Charitable and religious trusts play a major role in India’s social and economic development. To ensure transparency, the Income Tax Act provides a specific framework for their registration, taxation, audit, and compliance requirements. This article offers a complete and practical guide on how trusts are taxed under Sections 11 to 13, including rules for application of income, investments, corpus, business income, anonymous donations, capital gains, exit tax, and audit requirements.
1. What is a Trust?
A trust is a legal arrangement where property is transferred by a settlor to trustees for the benefit of beneficiaries and fulfillment of specified charitable or religious objectives.
Types of Trusts
- Charitable Trusts
- Religious Trusts
- Private Trusts
- Partly Public & Partly Private Trusts
Tax relief is provided mainly to charitable and religious trusts registered under the Act.
2. Meaning of Charitable Purpose – Section 2(15)
A charitable purpose includes:
- Relief of the poor
- Education
- Yoga
- Medical relief
- Preservation of environment and monuments
- Advancement of any other object of general public utility (GPU)
Restriction
If a trust involved in GPU carries on trade/commerce/business, such receipts must not exceed:
20% of the total receipts
If the limit is crossed, exemption is not available for that year.
3. Conditions for Claiming Exemption
To claim exemption under Sections 11 and 12, a trust must:
✔ Be registered under Section 12AB
✔ Apply at least 85% of income for charitable or religious purposes in India
✔ Maintain books of accounts
✔ Submit audit report where applicable
✔ Invest funds only in approved modes specified in Section 11(5)
✔ Not give undue benefit to specified persons (Section 13)
4. Income Exempt Under Section 11
The following income of a registered trust is eligible for exemption:
- Voluntary contributions
- Income from property held under trust
- Income from business incidental to charitable objectives
- Capital gains (if reinvested as required)
5. Application of Income
Trusts must apply minimum 85% of their income during the financial year.
If Application is Less Than 85%
The shortfall can be:
- Accumulated for up to 5 years, and
- Secured through proper filing before the return due date
Funds accumulated must be invested in instruments listed in Section 11(5).
6. Approved Investment Modes – Section 11(5)
Permitted investment options include:
- Government securities
- Bank deposits
- Units of UTI
- Savings certificates
- Specified bonds
- Immovable property
Investments outside these modes lead to withdrawal of exemption.
7. Application from Borrowed Funds
If a trust spends from loans:
- Such expenditure is considered as application in the year of spending
- Repayment of loan in future years is not again treated as application
8. Corpus Donations – Section 11(1)(d)
Corpus donations are:
- Fully exempt
- Allowed only when received with a specific written direction from the donor, and
- Required to be invested in instruments specified under Section 11(5)
If corpus funds are spent, application is allowed only when the corpus is subsequently restored.
9. Business Income of Trust
A trust can carry out a business activity, but exemption continues only if:
✔ The business is incidental to the trust’s main objective, and
✔ Separate books of accounts are maintained
Otherwise, such income becomes taxable.
Examples
- Sale of books by an educational trust
- Medical pharmacy operating inside a hospital
10. Anonymous Donations – Section 115BBC
Anonymous donations are taxable at:
30% (plus applicable surcharge and cess)
Where applicable:
- Religious trusts: Exempt
- Charitable trusts: Taxable
- Mixed institutions: Religious portion exempt, other portion taxable
Anonymous donation means the identity and address of the donor is not recorded.
11. Capital Gains – Section 11(1A)
Capital gains on sale of trust property are exempt if:
- The net consideration is fully reinvested in another capital asset
If only part is reinvested:
Exemption = Amount applied – Cost of original asset
12. When Exemption is Denied – Section 13
Exemption is withdrawn if:
A. Funds benefit specified persons
Such persons include:
- Trustees
- Author/Settlor
- Major donors (contributing ₹50,000 or more)
- Relatives of the above
- Entities in which they hold substantial interest
B. Investments made outside Section 11(5)
C. Income used for private benefit
D. Business carried on without separate accounts
In such cases, only the part of income related to violation becomes taxable.
13. Exit Tax on Trusts – Section 115TD
Exit tax applies when:
- Registration is cancelled
- Trust converts to a non-charitable entity
- Fails to transfer assets to another registered trust
- Trust merges with an unregistered institution
Tax is levied at Maximum Marginal Rate on:
Fair Market Value of Assets – Liabilities
This tax is payable immediately along with filing of the required return.
14. Mandatory Audit – Section 12A
Audit is compulsory when:
Total income of the trust (before claiming exemption) exceeds the basic exemption limit
Audit Report
- Must be furnished in Form 10B or 10BB
- Submitted before filing the return of income
Audit ensures:
- Correct application of funds
- Investment compliance
- Proper accounting of donations
- No violation of Section 13
15. Key Points for Compliance
Auditor and management should ensure:
✔ Valid 12AB registration
✔ 85% application requirement followed
✔ Funds invested only in approved modes
✔ Proper documentation of donors
✔ Details for accumulation filed on time
✔ Separate books for incidental business
✔ No undue benefit to related parties
✔ Correct reporting in Form 10B/10BB
Conclusion
Charitable trusts enjoy substantial tax exemptions under the Income Tax Act, provided they maintain transparency, follow investment rules, apply funds appropriately, and adhere to audit and reporting requirements. Proper compliance not only protects the trust from tax exposure but also strengthens credibility, accountability, and long-term sustainability of its charitable activities.
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