1992 (3) TMI 23 - HC - Income Tax

Trustees of discretionary private trust assessed as 'individual' not 'association of persons' under income tax law

The Calcutta HC determined that trustees of a discretionary private trust should be assessed as 'individual' rather than 'association of persons' under ... Assessment of a discretionary trust as an individual - association of persons - meaning and essential element of volition - scope and operation of section 164(1) - rate determination versus status - Explanation 2 to section 164 - definition of maximum marginal rate - effect of Finance (No. 2) Act, 1980 amendment on deeming fiction in section 164 - distinction between sub-section (1) and sub-sections (2)/(3) of section 164Assessment of a discretionary trust as an individual - association of persons - meaning and essential element of volition - Trustees of the discretionary Shri Krishna Bandar Trust are to be assessed in the status of an individual and not as an association of persons. - HELD THAT: - The Court applied established authorities holding that an 'association of persons' requires two or more persons joining by volition for a common purpose of producing income. In the present case neither trustees nor beneficiaries came together with such a common purpose; trustees derive authority from the deed and beneficiaries did not set up the trust. Earlier decisions treating joint trustees or corporate/group entities as an 'individual' for tax purposes were followed to show that 'individual' may include a unitary group where context so requires. Consequently the mere plurality of trustees or beneficiaries does not convert the trust into an association of persons. [Paras 8, 9, 10, 11, 12]Trustees must be assessed in the status of an individual.Scope and operation of section 164(1) - rate determination versus status - Explanation 2 to section 164 - definition of maximum marginal rate - effect of Finance (No. 2) Act, 1980 amendment on deeming fiction in section 164 - Section 164(1) (as amended) prescribes the rate of tax (maximum marginal rate as defined in Explanation 2) for discretionary trusts and does not itself convert trustees into an association of persons for purposes of determining status or computation of income. - HELD THAT: - The Court examined the text of section 164(1) as amended by the Finance (No. 2) Act, 1980 and noted that the provision now mandates charging tax at the 'maximum marginal rate' defined by Explanation 2. Prior to amendment the section contained a deeming clause treating relevant income as if it were the total income of an association of persons or taxed at a fixed percentage; that fiction was removed by the 1980 amendment. Therefore section 164(1) only sets the rate applicable to discretionary trusts and comes into play after income is computed; it does not govern the mode of computation or the determinative question of status which must be resolved by general principles. [Paras 6, 7, 13, 14, 15]Section 164(1) fixes the rate but does not render trustees an association of persons for assessment purposes.Distinction between sub-section (1) and sub-sections (2)/(3) of section 164 - association of persons - statutory fiction under sub-sections (2)/(3) - The statutory fiction treating income as that of an association of persons under subsections (2) or (3) of section 164 applies to charitable or public religious trusts under those subsections and does not extend to discretionary private trusts governed by subsection (1). - HELD THAT: - The Court observed that where subsection (2) applies the tax is chargeable as if the income were that of an association of persons, but that fiction is confined to charitable or public religious trusts dealt with by subsections (2) and (3). The 1980 amendment clarified that the deeming/fictional assessment as an association of persons no longer operates in the same manner for discretionary trusts under subsection (1). Thus the treatment under subsections (2)/(3) is distinct and not applicable to the present discretionary private trust. [Paras 16]Fiction of assessment as an association of persons under subsections (2)/(3) does not apply to discretionary trusts under subsection (1).Final Conclusion: The reference is answered in the affirmative: on the facts the Tribunal was justified in holding that the discretionary trust is to be assessed in the status of an individual and not as an association of persons; section 164(1) (as amended) prescribes the rate (maximum marginal rate) but does not change the trustees' status, and the deeming fiction in subsections (2)/(3) is confined to charitable/public religious trusts and does not apply to the discretionary private trust before the Court. The High Court of Calcutta considered a reference made by the Revenue regarding the assessment of the income of Shri Krishna Bandar Trust for the assessment year 1984-85. The main issue was whether the income of the trust should be assessed as an 'individual' or as an 'association of persons' for the purpose of allowing a deduction under section 80L of the Income-tax Act, 1961.The facts revealed that the trust was a discretionary trust assessed as an 'association of persons' and claimed relief under section 80L. The Income Tax Officer contended that a discretionary trust should be taxed as an association of persons, making the deduction under section 80L unavailable. The Commissioner of Income-tax (Appeals) supported the trust's position, citing a decision by the Hyderabad Bench of the Tribunal.The Revenue challenged this decision before the Tribunal, arguing that the trust had previously disclosed its status as an association of persons for the preceding two years. The Departmental representative contended that a discretionary trust should be treated as an association of persons due to Explanation 2 to section 164 of the Income-tax Act, 1961.The relevant provision, section 164(1), stated that tax should be charged at the maximum marginal rate for indeterminate or unknown income beneficiaries. The Court noted that the amendment introduced by the Finance (No. 2) Act, 1980, clarified the tax treatment of discretionary trusts. The Court emphasized that the determination of an assessee's status is part of the income computation process and should align with general principles.The Court referred to legal precedents to define an 'association of persons' and an 'individual.' It highlighted that the trust and beneficiaries did not join for the common purpose of earning income, indicating they should not be considered an association of persons. The Court also noted that the term 'individual' could encompass a group of persons forming a unit under tax laws.The Court analyzed the historical context of section 164(1) and the implications of the 1980 amendment, which removed the deeming provision for trusts to be assessed as associations of persons. It clarified that the fiction of an association of persons only applied to charitable or public religious trusts, not discretionary private trusts.Based on the facts and legal principles, the Court concluded that the trustees of the trust should be assessed as an 'individual.' The judgment favored the assessee, and no costs were awarded.In summary, the Court's decision clarified the tax treatment of discretionary trusts under the Income-tax Act, emphasizing the distinction between an individual and an association of persons based on legal principles and precedents.