1998 P T D 1023

[221 ITR 317]

[Gujarat High Court (India)]

Before B. C. Patel and Ms R. M. Doshit, JJ

GUJARAT MUNICIPAL FINANCE BOARD

versus

DEPUTY COMMISSIONER OF INCOME-TAX

Special Civil Application No. 1202 of 1996, decided on 04/05/1996.

(a) Income-tax---

----Income---State Municipal Finance Board---Board receiving grants from State Government for disbursement for purposes of roads, drainage, etc.-- Investment of excess money and receipt of interest---Letter from State Government directing the Board to retain interest as a part of its grant-- Board did not carry on any trading activity---Board acted on behalf of State Government---Interest was not assessable as income of the Board.

The assessee was the Gujarat Municipal Finance Board. It came into existence under the Gujarat Municipal Finance Board Act, 1979, and had a perpetual succession and a common seal with powers subject to the provisions of the Boards Act. The Board used to receive grants on various occasions from the consolidated fund of the State and in discharge of its duties, the same was required to be disbursed for purposes such as roads, drainage, street lights, water supply, scheme for primary facilities, sanitation, playground, public toilets/bathrooms, community hall, service vehicles, etc., to the local authorities, i.e., a Municipality or Municipal Corporation under the provisions contained in the Gujarat Municipalities Act. The Board had some surplus amount with it and the same was invested, as a result of which there was income. The State Government decided that the interest amount which may be earned be retained by the Board as a part of the grant-in-aid given to it by the Government. The Income-tax Officer started reassessment proceedings to assess the interest in the assessment year 1984-85 to 1993-94. On a writ petition to quash the reassessment notices:

Held, allowing the petition, that the Board was not established to carry, on trade or business and it was not established for one particular facet of development but looking to the Twelfth Schedule of the Constitution and Article 243-W, the Board acted for the State and on behalf of the State. The State Government had directed the Board to treat the interest as part of its grants-in-aid. Hence, even if there was a receipt, in view of the principles of diversion, this would not amount to income of the Board and, therefore, the same was not taxable.

CIT v. Sitaldas Tirathdas (1961) 41 ITR 367 (SC); Gujarat Industrial Development Corporation v. CIT (1985) 151 ITR 255 (Guj.); Rajkot District Gopalak Cooperative Milk Producers Union Ltd. v. CIT (1993) 204 ITR 590 (Guj.); Somaiya Orgeno-Chemicals Ltd. v. CIT (1995) 216 ITR 291 (Bom.) and Udayan Chinubhai v. CIT (1978) 111 ITR 584 (Guj.) ref.

(b) Income-tax---

----Income---Diversion of income by overriding title---Interest---State Municipal Finance Board receiving grants from State Government-- Investment of excess money and receipt of interest--Letter from State Government directing the Board to treat interest as part of its grant---Interest was diverted at source---Not assessable in the hands of the Board.

K.H. Kaji with S.N. Soparkar and M.K. Kaji for Petitioner,

B.J. Shelat for M.R. Bhatt & Co. for Respondent.

JUDGMENT

B.C PATEI J. ---The Gujarat Municipal Finance Board (hereinafter referred to as "the Board") constituted under the provisions contained in the Gujarat Municipal Finance Board Act, 1979 (hereinafter referred to as "the Boards Act"), has filed this petition under Article 226 of the Constitution of India, inter alia, praying to quash and set aside the notice, dated March 24, 1995, for the assessment years 1984-85 to 1993-94 issued under section 148 read with section 147 of the Income-tax Act, 1961 (hereinafter referred to as "the Income Tax Act") and to permanently restrain the respondents from making any assessment in respect of the said assessment years.

Succinctly stated, the facts leading to the filing of the present petition are as under:

The petitioner-Board came into existence in 1979 under the Boards Act and has a perpetual succession and a common seal with the powers subject to the provisions of the Boards Act. The Board used to receive grants on various occasions from the consolidated fund of the State and in discharge of its duties, the same was required to be disbursed for the purpose such as roads, drainage, street lights, water supply, schemes for primary facilities, sanitation, play ground, public toilets/bathrooms, community hall, service vehicles, etc., to the local authorities, i.e., a municipality or municipal corporation under the provisions contained in the Gujarat Municipalities Act (hereinafter referred to as "the Municipalities Act" or "the Bombay Provincial Municipal Corporations Act, 1949") (hereinafter referred to as "the B.P.M.C. Act"). The Board had some surplus amount with it and the same was invested, as a result of which there was income arising out of such investment. The State Government decided that the interest amount which may be earned be retained by the Board as a part of the grant-in-aid given to it by the Government. This intimation was given, vide letter Annexure "A", dated May 28, 1982, and was reiterated, vide letter, dated April 15, 1996, at page 110 of the petition. In view of this amount of interest, the Income-tax Department called upon the Board indicating that the Assessing Officer has reason to believe that the income of the Board chargeable to tax for the assessment years 1984-85 to 1993-94 has escaped assessment within the meaning of section 147 of the Income-tax Act and, therefore, proposed to assess for the said assessment years and called upon it to deliver within 30 days from the date of service of the notices, returns in the prescribed form of the income of the Board for the assessment years in question. In reply thereto, the Board filed returns under protest indicating therein that the entire income is not taxable under the Income-tax Act as the Board is a "State" and even otherwise, under Article 289(1) of the Constitution, the whole of the income is exempt. It was pointed out that under section 10(20-A) of the Income-tax Act, the Board is an authority constituted by an enactment for planning, development, etc, of the cities and towns through monitoring funds and activities of municipalities, Nagar Panchayats, etc. The Board also pointed out that the Board is a State Government authority and carries on functions for and on behalf of the State Government and, therefore, the income of the Board is not liable to income-tax. It was also pointed out that the accounts of the Board are audited by the Comptroller and Auditor General of India as per Article 149 of the Constitution of India and the audited annual accounts are placed before the legislative assembly and unsettled objections of the audit are subject to view by the Public Accounts Committee also.

Mr. Shelat, learned counsel for the Revenue, submitted that this Court should not interfere at the stage of show-cause notice and that the Board should place all relevant materials before the Assessing Officer who shall decide the matter in question. in accordance with law and if the Board is aggrieved, may prefer an appeal in accordance with law and cannot approach this Court by filing a petition under Article 226 of the Constitution of India. It was contended that there is an income by way of interest and, therefore the Board is liable to be assessed. It was contended that the Board cannot claim the benefit of the provisions contained in section 10(20-A) of the Income-tax Act as the Act as the Board has not satisfied the need of housing accommodation or for the purpose of planning, development or improvement of cities, towns and villages or for both. It was contended by him that even reading the entire Boards Act, the functions of the Board are very limited and is that of disbursing the amount of grant and loans, assessment of income of local bodies and giving advice to the local bodies or to the Government regarding sound municipal finance, and, therefore, the Board cannot claim the benefit of exemption under section 10(20-A) of the income-tax Act. With regard to Article 289(1) of the Constitution of India, Mr. Shelat contended that the Board is a financial corporation established by an Act and as this Board has an income, it is liable to be taxed. With regard to the concurrence given by the State Government, it is contended that the Finance Department has agreed that the interest amount may be retained as a grant-in-aid given to it by the Government, but looking to the letter as a whole, it is only a proposal and, therefore, it cannot be said that the proposal is accepted by the t3oard andtherefore, it is a grant. It was further submitted that the amount is required to be disbursed for the purposes laid down under the Act and if there is any amount with the Board, the same should be kept in the bank account, if the Board wants to avoid liability to pay income-tax. Mr. Shelat has read out the entire affidavit filed by the Deputy Commissioner of income-tax and has argued that the Board is not discharging any sovereign functions of the State and, therefore, is not entitled to claim the benefit under Article 289 of the Constitution of India.

It is undisputed that the Board is constituted under the. Boards Act and received grant-in-aid for disbursing to the municipal corporations or the municipalities as per the Act. It is also undisputed that some amount lying with the Board was invested as a result of which, there was an income by way of interest. The case of the Board as it appears from the letter at Annexure "A" and at page 110 is that the amount earned by way of interest is nothing but grant-in-aid, and, therefore, not taxable. On the other hand, the Revenue has contended that the amount earned by way of interest is taxable.

The Boards Act is an Act to make provision for better management of municipal corporations and municipalities in the State of their finance resources and for regulation of giving certain grants and loans by the State Government to those bodies. The Board is established for these purposes and for matters connected therewith. The establishment and constitution of the Board is under section 3. The members and chairman of the Board are to be appointed under section 4 of the Act. It is required to be noted that the chairman is not a salaried person but the chairman is entitled to draw honorarium, sitting fees and allowance as may be prescribed. The members other than those appointed by virtue of their office, shall be entitled to draw such sitting fee and allowances as may be prescribed. The members who are appointed by virtue of their office may be paid such compensatory allowance for the purpose of meeting the personal expenditure in attending the meetings of the Board or any committee thereof or for being appointed in connection with the work undertaken by or for the Board as may be prescribed. So far as duties and functions of the Board are concerned, section 14 of the Boards Act is the relevant section, which reads as under:

"14. The dunes and functions of the Board shall be as follows, namely: --

(a)Subject to the Local Authorities Loans Act, 1914, or the Saurashtra Local Authorities Loans Act, 1951, and to any general or special order made by the State Government made in this behalf--

(i) to grant loans to the local authorities, out of the fund.

(ii) to distribute on behalf of the State Government grant-in-aid of the revenues of the local authorities, out of the amounts provided to the Board by the Government for that purpose,

for the performance by such authorities of their duties and functions under the Bombay Provincial Municipal Corporations Act, 1949, or, as the case may be, the Gujarat Municipalities Act, 1963;

(b) (i) to assess income of a local authority received during any financial year, from each of the sources mentioned in section 82 of the Bombay Provincial Municipal Corporations Act, 1949, or, as the case may be, section 82 of the Gujarat Municipalities Act, 1963, and the expenditure incurred by a local authority in such financial year in carrying out the obligatory and discretionary duties or functions imposed on it under the provisions of the Bombay Provincial Municipal Corporations Act, 1949, or, as the case may be, of the Gujarat Municipalities Act, 1963, and,

(ii) having regard to such assessment, to tender advice to the local authorities as to the ways and means to be adopted by them for increasing the income from any of these sources and the pattern to be followed in incurring expenditure in carrying out the obligatory and discretionary duties;

(c) to recommend to the local authorities generally or to any local authority in particular, measures for---

(i) improvement of assessment and collection of taxes and fees levied by the local authority;

(ii) effecting economy in the expenditure incurred by a local authority such as reduction in the number of officers and servants employed by it, reduction of wasteful expenditure, improvement of administrative procedure and practice;

(d) to recommend to the State Government principles which should `govern the grant-in-aid of the revenues of the local authorities out of the consolidated fund of the State

(e)(i) to render advice to the local authorities in respect of preparation of their budget estimated; and,

(ii) to make report to the State Government of its observations in relation to the budget estimates of local authorities generally or in relation to budget estimates of any local authority in particular;

(f) to make recommendation to the State Government or, as the case may be any local authority, as to any other matter referred to the Board in the interests of sound municipal finance. "

The Board is empowered to call for any written statement of accounts, report, statistics or other information from any local authority, other body or individual which is required by test to the discharge and performance of its duties and functions under this Act and such authority, body or individual shall be bound to furnish such information. The Board is also empowered to enter on and inspect or cause to be entered on and inspected any work carried on by a local authority.

Chapter IV of the Boards Act provides for contract, finance, accounts and audit. Section 17 of the Boards Act relates to the Board's fund, which reads as under:

" 17. (1) The Board shall have and maintain its own fund to which shall be credited all moneys received by or on behalf of the Board, including grants, subventions and loans made by the State Government.

(2) The fund shall be applied subject to the provisions and for the purposes of this Act.

(3) Except as otherwise directed by the State Government, all moneys forming part of the fund shall be deposited with the State Bank of India or any bank included in the Second Schedule to the Reserve Bank of India Act, 1934, or invested in such securities as may be approved by the State Government."

It is the duty of the State Government to make available grant for the Board under section 18 of the Boards Act, which reads as under:

"18. The State Government may, after appropriation duly made in this behalf, from time to time make grants and subventions to the Board for the purposes of this Act, on such terms and conditions as the State Government may determine."

Section 20 of the Board Act provides for power to borrow, which reads as under:

"20. The Board may, from time to time, with the previous sanction of the State Government and subject to the provisions of this Act and to such conditions as the State Government may, by general or special order, impose, borrow any moneys required for the purposes of this Act by making arrangements with the banks or other bodies or institutions approved by the State Government for this purpose. "

We have indicated earlier that accounts are required to be audited as provided under section 21 of the Board Act, which reads as under:

"21. (1) The Board shall cause to be maintained proper books of account and such other books as may be prescribed and shall prepare an annual statement of the accounts at such time and in such manner as may be prescribed.

(2) The Board shall cause its accounts to be audited annually by such person as the State Government may direct.

(3) As soon as the accounts of the Board have been audited, the Board shall send a copy thereof together with a copy of the report of the auditor thereon to the State Government.

(4) The Board shall comply with such directions of the State Government as the State Government may after perusal of the report of the auditor think fit to give.

(5) The annual audited statement together with the report of the auditor received by the State Government under subsection (3) shall be laid before the State Legislature as soon as possible."

Mr. Kaji, learned counsel, drew our attention to Article 289 of the Constitution of India which deals with exemption of property and income of a State from Union taxation which reads as under:

"(1) The property and income of a State shall be exempt from Union taxation;

(2) Nothing in clause (1) shall prevent the Union from imposing or authorising the imposition of, any tax to such extent, if any, as Parliament may by law provide in respect of a trade or business of any kind carried on by, or on behalf of, the Government of a State, or any operations connected therewith, or any property used or f"`` occupied for the purposes of such trade or business, or any income accruing or arising in connection therewith. "

Mr. Kaji also drew our attention to Articles 243-W, 243-X and 243-Y which is in Part IX-A of the Constitution, which read as under:

"243-W. Subject to the provisions of this Constitution, the Legislature of a State may, by law, endow---

(a) the municipalities with such powers and authority as may be necessary to enable them to function as institutions of self Government and such law may contain provisions for the devolution of powers and responsibilities upon municipalities, subject to such conditions as may be specified therein, with respect to---

(i) the preparation of plans for economic development and social justice;

(ii) the performance of functions and the implementation of the schemes as may be entrusted to them including those in relation to the matters listed in the Twelfth Schedule;

(b) the Committees with such powers and authority as may be necessary to enable them to carry out the responsibilities conferred upon them including those in relation to the matters listed in the Twelfth Schedule."

"243-X. The Legislature of a State may, by law,---

(a) authorise a municipality to levy, collect, and appropriate such taxes, duties, tolls and fees in accordance with such procedure and

subject to such limits;,

(b) assign to a municipality such taxes, duties, tolls and fees levied and collected by the State Government for such purposes and subject to such conditions and limits;

(c) provide for making such grants-in-aid to the municipalities from the consolidated fund of the State; and

(d) provide for constitution of such funds for crediting all moneys received, respectively, by or on behalf of the municipalities and also for the withdrawal of such money therefrom,

as may be specified in law."

243-Y (1) The Finance Commission constituted under Article 243-I shall also review the financial position of the municipalities and make recommendations to the Governor as to---

(a) the principles which should govern---

(i) the distribution between the State and the municipalities of the net proceeds of the taxes, duties, tolls and fees leviable by the State, which may be divided between them under this part and the allocation between the municipalities at all levels of their respective shares of such proceeds;

(ii) the determination of taxes, duties tolls and fees which may be assigned to, or appropriated by, the municipalities;

(iii) the grants-in-aid to the municipalities from the consolidated fund of the State;

(b) the measures needed to improve the financial position of the municipalities;

(c) any other matter referred to the Finance Commission by the Governor in the interests of sound finance of the municipalities.

(2) The Governor shall cause every recommendation made by the Commission under this Article together with an explanatory memorandum as to the action taken thereon to be laid before the Legislature of the State."

Mr. Kaji submitted that after the amendment in the Constitution, it is mandatory to have grants-in-aid for the municipalities from the consolidated fund of the State. He submitted that it is the duty of the Finance Commission now to make recommendations to the honourable Governor as to the grants-in-aid to the municipalities from the consolidated fund of the State. It is the duty of the State to provide for making such grants-in-aid to the municipalities from the consolidated fund of the State and provide for constitution of such fund for crediting of monies received respectively by and on behalf of the municipalities and also for withdrawal of such moneys therefrom as may be specified in law in view of Article 243-H of the Constitution. Mr. Kaji submitted that the State is empowered to endow the municipalities with such powers and authority as may be necessary to enable them to function as institution of self-Government and such law may contain provisions for the devolution of powers and responsibilities upon municipalities for preparation plans for economic development and social justice, performance of functions and implementation for the schemes as may be entrusted to them including those in relation to the matters listed in the Twelfth Schedule.

Mr. Kaji submitted that looking to the provisions which are referred to hereinabove, it is very clear that the Board is merely a distributing agency on behalf of the State. He further pointed out that it is for this Board to recommend to the State Government the principles which govern the grant-in-aid to the local authorities. Looking to the duties and functions of the Board, it is very clear that the Board is assigned to assess the income of the local authority received during any financial year from each of the sources mentioned in section 82 of the Gujarat Municipalities Act, 1963. The Board has also to assess the expenditure incurred by the local authority in discharge of its obligatory as well as discretionary duties. It has also to advise the local authorities the ways and means to be adopted for' increasing the income and the pattern to be followed for incurring expenditure. This Board has also to recommend for improvement of assessment and collection of taxes and fees levied by the local authority and effecting economy in the expenditure incurred by a local authority. Mr. Kaji submitted that looking to these functions which are to be discharged by the Board the only conclusion that can be drawn is that the Board is discharging the function on behalf of the State. Looking to the provisions contained in the Constitution of India and the B.P.M.C. Act and the Gujarat Municipalities Act, it is the duty of this Board to monitor the activities of the local authorities with a view to see that each rupee is spent fruitfully.

It is very clear from the provisions contained in Articles 243-X and 243-Y of the Constitution that the State Legislature should provide for making available grants-in-aid to the municipalities from the consolidated fund of the State and may provide for Constitution of such fund of crediting all moneys received. Looking to the duties,. it is very clear that it has to advise as to how the grant-in-aid to the municipality from the consolidated fund of the State are to be disbursed. Article 243-Y indicates the measures to improve the financial position of the municipalities and the provisions m the Boards Act are in consonance with the provisions contained in the Constitution. Thus, from the aforesaid provisions, it clearly appears that the Board is acting on behalf of the Government and for the Government. It may be required to be noted that the Constitutional provision is amended by the Seventy-fourth Amendment of 1992, whereas the Boards Act is enacted in 1979, much before the amendment in the Constitution.

Mr. Kaji, the learned advocate submitted that in view of Article 289 of the Constitution of India, income of the State is exempted from Union taxation. He pointed out that the Board is constituted under the Act and it is discharging duties and functions under the Act, which are the functions of the State. Looking to the qualifications of the members, he submitted that experts have been selected to advise with regard to the expenses and municipal taxes, etc. Some of the members are Government officers and some may not be, but the function of this Board is to see that the local authorities discharge their duties properly and looking to the scheme of the Act, it is clear that the Board is acting for the Government. It has no trading activities. It has to receive grant-in-aid and if permitted, to borrow monies for the purpose of distribution of amounts to the local authorities. Mr. Kaji submitted that this Board is not engaged in any trade or business. As per section 17(3) of the Board Act, moneys are required to be deposited with the State Bank or any bank included in the Second Schedule to the Reserve Bank of India Act, 1934, or are required to be invested in such securities as may be approved by the State. If the money is received by the Board by way of grant-in-aid and is invested in securities which are approved by the Government, then it has acted as per the direction of the State Government. Even as per the letter annexed at Annexure "A", it is very clear that the amount of interest which may be earned is to be retained by the Board as a part of grant-in-aid given to it by the Government. Mr. Kaji further submitted that by letter, dated April 15, 1996 (at page 110), the Government has reiterated that interest is an additional grant the same was clarified even earlier by letter dated May 20, 1989 (Annexure "A"). In the letter dated April 15, 1996, it has been reiterated that the interest on the deposits made by the Board was from the beginning and is a grant-in-aid by the State to the Board, and not belonging to the Board, and is meant for disbursement to the municipalities for various schemes to be formulated by the Board for catering to the needs of the weaker sections as clarified earlier in Annexure "A". Therefore, he submitted that the Board is acting on behalf of the State and any amount of interest received by the Board cannot be taxed because it is an income of the State Government. He further submitted that if Article 289 of the Constitution is perused, it is clear that income of the Board is not taxable. Article 289(1) mandates that the property and income of a State shall be exempt from Union taxation. Clause (2) of Article 289 carves out an exception to clause (1) in the sense that it states that nothing in clause (1) shall prevent the Union from imposing or authorising the imposition of, any tax to such extent, if any, as Parliament may by way provide in respect of a trade or business of any kind carried on by, or on behalf of the Government or State, or any operations connected therewith, or any property used or occupied for the purpose of such trade or business, or any income accruing or arising in connection therewith. Clause (3) points out that nothing in clause (2) shall apply to any trade or business, or to any class of trade or business, which Parliament may by law declare to be incidental to the ordinary functions of the Government. Thus, clause (2) creates an exception to clause (1). However, clause (3) creates an exception upon an exception. If it is found that there is trading or business activity, a tax may be imposed and if any property is used or occupied for the purpose of trade or business it is liable to tax. Thus, reading clause (2) it is very clear that if the income is derived from the commercial activities or the property of a State in respect of a trade or business of any kind carried on by, or on behalf of, a Government of a State, or any operations connected therewith, or any property used or occupied for the purposes of such trade or business, it shall not be immune from Union taxation. However, in the instant case, it is necessary to bear in mind as to what is a "Governmental function" or what a "trade" or "business". In the latter one, it is not very easy to determine. Ordinarily, the word "business" connotes some real substantial and systematic or organized course of activity or conduct with a purpose certainly, the Board is not carrying on any trading or business activities.

From the Boards Act, it is also clear that the Board is controlled by the State and the Board has to discharge the functions on behalf of the Government. It is also clear that at all the material stages and in all material particulars, the activity of the Board is controlled by the State. There is no capital contribution by the Central Government or there is nothing to indicate that citizens can be admitted as shareholders. As pointed out earlier, there is no trading activity of the Board. There is no question of profit and loss that would be made as a result of this activity and as pointed out, it has no trading activity. There is no question of bringing out duality between the Board, on the one hand, and the State or the Central Government or the shareholder, on the other hand, because the property of the Board is owned by the State itself. In the instant case, there is no question of trade or business but the amount which was lying with the Board was invested for which interest is received, which the State Government is treating as a part of the grant-in-aid, and, therefore, the question of taxing that amount does not arise. In our view, the Board has received the interest, but as the same is treated as grant-in-aid by the State as per letter at Annexure "A", the same cannot be taxed because the amount of interest is purported to be earned by the State and is grant-in-aid and not an income of the Board.

Mr. Kaji, learned counsel further submitted that in the instant case, even under section 10(20-A) of the Income-tax Act, income is exempted. He submitted that it is necessary that the authority constituted under the law should be dealing with and satisfy the need for housing accommodation only. According to his submission, even if the authority constituted under the law is for the purpose of planning, development or improvement of cities, towns and villages, income generated by the authority can be exempted.

Mr. Shelat, the learned advocate submitted that the function of Board is to distribute on behalf of the State Government the grant-in-aid to the local authorities for the performance by such authorities of their duties and functions and section 14 nowhere provides that it is for this Board to do anything for the purpose of planning, development or improvement of cities, towns and villages. Section 10(20-A) if minutely read becomes clear that any income of an authority constituted in India by or under any law enacted for the purpose of performance of planning, development or improvement of cities, towns and villages are covered and thus exempted. It may be that the authorities itself is engaged in planning, development or improvement of cities, town and villages or the authority under the Act by monitoring the activities of the local authorities achieves the object of either planning, development or improvement of cities, towns and villages. The Boards Act is enacted with the object for better management of the municipal corporations and municipalities in the State of their financial resources and for regulation of giving certain grants and loans by the State Government. This Board is constituted with the object of providing grants to the local authorities and that local authorities are spending the amount for public need. We have enumerated in the earlier part of this judgment that the local authorities are spending the amount for construction of buildings, schools, roads, drainage, water supply, etc., that is the daily need of the people. It is not necessary that the Board itself must be engaged in the act of improvement of cities, towns and villages. The board which is discharging its functions under the Act which are Governmental functions is disbursing the grants-in-aid, for the purposes of improvement, planning of cities. The question is: What is the purpose of this Board or what is the object of this Board. With the object of profit if the Board is engaged directly or indirectly in the work of development or improvement, it can certainly be said that there is a business or trading, but we find that there is no such object.

In the case of Gujarat Industrial Development Corporation v. CIT (1985) 151 ITR 255 (Guj), the following two questions were referred to the Court for opinion of this Court (page 257):

"(1) Whether the Tribunal was right in holding that the income of the assessee- Corporation was not exempt under Article 289 (1) of the Constitution of India?

(2) Whether the Tribunal was right in holding that the income of the assessee- Corporation was not exempt from payment of income-tax under the provisions of section 10(20-A) of the Income Tax Act, 1961?"

The Board is constituted under the Act and is playing an important role in implementing the schemes under the B.P.M.C. Act and the Gujarat Municipalities Act. The Constitution (Article 243-W) provides that the Legislature of a State may, by law, endow the municipalities with such powers and authority as may be necessary to enable them to function as institutions of self-Government and such law may contain provisions for the devolution of powers and responsibilities upon municipalities subject to such conditions as may be specified with respect to the preparation of plans for economic development and social justice and for the performance of the functions and the implementation of schemes as may be entrusted to them including those in relation to the matters listed in the Twelfth Schedule. In the Twelfth Schedule as many as 18 items are mentioned, which are reproduced below:

"(1)Urban Planning including town planning.

(2)Regulation of land use and construction of buildings.

(3)Planning for economic and social development.

(4)Roads and bridges;

(5)Water supply for domestic, industrial and commercial purposes.

(6)Public health, sanitation, conservancy and solid waste management.

(7)Fire services.

(8)Urban forestery, protection of the environment and promotion ofecological aspects.

(9)Safeguarding the interests of weaker section of society, including the handicapped and mentally retarded.

(10) Slum improvement and upgradation.

(11)Urban poverty alleviation.

(12)Provision of urban amenities and facilities such as parks, gardens, play grounds.

(13)Promotion of cultural, educational and aesthetic aspects.

(14)Burials and burial grounds; cremations, cremation grounds and electric crematoriums.

(15) Cattle pounds, prevention of cruelty to animals.

(16) Vital statistics, including registration of births and deaths.

(17)Public amenities including street lighting, parking lots, bus stops and public conveniences.

(18) Regulation of slaughter houses and tanneries."

The amount spent by the local authority out of the consolidated fund disbursed by the Board clearly suggests that the amount is spent for discharging the aforesaid functions. Therefore, the Board is serving an important public purpose. Looking to the provisions contained in the Constitution which we have enumerated hereinabove and the provisions contained in the B.P.M.C. Act and the Gujarat Municipalities Act, it is very clear that the Board is constituted in aid of discharging the functions of the municipalities. Section 126-A of the B.P.M.C. Act has been amended and subsections (1) and (2) thereof read as under:

" 126-A. (1) The State Government may after consideringrecommendations of :he Gujarat Municipal Finances Board, determine whether for augmenting the finance of the Corporation or any of the purposes of this Act it is necessary to make any grant to the Corporation and if so, the amount thereof.

(2) The grant so determined shall be made to the Corporation every year but it may revise after a period of every five years having regard to the recommendations of the Gujarat Municipal Finance Board in respect of the revision of grants to Corporation."

Section 144 of the Gujarat Municipalities Act, 1963, has also been amended on the same lines. Section 20-A of the B.P.M.C. Act provides for financial assistance to the Corporation' wherein we find mention of section 126-A of the B.P.M.C. Act. Reading this, it is very clear that the State Government has to consider the recommendations of the Board andmake grants tothe Corporation and, therefore, it is amply clear that for improvement of cities and towns, the Board is existing and in aid to the Government it is discharging its functions. The object is required to be gathered from various provisions indicated therein and that requires a liberal Interpretation. In view of the duties discharged by the Board, it is very clear that the Board is existing to assist the State Government for improvement of cities and towns. From the object also, it is very clear that the Board is established for better management of the municipal corporations and municipalities, and for regulation of giving of certain grants by the State Government to the local authorities and that makes it clear that it is established for securing public purposes, viz., purposes which are being discharged by the local authorities. In the absence of anything to indicate that the Board has carried on any business or trade, it would be futile to say that the interest should be considered as an income, looking to the facts and circumstances of this case and also considering the direction of the State to treat the same as a grant-in-aid.

In the case of Gujarat Industrial Development Corporation (1985) 151 ITR 255, this Court held as under (pages 264-265):

"Apart from that, the question which is required to be considered is as to whether the purpose of the Corporation or the object of the Corporation is to develop any city, any town or any particular area. The answer would be in the negative. Industrial activity is one of the facets of general development. Developing any city, any town, any village or any area would require roads, buildings, sanitation, parks, sports, educational institutions and several other amenities. It will be an integrated activity by which an area could develop. Therefore, any Corporation which is established for the purpose of developing a particular city, town, village or an area would mean a body set up with a larger purpose which could be achieved only if not only industry but several other requirements of that particular area are met by that Corporation. A city or a town or an area could be well-developed without any industry. There could be good trade and commerce. So many institutions, banks, museums and other institutions which might attract the people may develop and the town or area may develop even without a single industry. But we are not concerned as to whether by establishing any industry the area develops or not. The question before us is as to whether this particular corporation is established for the purpose of planning, development or improvement of cities, towns and villages in Gujarat State. If it is not and it is established only for the purpose of one particular facet of development, it would not fall within section 10(20-A) of the Act. Now, therefore, it is more than clear from the preamble and from the whole reading of the Act the whole Act is intended to establish a Corporation for the purpose of establishing industries in towns, villages and other places in the Gujarat State."

If any corporation is permitted to carry on business in its own name, then the matter is altogether different. In the instant case, the Board is not permitted to do any business whatsoever. Its function is to aid the Government in disbursing the grants-in-aid to the local authorities with a view to improve cities and towns. In the Act, there is nothing to show that this Board is entitled to do anything independently which would suggest that the Board is engaged in a trade or business. It is an admitted position that the Board is established to distribute on behalf of the State Government the grants-in-aid to the local authorities, etc., as defined in section 14 of the Boards Act. For improvement of cities and towns one has to see the Twelfth Schedule to the Constitution and the Board has to disburse the amount of grant to the local authorities for such development or improvement. Thus, on the facts, it is clear that the Board is not established to carry on trade or business and it is not established for one particular facet of development but looking to the Twelfth Schedule to the Constitution and Article 243-W the Board acts for the State and on behalf of the State.

Mr. Kaji, learned counsel, has also placed reliance on the decision in the case of CIT v. Sitaldas Tirathdas (1961) 41 ITR 367 (SC) to substantiate his case that the Board has never received income and what was received was nothing but grant-in-aid. In the penultimate paragraph of this judgment the Court held as under (page 374):

"In our opinion, the true test is whether the amount sought to be deducted, in truth, never reached the assessee as his income. Obligations, no doubt, there are in every case, but it is the nature of the obligation which is the decisive fact. There is a difference between an amount which a person is obliged to apply out of his income and an amount which by the nature of the obligation cannot be said to be a part of the income of the assessee. Where by the obligation income is diverted before it reaches the assessee, it is deductible; but where the income is required to be applied to discharge an obligation after such income reaches the assessee, the same consequence, in law, does not follow. It is the first kind of payment which can truly be excused and not the second. The second payment is merely an obligation to pay another a portion of one's own income, which has been received and is since applied. The first is case in which the income never reaches the assessee, who even if he were to collect it, does so, not as part of his income, but for and on behalf' of the person to whom it is payable. "

Mr. Kaji also relied on the judgment in the case of Somaiya Orgeno Chemicals Ltd. v. CIT (1995) 216 ITR 291 (Bom), wherein the Court held as under (pages 296, 300):

"It is collected as part of the price but is earmarked for the storage fund. It cannot, therefore, be considered as a part of the income of the assessee. The assessee is under a statutory obligation to set aside this amount of Rs. 6 per Kilolitre for the said fund at the inception. There is, therefore, a clear diversion at the source of this amount.

In any event, the assessee has lost domain over this amount of Rs. 6 per Kilolitre. It has to be utilised in the manner statutorily laid down. Hence, this amount over which the assessee has lost its domain, cannot be considered as a part of its real income or its profit. It is therefore, required to be excluded under section 28 of the Income-tax, 1961, for the purpose of calculation of income. The Court has, therefore, made a clear distinction between the nature of income and the nature of wealth for the purposes of the Wealth Tax Act. The title to the fund, therefore, is not conclusive in deciding whether the amount which is deposited in that fund constitutes a diversion of the amount deposite in the account at source or not. What is necessary is to see whether there is a diversion at source and whether the assessee has lost domain anti control over the amount so diverted. "

This Court has again considered the decision reported in CIT v. Sitaldas Tirathdas (1961) 41 ITR 367 (SC) and reiterating the view, the Court, in the case of Rajkot Dist. Gopal Co-op. Milk Producer's Union Ltd. v. CIT (1993)204 ITR 590 (Guj), held that payment to be made as a result of statutory or contractual obligation even though it may be related to the profits, may be in the nature of an obligation as a result of which profits to that extent are diverted by an overriding title. The headnote, on the said judgment, at page 591, reads as under:

"In 1969, the assessee, a cooperative society, approached the Gujarat Government to hand over the milk conservation project which was till then run by the Government. As the said project was running into losses, the Government agreed to transfer the working of that project temporarily. The assessee was given a right to run the dairy project on a leave and licence basis on a nominal fee of Re. 1 per month. The assessee was under an obligation to maintain separate accounts for the dairy project in the same manner in which they were maintained earlier by the Government. Profits, if any, were first applied to the accumulated losses of the project. The assessee claimed deduction of Rs.78,273 paid by it to the Gujarat Government towards losses as per the terms and conditions of the leave and licence agreement. The Income-tax Officer disallowed that claim treating that payment as application of its income by the assessee and this was confirmed by the Tribunal. On a reference:

Held, that it was clear that even though the assessee was given a night to run the project, a separate account with respect to profits made or losses suffered in running that project was to be maintained. In this context, the agreement which referred to profits would mean profits made by running the milk project and could not mean profits earned by the assessee, in the sense that the assessee was free to distribute or use the profits in the manner it liked. The said clause spoke of physical receipt of profits by the assessee-and not receipt of profits in the eye of law. Out of these profits, accumulated losses were required to be wiped out and only thereafter, net profits were to go to the assessee. Profits in the hands of the assessee would be that amount which remained with it after the payment contemplated by the agreement was made to the Government. This was a clear case of diversion of profits by overriding title. The assessee was entitled to deduction of Rs. 78,273 from its total income."

Mr. Kaji, the learned Advocate, submitted that really speaking, the income taxable under the Income-tax Act is the real income of the assessee. In determining the real income, the question is not of physical receipt of income but what is received in the eye of law. Relying on the decision in the case of Udayan Chinubhai v. CIT (1978) 111 ITR 584 (Guj), he submitted that in the instant case, even if interest is received, that itself is not a determining factor as it does not amount to receipt in law because the same is to be treated as grant-in-aid in view of the directive of the State Government at Annexure ' A' .

In view of the aforesaid decision, even if there is a receipt, in view of the principles of diversion, this will not amount to income of the Board and, therefore, the same is not taxable.

Mr. Shelat, learned counsel for the Revenue, submitted that so far as the letter at Annexure "A", is concerned, it is merely a proposal only, looking to the later part of the letter, which reads as under:

"I shall be grateful, if you can formulate a concrete proposal in this regard on which Government's approval can be obtained at an early date. "

Really speaking, this letter is in three parts. The first part, which deals with the decision of the Finance Department, and it reads that:

"This is regarding the interest that the Gujarat Municipal Finance Board has earned out of its deposits in the different banks. The Finance Department has agreed that the interest amount may be retained by the Board as a part of the grant-in-aid given to it by the Government. "

The second part deals with keeping a separate identity for the interest amount and conveys that the amount is to be utilised for catering to the urban needs of the economically weaker sections especially those living in smaller municipal areas where the municipalities are facing acute financial problems.

The third part is soliciting to formulate a concrete proposal to utilise the fund on which the Government's approval can be obtained. The Government's approval is not on the first part of the letter which sanctions the interest amount to be treated as grant-in-aid, but the Government's approval is to be sought with regard to the proposal of utilisation of the fund This is further made clear by the letter at page 110 wherein it is stated that:

"It is hereby reiterated that the interest on the deposits made by the G.M.F.B. was from the beginning and is a grant-in-aid given by the State Government to the G.M.F.B. not belonging to the G.M.F.B. and which can be primarily disbursed to municipalities for the various schemes to be formulated by the Board for catering to the needs of weaker sections as clarified earlier."

Thus, interpreting this letter, it is very clear that the Finance Department has given direction to treat the interest received as part of grants -in-aid. Therefore, the interpretation as suggested by the deponent in the affidavit and as canvassed by learned counsel for the Revenue, Mr. Shelat, cannot be accepted.

In the light of the aforesaid, it is not possible to agree with the contentions raised by Mr. Shelat for the Revenue. This petition is required to be allowed, and is allowed. The notices issued by the Income-tax Department at Annexure "D" collectively are quashed and set aside. Rule made absolute accordingly. No order as to costs.

M.B.A./1258/FC Order accordingly