred depreciation under Section 32 if an equipment is acquired for research and the cost allowed as deduction under Section 35. In the case of charitable trust, depreciation is reduced from the income for determining the income to be applied for the charitable objects.
Presumption againstaccounting principles Despite a cantena of various high court decisions holding depreciation a necessary deduction for computing the income of a charitable institution and its consequential application and preserving the corpus, the Kerala High Court in 2012 proceeded on a presumption that “the other high courts had not considered and discussed an aspect that a charitable institution cannot generate income outside the books” and came to a wrong conclusion “after writing off full value of the capital expenditure on acquisition of assets as application of income for charitable purposes and when the assesee again claims the same amount in form of depreciation, such notional claim becomes cash surplus available with the assessee, which goes outside the books of accounts of the trust unless it is written back which is not done.” The assumption itself is incorrect as the asset is not written off in the books of the assessee and the entire value is shown under fixed assets in the balance sheet. There is no room for superfluous income outside the books of the assessee. Such a presumption is against accounting principles and wrongly deviates from all other related high courts’ decisions.
The Revenue’s understandable liking of the Kerala High Court order denying depreciation on allowable expenditure to charitable organisations is resulting in a plethora of avoidable litigation. To put the issue at rest, the Finance Minister must appreciate the majority of high court orders and rightly allow depreciation as a deductible expense to compute application of income and direct the CBDT to clarify accordingly.
The author is Vice-Chancellor,SASTRA University
