Capitation Fee collected indirectly by educational institutions, no tax exemption: Madras High Court

The Madras High Court has lifted the corporate veil of the educational institution for collecting involuntary capitation fees.

The division bench of Justice R. Mahadevan and Justice Mohammed Shaffiq, while cancelling the registration under Section 12A of the Income Tax Act, noted that the amounts collected by the assessees were capitation fees for allotment of seats in deviation of the Tamil Nadu Educational Institutions (Prohibition of Collection of Capitation Fee) Act, 1992. The capitation fee was neither a voluntary contribution nor to be treated as applied for charitable purposes.

"On lifting the veil, it is clear as daylight that the modus operandi adopted by the assessee institutions and trusts are with the twin objectives of circumventing/violating the provisions of the Capitation Fee Act as well as evading tax while seeking tax exemption under the corporate veil of being different and distinct entities receiving funds from each other for purely charitable purposes," the court stated.

The respondents/assessees were an educational trust. The assessee had registered themselves as a charitable trust under Section 12A (a) of the Income Tax Act, 1961. They filed their return of income, admitting "nil" income.

During the enquiry, it was revealed that the amount was paid in lieu of procuring seats for a unit of the assessee. The Assessing Officer also concluded that the assessee utilised M/s. United Educational Foundation, M/s. MAC Charities, and M/s. MAC Public Charitable Trust is a tool for the transfer of capitation fees received from the students and virtually sold education for a price.

The practice of receiving a donation or capitation fee as a condition precedent for admitting a student is opposed to the provisions of the Tamil Nadu Educational Institutions (Prohibition of Collection of Capitation Fee) Act, 1992.

The assessee assailed the orders of assessment passed by the Assessing Officer for various assessment years. The assessee trusts filed statutory appeals before the Appellate Authority, namely the Commissioner of Income Tax (Appeals).

The CIT(A) observed that the assessee trusts themselves are donors established for the purpose of carrying out charitable and religious activities. They have donated their income to another trust, and there is no bar or embargo on doing so.

The department filed an appeal with the ITAT against the order. However, all the appeals from the department were rejected.

The department contended that the assessee trusts, in order to avoid the legal consequence of receiving capitation fees, which is opposed to the provisions of the Tamil Nadu Educational Institutions (Prohibition of Collection of Capitation Fee) Act, 1992, have insisted the parents of the students pay a fee in the name of their relatives or friends and not in their own.

The department argued that the capitation fee received was for the trust's allocation of seats and thus could not be considered a voluntary contribution or donation to the trust. The receipt of a capitation fee cannot be passed on as a donation from one trust to another and claimed as such. The nature of money received by the respondent trusts had lost its character of voluntary donation or contribution at the time of the original receipt itself. Therefore, the manner in which the money is spent subsequently will not be construed as a donation, especially when the so-called money received has finally landed in the hands of the college or the trust running the college that allotted seats.

The assessees contended that the object of the trust is to run educational institutions and other activities and to support other institutions by donating the donated money. There was no quid pro quo, as contended by the department. The respondents have registration under sections 12A as well as 80G of the Act. Hence, the power to divert funds under section 12 exists. The application of the donated money is towards the object of the trust, more particularly, for charitable purposes only.

The court, while ruling in favour of the department, stated that the Assessing Authority shall also proceed further for the cancellation of the registration certificate issued to the assessees/trusts under Section 12A by not treating the respondents as charitable institutions any longer.

"The Assessing Officer shall also proceed to reopen the previous assessments, if permissible by law, based on tangible materials relating to the collection of capitation fees since it is illegal and punishable," the court said.

Case Title: Commissioner of Income Tax vs MAC Public Charitable Trust & Others

Citation: Tax Case Appeal Nos. 303, 304, 305, 306, 307, 308, 309 and 310 of 2021 and 59, 60, 62 and 63 of 2022

Date: 31.10.2022

Counsel For Appellant: Senior Standing Counsel J. Narayanaswamy

Counsel For Respondent: Senior Advocate Haja Nazirudeen assisted by Hari Babu

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