Taxability Of Interest Earned By Resident Welfare Association

Note on Taxability of Interest Income from fixed deposits made out of corpus fund and maintenance surplus.

PRINCIPLES OF MUTUALITY

The Resident Welfare RWA’S( RWA) is primarily formed with a purpose to maintain, upkeep and provide amenities to the apartment owners/occupiers. Maintenance fee is collected every year for the purpose of the same. Rwa’s normally deposit the corpus fund received from the builder at the time of handing over of the maintenance activity to the RWA’S and also collects contribution towards corpus fund as and when required. Normally as per the Bye laws of the RWA’S, such Corpus funds are not freely available for utilization and there is a restriction on its usage. Such corpus fund is invested in bank fd’s and the RWA’S earn interest out of it.

For the purpose of this note, it is assumed that the Corpus fund is collected only for the purpose of capital expenditure.

The RWA’S at present has invested Corpus funds and maintenance surplus in Fixed deposits and is earning interest thereon. The interest earned from Corpus fund deposits are directly credited to Corpus fund in the Balance sheet, the interest earned earned on maintenance fund fixed deposits are credited to interest income in income and expenditure account. The RWA’S has bifurcated fixed deposits into Corpus fund deposits and Maintenance surplus deposits based on a detailed working.

The issue now is whether such interest earned from Corpus fund fixed depoits and maintenance fund deposits are liable for tax ?

The entire interest income earned from fixed deposits is taxable and the mutuality concept cannot be applied for the interest income earned based on the decision of the Honourable Supreme Court in the case of Bangalore Club wherein it was stated that :

The assessee in the present case utilizes its surplus funds for investment in fixed deposits with banks. The interest that is generated on the investment of such funds is not income that is received from the members of the assessee but that is from a third person such as banks with whom the funds are invested. The decision to invest the funds of the RWA’S in bank is a prudent commercial decision motivated by the desire to earn interest that would not be available on moneys maintained in ordinary, current or savings account. Such interest does not fulfill the requirements of mutuality.

However recently The Income Tax Appellate Tribunal, Bangalore in the case of Sobha Suburbia Apartment Owners Welfare RWA’S vs Income Tax Officer has held as follows:

The Corpus amount collected from the members are used for the welfare of the members and in other words for specific purposes of maintenance of the residential building and common area. Therefore the use of the fund/contribution made by the members along with the interest is specifically used for the purpose of objects of the RWA’S to maintain the residential building and common area. Once there is no denial that the amount in question is to be spent only for specific purpose and cannot be used other than for the common welfare and benefit of the members then the principle of mutuality cannot be out rightly ruled out. Any amount surplus to corpus fund to use it for common purpose is said to be simply an increase of the common fund and as such neither income nor taxable.

The Tribunal clearly distinguished the decision of the Supreme Court in the case of Bangalore Club on following counts –

1. There is no dispute to the complete identity of the members and the residential welfare RWA’S.
2. The action of the participators and the contributors are for furtherance of mandate of RWA’S. It means the corpus contribution received from the members and deposit of the same with the bank resulting in interest income is to be utilized only for the purpose of welfare of members of the RWA’S.
3. The interest income will be expended only for the specific purpose of maintenance of building, common area and common welfare of the RWA’S.
4. The RWA’S cannot said to have availed the benefit of the doctrine of mutuality in respect of fixed deposits made out of corpus funds, as corpus funds are not in the nature of income.

In view of the above observations of the Income Tax Appellate Tribunal, Bangalore am of the following view :

1. Since Corpus fund collections are not income, the interest earned out of fixed deposits made out of corpus fund contribution are exempt from tax as benefit of doctrine of mutuality can be applied for the same.
2. The interest earned out of fixed deposits made out of maintenance surplus is fully taxable as the benefit of doctrine of mutuality has already been availed for the maintenance and other income,

Under the circumstances, RWA’S can claim the benefit of mutuality for interest earned from corpus fund deposits.

However the following points needs to be considered:

1. The assessing officer may not agree with the above view and still tax the interest earned from deposits made out of corpus fund.
2. The RWA’S will have to litigate the matter before appellate authorities, subject to payment of atleast 20% of the disputed tax at the time of first appeal, 50% of the disputed tax at the time of second appeal.
3. The income tax department may also initiate penalty proceedings against the adverse order. Normally if the matter is under appeal, penalty proceedings will be kept under abeyance till the outcome of the appeal.

The above opinion is based on the judicial pronouncements available as on date and also on our interpretation of the facts with that of judicial decisions.