Mistrusting Trusts: A Study of Exit Tax on Trusts in India

Abstract

The practice of using charitable trusts as tools to evade tax had been increasing in India. To put an end to it, the central government brought in an all new exit tax regime for registered charitable trusts through the introduction of Chapter XII-EB in the income tax laws via Finance Act 2016. This law has been prepared with an objective to restrict the practice of transfer of tax-free resources from registered charitable trusts to non-charitable hands. Any default mentioned in these provisions results into a hefty exit tax burden, calculated at the maximum marginal tax rate on ‘accreted income’ which is based on fair market value of assets. But while formulating such a strict legal provision to catch the offenders, its impact on honest trusts who in fact constitute the majority, does not seem to have been minutely considered. This has resulted in heavy panic among registered NGOs of being randomly penalised. Trusts will now have to be more conscious before undertaking any expansion, making investments or before joining hands with other entities for taking up charitable projects.

This paper, through a case-based approach, links the new legal concept with issues ordinarily faced by trusts and thereby makes an attempt to conceptually examine how the introduction of exit tax mechanism for trusts in income tax laws will affect charitable trusts and institutions registered under section 12AA of the act in freely expanding their scope and area of work. The research methods included careful reading and analysis of the new chapter, related laws, rules and clarifications issued by the CBDT, study of some of the major observations made by income tax tribunals in trust cases and obtaining opinions from tax practitioners and legal experts. The results indicate that there is every possibility to unnecessarily overburden honest trusts with tax liabilities which may lead to reduction of social and charitable activities. It further indicates likelihoods of double taxation which, if end up to be true, will add to the problems faced by trusts and by no mean facilitate social welfare and charitable projects in India.