TDS not to be deducted from interest paid to members of co-oprative banks

Subject : Income Tax Law

Month-Year : Oct 2002

Author/s : M. V. Purandare Chartered Accountant

Topic : TDS not to be deducted from interest paid to members of co-oprativebanks

Article Details :

1.1 Introduction : As per recent circular No. 9/2002 dated 11-9-2002, issued byCBDT (Central Board of Direct Taxes) it has been clarified amplyclearly that a member (i.e. shareholder) of a co-operative bankshall receive interest on deposits (fixed and recurring) with bankwithout deduction of tax (TDS) u/s.194A by virtue of theexemption granted vide clause (v) of Ss.(3) of the said Section. To analyse the implication of the said clarification, first let us tryto understand the relevant provision of S. 194A of the Income-tax Act, 1961. The Section deals with interest other than‘Interest on securities’

a Interest received on fixed deposits from companies/banks isexempt to the extent of Rs.5000 (Rupees five thousand only). Itmeans that income credited or paid by a branch of the companyor the co-operative society or public company upto Rs.5000 iswithout deduction of tax at source.

b The Section casts the responsibility on some specified personswho have to deduct the tax from the payee’s interest and pay itto the government.

c The Section also lists down the exemption criteria for certainentities for which the provisions of this Section shall not apply.

The above issued circular is based on one such exemptioncriteria which Ss.(3) talks about. Ss.3(v) provides : The provision of Ss.(1) shall not apply :

(v) to such income credited or paid by a co-operative society to a member thereof or to anyother co-operative society.

Ss.(viia)(b) : to such income credited or paid in respect of —deposits (other than time deposits made on or after the 1st dayof July, 1995) with a co-operative society engaged in carrying onthe business of banking. The Section explains that time deposits means deposit(excluding recurring deposits) repayable on the expiry of fixedperiods. Let us try to interpret the circular in plain language andunderstand its implication.

Criteria for becoming a member :

The principal issue to be considered in this background is who

can be called a member of a bank. The circular gives us some insight in cracking the above; it says: A member eligible for exemption u/s.194A(3)(v) must havesubscribed to and fully paid for at least one share of the co-operative bank, must be entitled to participate and vote in theGeneral Body Meetings and/or Special General Body Meetings ofthe Co-operative bank and must be entitled to receive sharefrom the profits of the co-operative bank.

As usual, the explanation is long and cumbersome; let’s dissectit for ease of our understanding. There are three aspects in theabove explanation :

1. A person should have subscribed to at least one share of thebank. But one must not rush to infer that mere application forsubscription will be qualifying factor, as the word ‘fully paid for’is important. Hence, the person should hold at least one fullypaid share in the issued capital of the bank. It means mereapplication or subscription is not enough. Minimum face value ofthe share is immaterial. There are some cases in co-operativesector which are in litigation over the issue of membership, i.e.Subscription form has been received but issue of shares has notbeen made. Considering the explanation we can say that suchcases will not be covered in the above ambit of the circular andhence such persons will not be qualified for the exemption.

2. It’s not over by the fact that person is holding one fully paidshare out of the issued capital. The shareholder should have theright to participate and vote in the General Body Meetings and/orSpecial General Body Meetings of the co-operative bank. Thus,mere holding of share is not enough. The important part tounderstand is the circular does not differentiate in some types ofshares, or does not spell out the nomenclature about the kind ofshare capital. All it says is that the share should bestow the righton its holder to participate and vote in the general body meeting.Hence voting right is the important criteria to be considered.

3. The other condition, which has been imposed, is that suchholder must be entitled to receive share from the profits of theco-operative bank. In simple language, right to receive dividendor other benefits distributed from profits of the bank.

One may conclude that in order to be a member (shareholder)the holder should have clean title to its holding, it must not beloaded with any charge which goes against the spirit of aboveexplanation nor should it have some restrictions put over it whichare in conflict with the terms mentioned under the circular

Issue about other form of members :

A question has also been raised as to whether nominalmembers, associate members and sympathiser members arealso covered by the exemption. It has been clarified that theexemption is available only to such members who have joined inapplication for the registration of the co-operative society andthose who are admitted to membership after registration inaccordance with the bye-laws and rules. To put it simply, onehas to consider the above 3 points we have dis-cussed, only

persons managing to fulfil all the above conditions are entitled toenjoy the benefits. There is normal practice in these banks tomake guarantors of loan or loan applicants as nominalmembers. It must be understood that such members are noteligible for such exemption.

Implication/benefits :

1. After we have considered about the issue of member, oneshould understand the benefits that a person will enjoy for beinga member of a co-operative bank. Till date members wererequired to submit Form No. 15H to the banks beforehand if theywant that Interest on Fixed deposits should be received withouttax being deducted on the same or in other cases claim refundfrom the Department (if applicable) after tax being deducted.Hence, unnecessary procedures were required to be followed.Now with issuance of this circular, member is entitled to receiveinterest on all deposits i.e. fixed deposits and deposits other thanfixed deposits (like recurring deposits) upto any amount with-outTDS. This will particularly help the senior citizens who haveinvested large amount of their retirement benefits in such bank.Now they do not have to undergo any administrative procedureand can claim full interest with-out tax being deducted at source.Thus in this falling interest scenario they do not have to suffermore.

2. Another benefit to any member now accrues is that themember need not have to split the FDs in various branches justto avoid the tax being deducted at source. In doing so, he in turncreates himself a job to manage and track all those receipts.The amended section stipulates the upper threshold for non-deduction of tax as Rs.5000 (Rs.10,000 before). As the Sectionsays that the limit has to be considered branchwise, manydepositors employ this ploy of splitting the principal amountamong various branches of the banks so as to manage theescape route. All this can end now, and a member can safelykeep the deposits in one branch, and hence need not do thejugglery act of shifting between the branches.

3. The banks in turn are also relieved from the job of managingthe Form 15H and also to handle the hot queries if tax is beingdeducted and what not. Hence, these co-operative banks canheave a little sigh of relief. Also another angle to this issue is, inthe present economic scenario, lot of dust has been raised overthe credibility of the co-operative banks, and common public inlarge is now looking at these banks with some dark glasses; thiscircular may come as a welcome relief to these banks as well. Inthe recent past common man was in the mood of pooling someof the deposits to nationalised banks accepting the low interestrates but was somewhat thinking from security angle. The co-operative banks were also forced to keep the deposit rates muchlower compared to past to stay in present intense competitionand hence the rate difference between the nationalised and co-operative banks was not much. Now, these banks can haveanother edge over their big brother. For other new banks, it willbe easy to raise further share capital and strengthen the balancesheet and also to comply with Reserve Bank capital adequacynorms as well.

Thus the long-standing legal battle will now hopefully come torest with release of this particular circular. It has been anunexpected gain to lot of depositors (i.e. members/share-holders) who were burdened with budget provisions and fallinginterest rate regime. One can conclude by saying that they havegot what was their right. Hence, smile now, CBDT has saidcheese . . . . . . .

Ref. : 1. [2002] 124 Taxmann 38. 2. Income-tax Act, 1961 — Relevant Sections.