One cannot make profit out of himself. The mutuality principle rests on this rock. The principle postulates that what is returned is contributed by a member. Drawing its origin from the English decisions, the mutuality principle is a common law concept based on the proposition that a person’s income consists only of funds derived from external sources and that funds derived from internal sources are, therefore, not assessable to income tax. The said ethic also found its way into Indian jurisprudence, for need to follow coherence. With time, said precept has been applied under tax laws as well.
Tracing the origin to 1800s, at a time when individuals had to self-insure during sickness and for death benefits. Insurance companies were far and few. Insurance business had not yet developed into an economically viable business. Mutual organisations were developed as an alternative to insurance companies to provide insurance benefits to individuals.1 These organisations did not derive any assessable profits for provision of such insurance benefits. With the growth of such organisations, disputes rose, finding its way to different courts.
The principle of mutuality was first legally argued in The Glasgow Corporation Waterworks Acts v. IRC2. The Court held that the concept of mutuality was based on an association of persons who had joined together, not to derive profits or gains but to achieve, through their mutual contributions, a purpose or benefit in which all members could participate or were entitled to do so. It is this nature of the legal relationship and the resulting rights that define the mutual character of the entity.
However, such doctrine found legal recognition only in 1889 in Styles (Surveyor of Taxes) v. New York Life Insurance Company3. This was followed by several landmark cases in UK such as The Equitable Life Assurance Society of the US v. Bishop4 and Jones v. The South-West Lancashire Coal Owners’ Association Ltd5.
Following the footsteps of its legislative father, in India, one of the earliest cases was Commissioner of Income-tax v. Royal Western India Turf Club Ltd.6, wherein the Supreme Court examined this rule of law and held that no one can enter into trade or business with oneself. The Court laid down three tests to determine commonality of interest. Followed later in plethora of cases in income tax, wherein the Courts, time and again, ruled in favour of this proposition. With influx of new taxes, the said doctrine was applied to Sales Tax (now, VAT) and Service Tax law.
Recently, in Income Tax Officer v. Venkatesh Premises Co-operative Society Limited7, the Supreme Court ruled that receipts by co-operative housing societies such as non-occupancy charges, transfer charges, common amenity fund charges etc. are not liable to income tax on the ethic of mutuality.
The very question was answered, recently, which is being examined at some length in this article, through State of West Bengal & Ors. v. Calcutta Club Limited8, wherein the 3 Judge Bench of the Supreme Court extended this ethos to indirect tax regime as well.
In the cited case, dispute arose when the Assistant Commissioner of Commercial Tax issued a notice to the assessee/club, demanding payment of sales tax for sale of refreshments, food, drinks etc. to its permanent members for the quarter ending 30.06.2002. Important facts to be noted were that the assessee was an incorporated entity under the Companies Act, 1956. The assessee was charging and paying sales tax when it was selling products to non-members or guests who accompany the permanent members. However, only in respect of invoices issues to permanent members, no sales tax was being collected. The assessee argued before the Tribunal that there was no “sale” of food, drinks or refreshments to its permanent members. The Tribunal ruled in favour of the assessee. Against the order of the Tribunal, the Department moved the Calcutta High Court in writ petition. The Calcutta High Court rejected the petition. The matter travelled up to the Supreme Court. The Division Bench of the Hon’ble Supreme Court invited attention to earlier decisions in State of West Bengal v. Calcutta Club Ltd.9, C.T.O. v. Young Men’s Indian Association10 and Fateh Maidan Club v. CTO11, and referred the matter to a Larger Bench to examine the impact and effect of sub-clause (e) to clause (29-A) of Article 366 of the Constitution of India (vide 46th Amendment). The following questions were referred:
a. Whether the doctrine of mutuality is still applicable to incorporated clubs or any club after the 46th Amendment to Article 366(29A) of the Constitution of India?
b. Whether the judgement of this Court in Young Men’s Indian Association still holds the field even after the 46th Amendment;
c. Whether the decisions in Cosmopolitan Club and Fateh Maidan Club which remitted the matter applying the doctrine of mutuality after the Constitutional amendment can be treated to be stating the correct principle of law?
d. Whether the 46th Amendment by deeming fiction provides that provision of food and beverages by incorporated clubs to their permanent members constitutes sale?
The main plank of the argument of the Revenue can be summarized as:
(i) Relying upon the 61st Law Commission Report, it was contended that Article 366(29a) was inserted to do away with the doctrine of agency/trust and mutuality in so far as it is applicable to members club and hence, the basis of the judgment in Young Men’s Indian Association stands overruled;
(ii) The expression “unincorporated association or body of persons” should be read disjunctively and would include, within the levy, incorporated persons such as companies, co-operative societies etc.;
(iii) Explanation (1) to definition of “dealer” under Section 2(10) of the West Bengal Sales Tax Act which read thus: “A co-operative society or a club or any association which sells goods to its members is a dealer” seeks to rope in members club selling goods to their members; this explanation is apart from the main definition;
(iv) In any case, doctrine of mutuality is not applicable to members club in a corporate form.
Countering the above, it was argued that 46th Constitutional Amendment was not introduced with an intention to tax supply of goods and services to oneself. The amendment did not do away with the decision in Young Men’s Indian Association. For a taxable supply, there should be movement of consideration from one person to another. However, in the present case, no two persons are involved. Club and its members cannot be considered as separate persons. Without prejudice, no deeming fiction can be created for supply of services and neither a deeming fiction exists in the Constitution.
The Supreme Court analyzed the 61st Law Commission report and observed that, as per the report, there was no need to amend the Constitution. Reasons were three fold. First, the number of such clubs and associations are not large. Second, the taxation of such transactions would discourage cooperative movement. Third, no question of evasion arises by such clubs as a member of such clubs really takes his own goods. However, despite the same, article 366(29A) included sub-clause (e).
The Supreme Court took stock of the Statements of Objects and Reasons of the 46th Amendment and judgment of the Larger Bench in BSNL v. Union of India12, holding that observation of Justice Lakshmanan, at Para 41 of the concurring judgment, was obiter and not ratio decidendi. In any case, it was held sub-clause (e) cannot apply to incorporated associations.
The Supreme Court analyzed the 6 Judge Bench Judgment in Young Men’s Indian Association, and held that Enfield India Limited13 was not square with the ratio laid down therein. In fact, Enfield India was distinguished, on facts, in the said case. Judgment in the case of Bacha F. Guzdar14 was distinguished on the ground that the said case did not deal with a section 25(1) company, where there is prohibition to declare dividends/profits. Admission to a club/association is by payment of fee and not by purchase of shares. Even this admission is subject to balloting.
The Court held that the Statement of Objects and Reasons for introduction of the 46th amendment has not properly understood the decision Young Men’s Indian Association. It assumed that sale of goods by members’ clubs in the corporate form were taxable. Proceeding on this incorrect basis, the 46th Amendment used expression “any unincorporated association or body of persons”. The Court further held; even read disjunctively, body of persons cannot be equated with “person”. Body of persons would not include corporate persons. The Court observed the difference in definition of the term “person” under the Income Tax Act and Article 366(29A)(e) held that body of persons would not include corporate persons, unless accompanied by “whether incorporated or not”. Dehors this, the Court held that “consideration” as defined under section 2(d) of the Indian Contract Act, 1872 necessarily posits consideration flowing from one person to another, which does not exist in the case of a members club.
Having failed on sub-clause (e), the Revenue latched on to sub-clause (f). This also came to be negated. The Court held that sub-clause (f) only sought to undo the judgment in the case of State of Punjab v. Associated Hotels of India Limited15 and Northern India Caterers (India) Limited16. It was not concerned with taxability of food and drinks served in members club.
The Court, then, referred to the provisions of Section 2(24)(vii) defining “income” read with Section 44 and held that when profits and gains of mutual insurance company are sought to be taxed, they are done so by express reference to the fact that insurance is being carried out by a mutual insurance company. Similar is the case with Section 45(2) of the Income Tax Act. There is no such language employed in sub-clause (e) ibid.
In the cases relating to levy of service tax, the Court was considering appeals from Ranchi Club Limited17 and Sports Club of Gujarat18. The Court held that for the period from 2005 to July, 2012, the statutory definition of “club or association” under section 65(25a) would cover any services provided by any person or body of persons for a subscription. It would not include any body “established or constituted” under law. This expression, according to the Court, would not include companies or co-operative societies. Next, for the period, post July, 2012, was there any difference? The Court replied in the negative. The Court held that Explanation 3 to section 65B(44) and Explanation to erstwhile section 65(105) are substantially the same as Article 366(29A)(e) and therefore, the discussion under sales tax equally apply to service tax as well. The Explanation 3, post July, 2012, does not use the expression “person” or “association of persons or bodies of individuals, whether incorporated or not”, but used the expression “body of persons” which would not include incorporated company or incorporated co-operative society. Hence, the said explanation would not apply to members club which are incorporated.
Thus, in my view, the Supreme Court has laid to rest any issue that could arise relating to levy of sales tax on sale of goods including food and liquor etc. and levy of service tax on any services being provided to its members. Though, from Para 80 onwards, it may appear that the Supreme Court confined its ruling to incorporated members clubs only, in my humble opinion, the tests laid down in the judgment would equally apply to unincorporated members club as well. This is in light of the finding at Para 79 of the judgment which refers to the discussion on levy of sales tax.
However, the said ruling would apply only to members clubs and not proprietary clubs in as much as in case of proprietary clubs some of the share holders may not be members. There is lack of complete identity.
As is being promoted, GST is touted to be the single biggest tax reform to take place post independence. Most of the indirect taxes levied on manufacture and sale of goods and provision of services are sought to be subsumed into one single tax known as GST. GST would be applicable on supply of all goods and services. Chapter III of the said CGST Act provides for levy and collection of GST. Section 7 provides for the scope of supply. It is, inter alia, provided that “supply” includes all forms of supply of goods or services or both agreed to be made for a consideration by a person in the course or furtherance of business. Section 9 is the charging section. It provides for levy of tax called the CGST on all intra-state supplies of goods or services or both and at such rates, as may be notified by the Government on the recommendations of the Council and collected in such manner as may be prescribed and shall be paid by the taxable person.
Schedule I of the CGST Act, 2017 provides for activities to be treated as a supply even if made without consideration. In other words, said schedule carves out an exception from one of the ingredients of definition of supply under section 7(1)(a). Schedule III of the CGST Act, 2017 provides for activities or transactions which shall be treated as neither supply of goods nor supply of services.
Section 2(17) of the Act defines “business”. Clause (e) thereof states “provision by a club, association, society or any such body (for a subscription or any other consideration) of the facilities or benefits to its members”. Is this distinct or different from erstwhile section 65(25a) of the Finance Act? I think not. Even if it does, the mandate of supply of one person to another under section 7 is not satisfied in the case of members club. I could not find any substantial departure.
Schedule II of the Act provides for activities to be treated as supply of goods or supply of services. Vide entry 7 thereof; it is provided that following shall be treated as supply of goods, namely – supply of goods by any unincorporated association or body of persons to a member thereof for cash, deferred payment or other valuable consideration. The urge to overcome Apex Court judgments is patently obvious from the entry in Schedule II to tax unincorporated bodies for supplies to members. The draftsmen were, obviously, under the impression that incorporated bodies were and are always covered under the tax net. Now, with this judgment, this assumption gets withered.
Even otherwise, Schedule II provides whether the activity would be treated as supply of goods or supply of services. All supplies/activities which have been subject matter of dispute hitherto have found their way into Schedule II. Schedule II is not the charging section. Schedule II does not override section 7. Schedule II is a classification schedule. Schedule II has to be read in light of section 7. If a supply does not meet the requirements of section 7, Schedule II cannot come to the aid of the Revenue. There is no presumptive levy.
Section 2(84) defines “person” to include an association of persons or a body of individuals, whether incorporated or not, in India outside India. It also includes any body corporate and co-operative society registered under any law relating to co-operative societies. This is similar to definition of person under section 65B(37) of the Finance Act noted by the Supreme Court. However, under the GST regime, there is, in fact, no explanation like Explanation 3 to section 65B(44) of Explanation to section 65(105) of the Finance Act. In any case, de hors the said explanation, the Court ruled against the levy of service tax on members club.
Basis the foregoing, I am of the firm view that the position under the GST regime remains unaltered. The ruling of the Larger Bench of the Supreme Court in the case of Calcutta Club would apply on all fours even post July, 2017. Consequently, there would be no levy of GST on supplies of goods or services made by members club to its members.
It is not wisdom but authority that makes law. Law is made for exploitation of those who do not understand it.
1. ‘The Relevance of the Mutuality Principle within the Non-Profit Sector’ (2007) 13(1), Third Sector Review, Love Natalie
2. (1875) ITC 28
3. (1889) 2 TC 460
4.  1 QB 177
5.  AC 827
6.  24 ITR 551 (SC)
7. (2018) 15 SCC 37
8. Civil Appeal No. 4184 of 2009
9. (2017) 5 SCC 356
10. (1970) 1 SCC 462
11. (2017) 5 SCC 638
12. (2006) 3 SCC 1
13. 1968 AIR 838, 1968 SCR (2) 421
14. 1955 AIR 740, 1955 SCR (1) 876
15. 1972 AIR 1131, 1972 SCR (2) 937
16. (1978) 4 SCC 36
17. 2013 (32) S.T.R. J34 (S.C)
18. 2013 (32) STR 645 (Gujarat)