NGO’s commercial activity backfires donations, taxpayers should be wary

Educational institutions, including medical colleges, are exempted from taxes if they are registered under section 10 (23C) or section 11 of the Income Tax Act. Still, they are allowed to charge a fee for rendering their services to the needy. Although the purpose of such fees is to recover their operating costs, sometimes these activities generate profits. These benefits, if re-used for charitable purposes, are also entitled to tax exemption. Donations made to institutions registered under section 10(23C) or section 11 are also tax deductible in the hands of the donors. Taxpayers can claim deduction under section 80G for any such donation while filing their Income Tax Return (ITR).

Commercial profit entitled to exemption

The situation becomes difficult when the fees and charges collected by charitable institutions for the service rendered are of commercial standards or if they generate too much profit. The Supreme Court and High Courts have so far held that even if a business activity is carried on by NGOs, exemption will not be denied as long as the profit arising out of their business activity is used for charitable purposes. Is.

Supreme Court verdict on excessive profit by charitable institutions

The Supreme Court recently revisited its earlier decision and held on 19 October 2022 the educational institutions which seek approval or exemption under the section. 10(23C) of the IT Act should relate ‘only’ to education or activities related to education. Further, if the object of the institutions appears to be profit-oriented, they will not be entitled to tax exemption. In another judgment delivered on the same date, with reference to the entities claiming exemption under Sec. 11/12, the court held that charging any amount on cost basis or marginally above cost for any service or charitable activity cannot be a commercial activity; But if the fees are high enough, it may tantamount to commercial activity. These comments are likely to have a bearing on the tax exemption claimed by the institutions.

These two recent Supreme Court judgments have overturned the legal principles adopted so far by the income assessing authorities of these NGOs. It has also limited the scope of business activities for which institutions were eligible till now. Perhaps this is the reason why the Supreme Court has categorically declared that the said judgments will not affect any previous transaction and will only apply to Future Exchange.

Effect of decision on donations made by taxpayers

These findings of the court will have far-reaching implications not only on exemptions claimed by NGOs, but also on deductions claimed by donors. 80 g. Although the court has laid down broad principles, there is no clarity as to what level of profit would constitute a business activity and how such profits would be calculated. There remains a gray area on the manner in which the said directions of the court are implemented by the administrative authorities.

It is important that NGOs avail tax exemption for individuals to be eligible for deduction under Sec. 80g. In view of the Court’s decision, donations made to an entity carrying on commercial activity cannot be exempted from deduction, however, deduction under section 80G in respect of past donations cannot be withdrawn, from such protection under the law is not free from suspicion and may give rise to unforeseen litigation.

Therefore, taxpayers should be careful and make proper inquiries about the tax exemption status of the institutions before donating. They can also visit the IT portal https://incometaxindia.gov.in/Pages/utils/exempted-institutes.aspx, which gives the names of tax exempt institutions.

Dharmesh Shah is a Chartered Accountant.