The Doctrine of Mutuality

The doctrine of mutuality finds its origin in common law. One of the earliest modern judicial statements of the mutuality principle is by Lord Watson in the House of Lords, in 1889, in New York Life Insurance Company v. Styles (Surveyor of Taxes), (1889) LR 14 AC 381. The appellant in that case was an incorporated company. The company issued title policies of two kinds, namely, participating and non-participating. The members of the mutual life insurance company were confined to the holders of the participating policies, and each year, the surplus of receipts over expenses and estimated liabilities was divided among them, either in the form of a reduction of future premiums or of a reversionary addition to the policies. There were no shares or shareholders in the ordinary sense of the term but each and every holder of a participating policy became ipso facto a member of the company and as such became entitled to a share in the assets and liable for a share in the losses. The company conducted a calculation of the probable death rate amongst the members and the probable expenses and liabilities; calls in the shape of premiums were made on the members accordingly. An amount used to be taken annually and the greater part of the surplus of such premiums, over the expenditure referable to such policies, was returned to the members, i.e. (holders of participating policies) and the balance was carried forward as a fund in hand to the credit of the general body of members. The question was whether the surplus returned to the members was liable to be assessed to income tax as profits or gains. The majority of the Law Lords answered the question in the negative.
It may be notice that in Styles Case, (1889) LR 14 AC 381, the members had associated themselves for the purpose of insuring each other’s life on the principle of mutual assurance, that is to say, they contributed annually to a common fund out of which payments were to be made, in the event of death, to the representatives of the deceased members. Those persons were alone the owners of the common fund and they were alone entitled to participate in the surplus. This surplus was obtained partly from the profits arising from non-participating policies and other business. It was held that that portion of the surplus which arose from the excess contributions of the holders of participating policies was not an assessable profit. The individuals insured and those associated for the purpose of receiving their dividends and meeting other stipulated requisites under the policies were identical. It was held that that identity was not destroyed by the incorporation of the company.
Lord Watson even went to the extent of saying that the company in Styles Case, (1889) 4 LR 14 AC 381 did not carry on any business at all, which perhaps was stating the position a little too widely as pointed out by Viscount Cave in a later case, Jones (Inspector of Taxes) v. South-West Lancashire Coal Owner’s Association Limited, 1927 AC 827 (HL), but be that as it may all the noble Lords who formed the majority were of the view that what the members received were not profits but their respective shares of the excess amount contributed by themselves. They held thus:
“When a number of individuals agree to contribute funds for a common purpose and stipulate that their contributions, so far as not required for that purpose, shall be repaid to them, I cannot conceive why they should be regarded as traders, or why contributions returned to them should be regarded as profits.”
Lord Watson’s statement was explained by the House of Lords in Cornish Mutual Assurance Company Ltd. V. IRC, 1926 AC 281, wherein it was held that a mutual concern may be held to carry on a business or trade with its members, though the surplus arising from such trade is not taxable income or profit.
The High Court of Australia first considered the mutuality principle in Bohemians Club v. Acting Federal Commissioner of Taxation, (1918) 24 CLR 334 (Aust) :
“A man is not the source of his own income….A man’s income consists of moneys derived from sources outside of himself. Contributions made by a person for expenditure in his business or otherwise for his own benefit cannot be regarded as his income. The contributions are, in substance, advances of capital for a common purpose, which are expected to be exhausted during the year for which they are paid. They are not income of the collective body of members any more than the calls paid by members of a company upon their shares are income of the company. If anything is left unexpended it is not income or profits, but savings, which the members may claim to have returned to them.”
One of the first Indian cases that dealt with the principle was CIT v. Royal Western Indian Turf Club Ltd., AIR 1954 SC 85. It quoted with approval three conditions stipulated in English & Scottish Joint Coop. Wholesale Society Ltd. V. CIT , (1947-48) 75 IA 196: AIR 1948 PC 142, which were propounded after referring to various passages from the speeches of different Law Lords in Styles Case, (1889) LR 14 AC 381. It was held as follows:
“From these quotations it appears that the exemption was based on (1) the identity of the contributors to the fund and the recipients from the fund, (2) the treatment of the company, though incorporated, as a mere entity for the convenience of the members and policy-holders, in other words, as an instrument obedient to their mandate, and (3) the impossibility that contributors should derive profits from contributions made by themselves to a fund which could only be expended or returned to themselves.” Bangalore Club v. CIT, (2013) 5 SCC 509.


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Filed under Doctrine of Mutuality, Tax

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