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The sanctity of a trust
September, 02nd 2006
Courts have consistently upheld the sanctity of trusts and thwarted any attempt to disqualify a trust as being invalid, except in compelling circumstances. There is a specific provision in the Income-Tax Act, 1961 for taxing income in the hands of trustees who are appointed under a trust declared by a duly executed instrument in writing. There are three parties to a trust a settlor, the trustees and the beneficiaries. Generally, public trusts are in perpetuity unless the trustees have been given the power to wind them up and donate the corpus on that date to another public trust with more or less similar objects. A private trust would be for a limited period until the trust is fully administered and it stands dissolved. Sometimes, private trusts can also have an unlimited life where the beneficiaries may be unborn persons, as in the case of family trusts, which are for the benefit of lineal descendants of the settlor. There is a certain sanctity about a trust in the sense that the wishes of the settlor have to be faithfully respected and even the beneficiaries would be entitled to enjoy the trust property only in conformity with the wishes of the settlor. It is only in an extreme case where the objects of the trust cannot be adhered to, that a Court may permit use of trust funds for a purpose that is as close to the original objects for which the settlor had settled the trust properties. A change in the objects can only be effected with the approval of a competent court by obtaining an order. There are specific provisions made in the tax law setting out the manner in which the income of a trust is assessable. The basic principle enshrined in Section 161(1) of the Act is that a trustee is liable to tax in like manner and to the same extent as the beneficiary. In short, a trustee is a representative assessee, whereby an assessment on him as a trustee is separate and distinct from his personal assessment. It must be noted that a trustee is entitled to all exemptions, deductions and benefits, available to the beneficiary in case of a direct assessment. The trustee is also entitled to claim a refund where the total income of the beneficiary justifies such claim. If the beneficiary has paid tax in advance and, thereafter, assessment is made on the trustees, the latter would be entitled to take credit for the tax paid in advance by the beneficiary. No tax liability Where the beneficiary is not liable to tax at all in respect of certain income, there would be no liability to tax on the trustee in respect of such income. Very often, the entire income accruing to the trustees is not paid to the beneficiary because administrative expenses of the trustees have to be discharged out of the trust income. Despite this, the entire trust income would be taxable in the hands of the trustees and not merely the net income, which reaches the beneficiary. Where a beneficiary does not have a present right to any part of the income of the trust, but has only a contingent interest, the trustees would be assessable in respect of the trust income because, in these circumstances, no part of the trust income can be held to be the income of the beneficiary. The decision of the Supreme Court in Shanmugham & Co vs CIT (81 ITR 310) lays down the principle that the fact that there are joint representative assessees, such as co-trustees, will not make them assessable as an association of persons. Therefore, co-trustees would be assessable in the status of "individual", but if the beneficiaries constitute an association of persons, the trustees would be assessable in that status. The beneficiary under a trust may himself be a trustee. For example, the trust deed may provide that the income there from would accrue to the wife and children of the trustee as well as himself. In such a case, the trustee would be liable to tax in a representative capacity in respect of the share of his wife and children. There may be two or more trusts created under a single document. In such a case, a separate assessment would be made on the trustees in respect of each trust. Unknown share If the shares of the beneficiaries are indeterminate or unknown, the assessment would be made on the basis of Section 164. Under this provision, tax on the total income would be chargeable at the maximum marginal rate of income-tax, which is currently 30 per cent. In CIT vs Mehra Trust (284 ITR 149), a trust was created in favour of two minor girls as beneficiaries. It provided that on both the minors attaining majority, the trustees would have the right to dissolve the trust. If one of the beneficiaries died before attaining majority, the other would become the sole beneficiary. The Assessing Officer held that the trust was invalid because the trust deed did not provide for the eventuality of both the minor beneficiaries expiring before attaining majority. Therefore, the entire income was to be assessed in the hands of the settlor, and since the settlor had died, in the hands of his legal heirs. The Tribunal held that the trust would not be invalid on grounds of uncertainty because the beneficiaries were to enjoy the income equally. The Allahabad High Court held that the assessee was not a public trust. If none of the beneficiaries survived before attaining majority, the trust would be extinguished by virtue of Section 77 of the Indian Trusts Act, 1882. Consequently, the corpus of the trust would revert to the settlor, and if he died, to his legal heirs. Therefore, the trust could not be deemed to be invalid merely because the settlor had not taken care of the eventuality of both beneficiaries dying before attaining majority. Hence, assessment had to be made on the trustees during the lifetime of the beneficiaries. Thus, courts have consistently upheld the sanctity of trusts and thwarted any attempt to disqualify a trust as being invalid, except in compelling circumstances. H. P. Ranina (The author, a Mumbai-based advocate specialising in tax laws)
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