Interest on government grants under section 10(23C)(iiiab) treated as government funds; exemption allowed to assessee

Whether interest earned on surplus government grants invested with a state financial service falls within the exemption under section 10(23C)(iiiab) was decided by applying a purposive construction of "wholly or substantially financed by the Government." The tribunal reasoned that interest on grants that is mandatorily refundable retains the character of government funds and cannot be treated as independent income; reliance on a narrow arithmetic year-wise test and on Visvesvaraya Technological University was rejected. Consequence: the assessee's interest income was held exempt under section 10(23C)(iiiab) for AY 2017-18 and the appeal was allowed.

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Issues: Whether the assessee is entitled to exemption under section 10(23C)(iiiab) of the Income-tax Act, 1961 in respect of interest earned on surplus funds (unutilized government grants) invested with GSFS for AY 201718.

Analysis: The assessee is a trust established and controlled by the State Government and the surplus funds invested with GSFS represent unutilized government grants invested pursuant to binding government directions. The Circulars on record mandate transfer of interest on such deposits to the State Government, indicating absence of beneficial ownership by the assessee. Rule 2BBB and the decision relied upon by the authorities address year-wise receipt of government grants and do not consider mandatory refund/transfer of interest or the broader control and funding structure. A purposive approach requires consideration of overall financing, governmental control and the character of funds rather than a narrow year-wise arithmetical test; where interest is mandatorily repayable to the State and forms part of government funds, it cannot be treated as independent income of the institution.

Conclusion: The assessee is entitled to exemption under section 10(23C)(iiiab) for AY 201718 in respect of the interest income and the appeal is allowed in favour of the assessee.

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