‘Simple and Non-Controversial’: Section 13A, IT Act, 1961

Section 13A was introduced in the IT Act, 1961 via the Taxation Laws (Amendment) Act, 1978 (‘1978 Act’) to grant income tax exemption to political parties. The then Minister of Finance, Shri H.M. Patel, introduced Taxation Laws (Amendment) Bill, 1978 in the Lok Sabha and remarked that it was ‘a simple and non-controversial bill’ and he trusted that it would receive unanimous support of all the parties. The 1978 Act was solely dedicated to clarifying income tax obligations of political parties and did not contain provisions on any other subject. The Lok Sabha debate that followed reflected anything but a unanimous view, and the provision, as some recent developments suggest, are no longer non-controversial. This article – relying on Lok Sabha debate on Taxation Laws (Amendment) Bill, 1978 – aims to examine the rationale for Section 13A, IT Act, 1961 with an aim to provide an informed context to income tax obligations of political parties. To begin with, it is pertinent to provide a brief summary of the scope of Section 13A.    

Reasons for Income Tax Exemption to Political Parties 

When Shri H.M. Patel introduced the Taxation Laws (Amendment) Bill, 1978 in the Lok Sabha, he provided several reasons for introduction the exemption. He reasoned that political parties are central in a democratic setup and that they spend a considerable amount of money in carrying out their political activities. Thereby if income of political parties is subjected to income tax it would reduce their disposable funds hampering their capacity to carry out their legitimate activities from their legitimate sources of income. Thereby, Shri H.M. Patel reasoned it was necessary to exempt income of political parties derived from any of their investments in movable and immovable assets.

There are two noticeable aspects in the reasons articulated by Shri H.M. Patel: first, the attempt to place political parties at the epicentre of democracy; second, the emphasis on legitimate activities and legitimate sources of income. The former is debatable to some extent, but I will focus on the latter. The latter was clearly suggestive of the fact that not just excess, even some taxation on income of political parties results in them using illegitimate funding. This argument, of course, is as old as tax law and can be used by anyone. But, typically the argument is framed on the foundation of excess taxation, i.e., excessive tax/high tax rates incentivizes taxpayers to indulge in tax evasion and accumulation of unaccounted money. While in the context of Taxation Laws (Amendment) Bill, 1978, the suggestion seemed to be that taxation per se reduces space for political parties to indulge in legitimate activities from legitimate sources. The Minister never argued that taxation rates were an issue, he simply stated that levying tax on political parties hampered their activities. And there was no vociferous or principled opposition to the tax exemption, except by a handful of members who alleged that the party in power was trying to benefit from the tax exemption. 

Income from Souvenirs 

A substantial part of the Lok Sabha debate touched on Section 37(2B), IT Act, 1961 which was added to disallow expenditure of companies on advertisements purchased in souvenirs published by political parties. To understand the importance of souvenirs as a source of income in 1978, it is important to remember that donations by companies to political parties was banned at that time. (Imagine that happening today!) Instead, companies used to purchase advertisement space in souvenirs published by political parties to contribute to income of political parties. Shri H.M. Patel argued that the companies were not purchasing these advertisements on commercial considerations but to circumvent the ban on company donations. Also, to claim deductions on their profits. He reasoned that to plug this loophole, Taxation Laws (Amendment) Bill, 1978 proposes that expenses of companies towards advertisements in souvenirs shall not be eligible for deduction. Various members considered this provision as a half-baked attempt to plug the loophole, and instead advocated for a complete ban on advertisements by companies in souvenirs of political parties. A complete ban on advertisements would have halted a lucractive source of money for political parties and unsurprisingly the provision was not amended and only restricted companies from claiming deductions on advertisement expenses.  

I’m unsure how much souvenirs contribute towards income of political parties presently, though the provision relating to disallowance of souvenirs remains on the book. However, as has been pointed elsewhere the innovative use of coupons helps political parties earn income without necessarily showing it on their books of account. Coupons are issued by political parties in return for donations and can also be issued for small amounts of five or ten rupees. In the absence of any upper cap on coupons or regulatory guidelines on issuance of coupons, they are a known, but not well-documented avenue for political parties to channelize unaccounted money. 

Scope of Section 13A

So, what is the scope of Section 13A and does it offer complete tax exemption to political parties. Let me summarise its scope. 

Section 13A, in its current form exempts any income of a political party which is chargeable under the head ‘Income from house property’ or ‘Income from other sources’ or ‘Capital gains’ or any income by way of voluntary contributions received by a political party from any person. Originally, the provision exempted ‘income from securities’ as well, but it was deleted in 1988, and ‘capital gains’ was added in 2003, perhaps in accordance with the changing sources of income of a political party.

Section 13A prescribes certain conditions for a political party to successfully claim the income tax exemption under IT Act, 1961. Some of the conditions are: first, the political party keeps and maintains such books of account and other documents as would enable an assessing officer to properly deduce its income; second, in respect of such voluntary contribution in excess of twenty thousand rupees, such political party keeps and maintains record of such contribution and the name and address of person who has made such contribution; third, accounts of such political party are audited by an account. 

Section 13A was amended in 2017 to provide that political parties were not required to maintain records of contributions received through electoral bonds and that, no donation exceeding two thousand rupees is received by such political party otherwise than by an account payee cheque, electronic clearing system or through a bank account or electoral bond. The Supreme Court declared these amendments to Section 13A as unconstitutional.

Compared to the compliance obligations that IT Act, 1961 imposes on various taxpayers, the compliance requirements for political parties can be fairly characterized as ‘light touch.’ The electoral bond scheme – while it existed – made the income tax obligations of political parties even more relaxed and effectively placed political parties outside the ambit of IT Act, 1961. However, political parties were not obeying even the minimum mandate that IT Act, 1961 had imposed on them even prior to 2017. 

Willful Ignorance of Section 13A

Common Cause Society case perhaps best documents the abuse of Section 13A, and laxity of the Income Tax Department towards political parties. The petitioners, Common Cause Society, brought to the Supreme Court’s notice that various political parties were guilty of not fulfilling the statutory conditions prescribed under Section 13A, IT Act, 1961 and yet seemed to enjoy tax exempt status on their income. And that the Income Tax Department was dragging its feet and not ensuring that the political parties comply with their obligations under IT Act, 1961. Some of the political parties that were accused of not filing their income tax returns as per the law were: Bharatiya Janta Party, Indian National Congress, All India Forward Bloc, Janta Party, Revolution Socialist Party among others. 

The Supreme Court held that various political parties have for several years violated the statutory provisions, and the Income Tax authorities ‘have been wholly remiss in the performance of their statutory duties under law.’ The Income Tax Department was directed to take necessary action against the defaulting political parties as per the provisions of IT Act, 1961 and the Ministry of Finance was instructed to conduct an inquiry against the erring officials who did not perform their statutory duties. I’m not privy to the result of these actions as to whether any penalties were imposed on the erring political parties under the IT Act, 1961 or if the erring officers were held responsible for ignoring their statutory duties.       

Conclusion 

Section 13A, IT Act, 1961 was introduced with a particular and narrow objective. While Members of Parliament during the debate correctly highlighted that such the provision favors the political party in power, it does not detract from the fact that all political parties enjoy the income tax exemption and need to satisfy identical conditions to lawfully obtain the exemption. As Common Cause Society case showed us, even the minimal statutory requirements are rarely fulfilled by all political parties. It is this culture of impunity that has afforded an opportunity to the current BJP government to target the Indian National Congress. The timing and aggressive behavior of tax authorities hardly signals a bona fide attempt at enforcing the IT Act, 1961 because history clearly suggests that income tax authorities have ignored contravention of IT Act, 1961 by political parties. At the same time, the Income Tax Department has ample legal cover to argue that Section 13A has not been complied with. Whether similar enthusiasm will be shown in ensuring compliance by political parties in power is yet to be seen.   

Budgetary Support Scheme: High Court Interprets Eligibility Criteria Strictly

Budgetary Support Scheme (‘BSS’) was introduced by the Union of India (‘Union’) for taxpayers to smoothen their transition to GST. Taxpayers who received concessions or exemptions under the pre-GST indirect tax regime would cease to receive the said concessions or exemptions due to subsumption of various indirect levies by GST. To ameliorate cessation of tax benefits due to introduction of GST, the State introduced BSS under which taxpayers who received exemptions under pre-GST indirect levies were eligible to receive partial refund of GST if they fulfilled the eligibility conditions. The High Court of Jammu & Kashmir and Ladakh pronounced a judgment[1] on 23 May 2023, interpreting the eligibility condition for BSS strictly and rejecting taxpayer’s claim to receive refund of GST. 

Taxpayers Claim 

The petitioner/taxpayer in the impugned case received exemption from payment of excise duty under a Notification issued by the Union under Central Excise Act, 1944. The benefit of excise duty exemption extended to goods described in the Table falling within different Chapters of the Notification. In the impugned case the Chapter 38 was the relevant Chapter. The petitioner claimed it was eligible to claim excise duty exemption under the broad HSN Code 3808 under Chapter 38. The petitioner was originally entitled to claim the exemption until October 2026, but due to the introduction of GST – and subsumption of excise duty – in July 2017, the petitioner had to apply for budgetary support under BSS. 

The petitioner claimed budgetary support by arguing that the exemption Notification covered all goods under the broad HSN Code 3808 and did not distinguish between various sub-headings under Chapter 38. While the Union resisted the claim by arguing that the exemption Notification covered specific goods and not all goodsunder the HSN Code 3808. The Union argued that the goods manufactured by the petitioner when it availed benefit under the exemption Notification were different than those manufactured after commencement of GST. As per the Union, the petitioner was only eligible for budgetary support if the goods manufactured after introduction of GST co-related to the same sub-headings as goods manufactured prior to GST.  While as per the petitioner, if the goods manufactured were covered under the umbrella code of 3808, they were eligible for budgetary support and the exact sub-heading was immaterial.

Since the goods manufactured by the petitioner before GST were different from those manufactured after introduction of GST, it adopted a broader interpretation of the exemption Notification and BSS eligibility conditions. The Union, on the other hand, adopted a comparatively more restrictive interpretation.  

High Court Rejects Taxpayers Claim 

The High Court stated that the appropriate manner to determine if the taxpayer was eligible to claim budgetary support was to examine the conditions specified for eligibility. One of the conditions, relevant for the purposes of the case, was that the taxpayer must be manufacturing specified goods. And specified goods were defined in BSS as goods which were being manufactured and cleared by the eligible unit by availing the benefit of excise duty exemption upto 1.07.2017. 

The High Court read the eligibility conditions of BSS with the definition of specified goods to mean that a taxpayer to claim the budgetary support must: be manufacturing goods covered under the HSN Code 3808, must have availed excise duty exemption under the Notification and the goods must have been cleared by the manufacturing unit by availing the exemption upto 1.07.2017, i.e., the date of implementation of GST. This was a fair and reasonable interpretation of the conditions specified in the BSS. 

The High Court’s interpretation of the conditions led to at least one straightforward conclusion: if the taxpayer was manufacturing the goods and availing exemption before 1 July 2017, it was eligible for BSS. While if it was not manufacturing the goods and not availing the exemption, it was not eligible for budgetary support. In view of the above, the petitioner’s argument seems attractive, i.e., if the goods under the HSN Code 3808 were manufactured by it before introduction of GST, the budgetary support should be available. However, the High Court noted that the second condition also needs to be satisfied, i.e., the goods must have been cleared by availing the exemption. And crucially the exemption could only be availed if the relevant sub-heading under HSN Code 3808 was mentioned alongside the 6-digit or 8-digit code. Thus, under the exemption Notification excise could only be availed for specific goods and not any goods manufactured under the HSN Code 3808. Accordingly, the High Court held that:

… even if any unit manufactures an item now which is covered under the Tariff Head of 3808, if the same had not been manufactured earlier during the subsistence of the Exemption Notification and had not availed excise duty exemption, such good would not qualify for claim of budgetary support under the Scheme. (para 43)

The High Court rejected the petitioners arguments on various grounds. It observed that accepting the petitioner’s argument would make the definition of specified goods redundant. It also observed that the Union was not adding words to the conditions of the BSS, instead it was interpreting the conditions correctly and strictly. And the High Court correctly endorsed the Union’s interpretation of the conditions provided in the BSS. The High Court also adopted a reasonable approach to the dispute and observed that there was no discernible ambiguity in the conditions specified in the BSS. The High Court rejected the petitioner’s claim by holding that the petitioner was adopting a generalised approach while the conditions mentioned in the BSS were specific and clear that did not allow for an interpretive approach adopted by the petitioners to support their claim of tax exemption.    

Conclusion

The High Court’s decision is a successful attempt to adhere to strict interpretation of tax statutes. At the same time, the High Court was clear in its understanding of the scope and aim of BSS. It clarified that the budgetary support is conditional and not a blanket support; to be eligible for BSS, a taxpayer needs to meet the conditions so specified. (para 27) Discounting the need for liberal interpretation of the relevant conditions, the High Court stated that the eligibility was clearly mentioned and rightly concluded that the decision to not extend BSS benefits to the petitioner did not suffer from the vice of illegality or arbitrariness. (paras 49 and 52)           


[1] M/S Best Crop Science Industrial Area, Kathua v Union of India and others 2023 LiveLaw (152).

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