Facts: The ex-Ruler of Gondal ,Shri Vikramsinhji executed three deeds of settlements (trust deeds) in the United States of America (USA), in 1963 and two deeds in the United Kingdom (UK), in 1964, all executed in identical terms for the benefit of the settler and the members of his family.  The settler and post settler’s death, the assessee (the eldest son of Vikramsinhji), were declaring the entire trust’s income as taxable in India for initial years up to AY.1970-71. Post AY.1970-71, the assessee took the stand that, the income of the trusts need not be subject to tax in the hands of the taxpayer and no income was reported thereafter. The assessee also took the stand that, declaration of income for previous years was a mistake.

 

The assessee then, approached the Settlement Commission with an application for settlement relating to income from the UK trusts and the US trusts. The Settlement Commission held that the US trusts were discretionary, but the UK ones were specific and therefore, its income is liable to tax in the hands of the assessee in India. Against Settlement commission’s order the taxpayer preferred an appeal to the Supreme Court of India (SC). The Supreme Court observed that, both the settlor and the Shri Vikramsinhji have been receiving the income from these trusts during the several assessment years. It would have been unlikely that, they would have so included them unless it were really received. Hence the SC held that USA trusts were discretionary and since the assessee himself had declared the income with regard to UK trusts, the question was more of academic in nature and did not decide on it.

 

The eight appeals before the Supreme Court related to income tax assessment years 1984-85 to 1991-92.

 

For subsequent years post AY 1970-71, the taxpayer put a note to his Statement of Income stating that the UK and the US trusts were discretionary, and no remittances were made by the trusts to the taxpayer. The Assessing Officer (AO), however passed an order taxing the income of the trusts in the hands of the taxpayer like the previous years. On appeal, CIT(A) held that, US trusts were discretionary trust whereas UK trusts were specific trusts.

 

The Tribunal, relying on the previous orders by the Settlement Commission and the Supreme Court of India in its support, held that the disputed UK trusts were specific trusts especially due to clauses 3(2) and 4 of the UK trust deeds and further held that, even assuming the UK trusts were discretionary, such income of the trusts were taxable in the hands of the assessee as per section 166 of the Income-tax Act, 1961 which allows to tax the income of the trust in the hands of the trustee or the beneficiary.

 

On appeal by the taxpayer against the order of the ITAT to the Gujarat High Court (HC), the HC held that section 166 of the Act can be invoked only when the income of the trust is received by the assessee, who is the beneficiary to the trust. The HC noted that, when no remittance was made by the UK trusts and that the entire income was retained by it and not distributed, such income cannot be taxable in the hands of the taxpayer in India. Further, the HC noted that Revenue had not produced any documents to establish that the taxpayer had received income from the UK trusts. Whereas, the taxpayer had produced statements from the trust to the effect that the income had been retained by trust and not distributed to the assessee. Therefore, the court held that, no income is taxable in the hands of the beneficiary/ assessee. Aggrieved by the order of the High Court the Revenue preferred an appeal to the Supreme Court.

 

Issue: Whether income was taxable in the hands of the beneficiary given the fact that no income was distributed by the trust.

 

View: The Supreme Court observed that for the assessment years under consideration, the High Court noted the following distinguishing features, namely,

(i) the assessee has not admitted having received the income,

(ii) the assessee has not received the said income, and

(iii) the assessee has not shown as taxable income in the returns of all the years under appeal.

 

Having observed these distinguishing features, the High Court was also of the view that, on interpretation of the relevant clauses of the deeds of settlement executed in UK, character of the trusts appears to be discretionary and not specific.

 

The Supreme Court was of the view that a discretionary trust is one which gives a beneficiary no right to any part of the income of the trust property, but vests in the trustees a discretionary power to pay him, or apply for his benefit, such part of the income as they think fit. The trustees must exercise their discretion as and when the income becomes available, but if they fail to distribute in due time, the power is not extinguished so that they can distribute later. They have no power to bind themselves for the future. The beneficiary thus, has no more than a hope that the discretion will be exercised in his favour.

 

Held: The Supreme Court upheld the Gujarat High Court’s view (based on Snell’s Principles of Equity) that, the trusts were discretionary and not specific. The Court observing the fact that the income has been retained and not disbursed to the beneficiaries, held that the view taken by the High Court cannot be said to be legally flawed. Merely because the Settlor and after his death, his son did not exercise their power to appoint the discretion exercisers, the character of the subject trusts does not get altered. Considering the facts, Supreme Court held that, the two UK trusts continued to be ‘discretionary trust’ for the assessment years. This position regarding the discretionary trust was equally applicable to the controversy in appeals under the Wealth-tax Act. The High Court took correct view that the value of the assets cannot be assessed on the estate of the deceased Settlor. Department appeals were thus dismissed.  (AY. 1970-71 to 1976-77 and 1978-79 to 1989-90) (CA Nos. 2312 of 2007/329 of 2009 / 200 to 2004 / 199 /198 & 2158 of 2010 / 4561 /4562 /4564 to 4568 of 2014 dt 16 -04 -2014)

 

Editorial: The principal laid down in is that, if the deeds state that, trustee has discretionary powers to distribute trust’s income, that is enough to say that the trusts are discretionary, and also that if the trustee did not exercise his power to distribute the income among the beneficiaries, doesn’t mean that his power is extinguished and he can do it later on. Further the following judgements should have followed in the case of Deepak B Shah [2019] 174 ITD 237 (Mumbai).  Also refer the Supreme Court decision in the case of CIT v Smt. Kamalini Khatau [1994] 209 ITR 101 (SC)

“It is health that is real wealth and not pieces of gold and silver.”

– Mahatma Gandhi