Fineprits of The Union Budget: Changes in The Income Tax Act

The finance bill, 2010 as expected has brought about certain changes to the income tax act, 1961. The two important changes vide clause 3 and clause 4 of the finance bill to S.2(15) and S. 9 respectively are discussed in this post.

Definition of “charitable purpose”

S. 2(15) of the IT act defines charitable purpose to include “relief of the poor, education, medical relief, preservation of environment (including watersheds, forests and wildlife) and preservation of monuments or places or objects of artistic or historic interest, and the advancement of any other object of general public utility”. However the proviso to the section stipulates that the “advancement of any other object of general public utility shall not be a charitable purpose, if it involves the carrying on of any activity in the nature of trade, commerce or business, or any activity of rendering any service in relation to any trade, commerce or business, for a cess or fee or any other consideration, irrespective of the nature of use or application, or retention, of the income from such activity”.

Clause 3 of the Finance Bill, 2010 has retrospectively added(applicable from 1st April, 2009) a further proviso stipulating that the first proviso shall not apply if the aggregate value of the receipts from the activities referred to in S. 2(15) is ten lakhs or less in the previous year. The legislative intent seems to be novel as it seeks to remove the hardship on charitable institutions who receive a meager amount for their activities inorder to maintain and provide basic infrastructure. However, clarity needs to sought as to whether the term “receipts” is to understood as per the method of accounting followed by the assesse or whether it is “receipt” in the ordinary sense of the word.

Taxability of Non-Residents

Whereas residents are taxed on their worldwide income as under S 5(1) of the IT act, non –residents are only taxed on income received or deemed to be received or accrues or deemed to accrue in India i.e. the territorial nexus principle as under S. 5(2) of the IT act. Further, S. 9 of the act stipulates income that is deemed to accrue or arise in India. The finance act, 1976 introduced the source rule under S.9 vide the insertion of clause (v), (vi) and (vii) in sub clause 1. The intention of the legislature was to bring to tax interest, royalty and technical fees through a legal fiction created under S.9 of the act, even in cases where the service is provided outside India as long as they are utilized in India. In essence, the source rule stipulates that situs of the rendering of the service is irrelevant. The situs of the payer and the utilization of the service are the relevant ingredients in determining the taxability of the above mentioned services.

However, the supreme court in Ishikawajima-Harima Heavy Industries Ltd., Vs DIT (2007) [158 Taxman 259] held that inspite of the legal fiction created under S. 9 it was decisive to show that there is sufficient territorial nexus between the income and the territory of India. The legislature further attempted to clarify the point on the source rule, hence it introduced an Explanation to sub section (2) of S.9 vide the Finance Act, 2007. However again in a recent decision the Karnataka High Court in Jindal Thermal Power Company Ltd. vs DCIT (TDS), [2009] 182 Taxman 252 held that the Explanation provided as per the Finance Act, 2007 was insufficient in its present form and thereby followed the judgment of the Honorable Supreme Court in Ishikawajima.

Hence, inorder to clarify the legislative intent and overcome the judicial decisions on the point the Finance Bill, 2010 vide clause 4 has introduced a retrospective amendment (w.e.f- 1st June, 1976). The amendment seeks to remove the earlier Explanation as provided by the Finance Act, 2007. Clause 4 of the Finance Bill reads as under:
“ the income of a non-resident shall be deemed to accrue or arise in India under clause (v) or clause (vi) or clause (vii) of sub-section (1) of section 9 and shall be included in his total income, whether or not,
(a) the non-resident has a residence or place of business or business connection in India; or
(b) the non-resident has rendered services in India.”

However the constitutional validity of this clause may be open to challenge as it invalidates the territorial nexus principle.


The author wishes to acknowledge the inputs received from Avantika Govil, 3rd Year Student at School of Law, Christ University.