Patna High Court
Commissioner Of Income-Tax vs Ranchi Club Ltd. on 24 September, 1991
Equivalent citations: [1992]196ITR137(PATNA)
Author: Aftab Alam
Bench: Aftab Alam
JUDGMENT G.C. Bharuka, J.
1. This reference has been made by the Income-tax Appellate Tribunal, Patna Bench, Patna, under the provisions of Section 256(1) of the Income-tax Act, 1961 (hereinafter to be referred to as "the Act" only), seeking the opinion of this court on the following questions of law :
"(i) Whether, on the facts and in the circumstances of the case, the Tribunal has rightly held that the assessee-club is a 'mutual concern' ?
(ii) Whether, on the facts and in the circumstances of the case, the Tribunal has rightly held that the income derived by the assessee-club from its house property let to its members and their guests is not chargeable to tax ?
(iii) Whether, on the facts and in the circumstances of the case, the Tribunal has rightly held that the income derived by the assessee-club from sale of liquor, etc., to its members and their guests is not taxable in its hands ?"
2. The assessee, Ranchi Club Limited, is a company incorporated under the Indian Companies Act, 1913. It is limited by guarantee. The memorandum of association of the assessee discloses that its main object is to provide a club house and other conveniences and accommodation for the use of its members and their friends. Clauses (4) and (5) of the memorandum are material for the determination of the issues involved since these provide for the contribution of the members to the common fund of the club, guarantee towards debts and liabilities and upon winding up, their participation in the surplus. The said clauses read as under :
"4. Every member of the company undertakes to contribute to the assets of the company, in the event of the same being wound up during the time he is a member or within one year afterwards for payment of the debts and liabilities of the company contracted before the time at which he ceases to be a member, and of the costs, charges and expenses of winding up the same, and for the adjustments of the rights of the contributories amongst themselves such amounts as may be required not exceeding Rs. 50.
5. If, upon the winding up or dissolution of the club, there remains, after the satisfaction of all debts and liabilities any property whatsoever, the same shall be paid to or distributed among the members of the club in equal shares."
3. A reading of the articles of association reveals that, apart from the concept of "member" envisaged under the memorandum, it has created one more class described as temporary members, honorary members, lady members and patrons (for convenience hereinafter to be referred to as "temporary members"). Article 2 of the articles provides that only permanent members of the club shall be deemed to be the members of the company. Article 8 of the articles provides that the temporary members shall not be deemed to be members within the meaning of Clauses (4) and (5) of the memorandum. Article 9 of the articles provides that temporary members shall not be entitled to vote on a ballot or attend or vote at general meetings or have any voice in the management of the club.
4. The present reference relates to the assessment year 1977-78. For this period, the assessee had filed its return showing Rs. 6,030 as its income under the head "House property" representing the income arising out of gross rent and reservation charges received by it from persons other than members. But the Income-tax Officer, while assessing the income, also included the amount received by the assessee even from its members on account of rent from the club property and the receipts on sale of liquor, etc., to its members and their guests. On appeal, the Appellate Assistant Commissioner deleted the additions made by the Income-tax Officer on the ground that the Tribunal in earlier assessment years, namely, 1972-73, 1973-74 and 1974-75, on identical facts had held that since the assessee-company is a "mutual concern", the receipts by the company from its members and their guests cannot be subjected to assessment. In the appeal preferred by the Income-tax Officer, the Tribunal also took the same view.
5. In respect of the earlier assessment years, the Revenue preferred references to this court under Section 256(1) of the Act. This court answered the questions referred to it in favour of the Revenue. This case is reported as CIT v. Ranchi Club [1987] 168 ITR 120. In this case, it was held that the assessee-club was not a mutual concern and, as such, even the receipts from its members and their guests on account of rent and sale of liquor, etc., are liable to be taken into account for computation of the taxable income under the Act. While coming to the said conclusion, it was observed by Uday Sinha J. (at page 123) :
"I find that, in accordance with the articles of association, only permanent members were the members of the club. The rest, namely, temporary members, lady members and honorary members enjoyed the privileges on sufferance. The members of the club of Jamshedpur were entitled as of right to avail of the facilities. The premises were let out on hire to Rotary Club and Lions Club. The guest room could be utilised by non-members as well, who would pay for them. Thus, the contributors were not only members but non-members as well. Thus, on these facts, it is difficult to hold that there was mutuality amongst the members and the club."
6. The submissions made on behalf of the assessee that the income from non-members alone can be treated as subject to tax leaving out the income from sale to members was also rejected on the premise that once there is want of complete identity between the contributors and participators, the principle of mutuality is lost.
7. Subsequently, when the present case came up for consideration before another Division Bench, it was felt that there was some conflict between the views taken by this court in the case of CIT v. Bankipur Club Ltd. [1981] 129 ITR 787 and CIT v. Ranchi Club Ltd. [1987] 168 ITR 120 and, accordingly, this case was referred to a Full Bench.
8. In the case of Bankipur Club Ltd. [1981] 129 ITR 787 (Patna), as is evident from the judgment itself, the provisions in the memorandum and articles of association with respect to the membership are almost identical to those of the Ranchi Club. In this case, it has been noticed by this court, "Clause (5) of the memorandum of association makes a provision that upon the winding up or dissolution of the company, if there remains any property left after the satisfaction of all debts and liabilities, the same shall be paid and distributed amongst members of the company in equal shares". The court also took into consideration article 6 of the articles which provides that only permanent members will be deemed to be members of the club and that temporary members have no right to vote or manage the affairs of the club. In spite of these provisions, it was held that the principle of mutuality will apply only to the facts of the case on the reasoning that the drinks in the bar were sold only to its members, may be permanent or temporary, and not to outsiders and further that there was no profit-earning motive in these transactions so as to taint it with commerciality (see at page 791).
9. Bankipur Club's case [1981] 129 ITR 787 (Patna), has been distinguished in the case of Ranchi Club [1987] 168 ITR 120 (Patna) with an observation that "there was no provision in the bye-laws of the Bankipur Club that only permanent members would be the members of the club" (at page 123). This is clearly an error of record.
10. A reading of the above-referred two decisions of this court shows that, under almost identical facts and circumstances, in the case of Bankipur Club [1981] 129 ITR 787 (Patna), the principle of mutuality was held to be applicable in respect of the receipts both from the permanent as well as temporary members on the ground that no profit-motive was involved in the safd transaction. But, in the case of Ranchi Club [1987] 168 ITR 120 (Patna), the applicability of the said principle of mutuality has been denied even in respect of the receipts from permanent members of the club on the ground that the enjoyment of club facilities by the temporary members on sufferance has destroyed the applicability of the mutuality principle even in respect of the receipts from permanent members.
11. Section 4 is the charging section under the Act. It provides that "where any Central Act enacts that income-tax shall be charged for any assessment year at any rate or rates, the income-tax at that rate or those rates shall be charged for that year in accordance with, and subject to the provisions of, this Act in respect of the total income of the previous year or previous years, as the case may be, of every person." A reading of the aforesaid charging section clearly shows that every person is liable to pay tax on its income as envisaged under the Act. The words "income" and "person" have been respectively defined in Clauses (24) and (31) of Section 2 of the Act. Every company and association of persons, undisputedly, fall within the ambit of the expression "person". Therefore, the assessee, either as a company or as an association of persons, is a legal entity liable to tax under the Act. The Act does not envisage any exemption in its favour. The second question which arises is whether the receipts of the assessee are income for the purpose of the Act. This is the crux of the problem.
12. An unincorporated members' club is a society of persons each of whom contributes to the funds out of which the expenses of conducting the society are paid. The contribution is generally made by means of entrance fees or subscriptions, or both ; subject to any rule to the contrary, the property and funds of the club belong to the members for the time being jointly in equal shares ; and if provisions are supplied to a member at a given price, this does not constitute a sale, but is in effect a release by the other members of their interest in the goods supplied. The transaction is not of a commercial nature. The entire management of the club and its property is in the hands of the members. The business of the club is either conducted by them jointly in general meeting, or, as is usually the case, delegated by them to committees in accordance with the rules. (See Halsbury's Laws of England, Fourth Edition, Vol. 6, para. 205)
13. Incorporated clubs are one of the exceptions where the corporate veil has always been allowed to be lifted by courts to establish its identity with its corporators in order to ascertain the applicability of tax laws in respect of its transactions with them. It has been held that the fact of incorporation may be immaterial and the incorporated company may well be regarded as a mere instrument, a convenient agent for carrying out what the members might more laboriously do for themselves (See CIT v. Royal Western India Turf Club Ltd. [1953] 24 ITR 551, 560 (SC).
14. Under the Income-tax Act, a club as a legal entity is not exempt from the operation of the Act. As a person, its receipts are liable to be assessed to tax in accordance with the provisions of the Act. But the surplus receipts of a members' club over its expenses have been sought to be exempted from income-tax on the principle of mutuality. This principle is based on the premise that no man can make profit out of himself. The Andhra Pradesh High Court, in the case of CIT v. Merchant Navy Club [1974] 96 ITR 261, after reviewing and discussing leading cases on the subject, has summarised the principle of mutuality as follows (at page 273) :
"No person can trade with himself and make an assessable profit. If instead of one person more than one combine themselves into a distinct and separate legal entity for the purpose of rendering services to themselves or for the supply of refreshments, beverages, entertainment, etc., by over-charging themselves, the resulting surplus is not assessable to tax if the surplus is to be refunded to the members. 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. What is required is that the members as a class should contribute to the common fund and participators as a class must be able to participate in the surplus. It is immaterial whether the surplus is paid back to the members in cash or is put to reserve with the club for its development and for providing better amenities to its members. When the body of individuals is incorporated into a company or formed into a registered society, what is essential is that it should not have dealings with an outside body which result in surplus. The participation of the members in the surplus must be in their character as contributors to the common fund or as consumers, and not as shareholders getting dividends on their share amount or as debenture-holders earning interest. In all cases of incorporation as a company or as a registered society, the proper mode of regarding the company or the registered society is that it is a convenient instrument or medium for enabling the members to conduct a social club, the objects of which are immune from every taint of commerciality. The property of the incorporated company or a registered society, for all practical purposes in this behalf, is considered as property of the members. A members club formed for social intercourse and for either recreation or for cultural activities cannot be considered to trade for profit so as to make its surplus taxable in law when it over-charges its members for the supply of refreshments, beverages or amenities to its members. Such supplies are not sales as there is no element of transfer of property in them."
15. The above enunciation of the principle of mutuality has been followed with approval by this court in the case of Bankipur Club Ltd. [1981] 129 ITR 787 as also by the Gujarat High Court in the case of Sports Club of Gujarat Ltd. v. CIT [1988] 171 ITR 504.
16. Therefore, by applying the principle of mutuality members' clubs always claim exemption in respect of surplus accruing to them out of the contributions received by the clubs from their members. But this principle cannot have any application in respect of the surplus received from non-members. It is not difficult to conceive of cases where one and the same concern may indulge in activities which are partly mutual and partly non-mutual. True, keeping in view the principle of mutuality, the surplus accruing to a members' club from the subscription charges received from its members cannot be said to be income within the meaning of the Act. But, if such receipts are from sources other than the members, then still can it be said that such receipts are not taxable in the hands of the club ? The answer is obvious. No exemption can be claimed in respect of such receipts on the plea of mutuality. To illustrate, a members' club may have income by way of interest, security, house property, capital gains and income from other sources. But such income cannot be said to be arising out of the surplus of the receipts from the members of the club.
17. Now, the next question is if a members' club is found to be indulging in both mutual activities as well as non-mutual activities then whether it can still claim exemption with respect to the receipts relating to the mutual activities or whether its claim of exemption from tax under the Act is completely destroyed. In the case of CIT v. Madras Race Club [1976] 105 ITR 433 (Mad), it has been observed that "the application of the principle of mutuality is not destroyed by the presence of transactions which are non-mutual in character." The principle of mutuality can, in such cases, be confined to transactions with members. The two activities can, in appropriate cases, be separated and the profits derived from non-members can be brought to tax. In Carlisle and Silloth Golf Club v. Smith [1912] 6 TC 48 (KB), "the golf club in question which was admittedly a bona fide members' club was bound, under a clause in its lease, to admit non-members to play on its course on payment of green fees to be fixed by the lessors but not to be below a minimum fixed in the lease. It was held that the club, for the purpose of income-tax, was carrying on a concern or business which was capable of being isolated and defined and in respect of which it received remuneration which was assessable." This view was affirmed by the Court of Appeal, vide Carlisle and Silloth Golf Club v. Smith [1913] 6 TC 198 (CA). The Gujarat High Court, in the case of Sports Club of Gujarat Ltd. [1988] 171 ITR 504 and the Calcutta High Court, in the case of Automobile Association of Bengal v. CIT [1968] 69 ITR 878, have taken the same view.
18. Now, coming to the facts of the present case, it is clear from the articles of association that "temporary members" were never accepted to be members of the company because they are neither obliged to contribute to the assets of the company nor do they give any guarantee for payment of the debts and the liabilities of the company as provided in Clause (4) of the memorandum. Similarly, the aforesaid class of persons are not entitled to any share in the surplus of the company upon its winding up or dissolution. Further, this class is neither entitled to vote nor can they participate in the management of the club. According to Section 12 of the Companies Act, 1956 (Section 5 of 1913 Act), a person having undertaken the liability as per Clause (4) of the memorandum can only be deemed to be a member of the company and Section 9 of the Companies Act provides that the provisions of the Act have an overriding effect over the provisions contained in the memorandum and articles of association. Keeping in view all these considerations it has to be held that "temporary members" are not members of the club and the principle of mutuality cannot have any application in respect of transactions held with them.
19. It may, therefore, be observed here that, as discussed above, members' club can seek exemption from the tax liability under the Income-tax Act only if it could satisfy the test of mutuality in respect of its receipts and not on any other ground, subject to the provisions of the Act. Whether the surplus in the hands of the club has resulted out of transactions entered into with a motive of profit earning which can be said to be tainted with commerciality, is wholly irrelevant for determining the taxability of the receipts because even non-commercial or casual receipts are liable to income-tax under the Act.
20. For the aforesaid reasons, I am clearly of the view that merely because the assessee-company has entered into transactions with non-members and earned profits out of transactions held with them, its right to claim exemption on the principle of mutuality in respect of transactions held by it with its members is not lost. The principle of establishing complete identity between the contributors and the participators will apply only in respect of contributions made by the members. Accordingly, I hold that the law laid down in Ranchi Club's case [1987] 468 ITR 120 (Patna) is not correct and is, therefore, overruled.
21. In view of the discussions made above, I answer all the three questions referred to this court in the affirmative and against the Department. However, in the circumstances of the case, there shall be no order as to costs. Let a copy of this judgment be transmitted to the Assistant Registrar, Income tax Appellate Tribunal, Patna Bench, Patna, in terms of Section 260 of the Income-tax Act, 1961.
S.B. Sanyal, J.
22. I entirely agree with the reasoning and conclusion of my learned brother, Bharuka J. The judgment lucidly deals with the difficult questions referred to us for decision.
Aftab Alam, J.
23. I agree.