Corporate Social Responsibility (CSR) in India – Whether an Innovative Legislation & Its consequences?

Corporate Social Responsibility (CSR) in India – Whether an Innovative Legislation & Its consequences?

blog

Jun 09

2019

Posted by: CS Shilpi Thapar

The concept of mandatory Corporate Social Responsibility (CSR) is arrived from the term “Good Corporate Citizenship “ which connotes the extent to which businesses are socially responsible for meeting legal, ethical and economic responsibilities placed on them by stakeholders. The aim is for businesses to create higher standards of living and quality of life in the communities in which they operate, while still preserving profitability for stakeholders. The scale of good corporate citizenship in a country’s businesses is a reflection of its good individual citizens. In order to control the business corporate who believe in taking short-cuts to satisfy their ambitions of making quick profits at the cost of exploiting natural resources and people, engage in corruption practices and offers bribes and kickbacks, prefer paying fines rather than complying with statutory legislative provisions, the government has come up with this mandatory legislated provision of Corporate Social Responsibility as per Section 135 read with Companies (Corporate Social Responsibility Policy) Rules, 2014 & Schedule VII.

CSR in other Countries:

1. In Mauritius, all corporate even banks, trusts and societies has to follow mandatory CSR provision i.e contributing 2% CSR tax. They made CSR mandatory since 2009.
2. In Indonesia CSR is mandatory since 2007.
3. In Philippines, large tax payers fall within the CSR provision.
4. In UK also, corporates including subsidiaries , based on a monetary threshold has to comply with mandatory CSR provision.
5. In Saudi Arabia, the Companies are required to pay amounts “equal to 2.5% of income and capital” to the revenue department, which will then distribute the amounts to the needy around the country. Revenues are collected by the Department of Zakat, governmental organization and distributed to needy and poor people across the country. A Zakat payment made of listed companies has to be disclosed and filed with the Capital Market Authority (the Saudi Version of the SEC).
6. United States: The Conglomerate Blog has reported on recent amendments to the Oregon Corporate Code that requires companies to act in an environmentally and socially responsible manner. It says:“Oregon recently amended its Corporate Code which expressly permit corporations to include in their charter a provision authorizing or directing the corporation to conduct its business “in a manner that is environmentally and socially responsible.” The legislative history of the amendment notes that courts in other jurisdictions have interpreted corporations’ obligation to act in shareholders’ interest to mean that corporations must maximize shareholder profit, even if it results in a corporate failure to act environmentally and socially responsible. Apparently the amendment is designed to counteract this kind of interpretation, and encourage corporations to engage in sustainable behavior.”
7. China: Even the recent Company Law of the People’s Republic of China, enacted in 2005, has a set of obligations on companies that amount to corporate social responsibility. For example, Article 17 states:“A company shall protect the legal rights and interests of its employees, enter into labor contracts with them according to law, take part in social insurance, improve labor protection and make production safe.A company shall take various measures to improve the professional education and on-the-job training of its employees so as to enhance their quality.”

Further, there already are mandatory CSR reporting requirements in several countries, including Sweden, Norway, the Netherlands, Denmark, France and Australia. Triple botton line Reporting by the corporates should be made mandatory in all countries. The triple bottom line consists of social equity, economic, and environmental factors. “People, planet and profit” concisely describes the triple bottom lines and the goals of sustainability.

Key Provisions of Section 135 read with Companies (Corporate Social Responsibility Policy) Rules, 2014 & Schedule VII:

1. The Companies (Corporate Social Responsibility Policy) Rules, 2014 has come into force with effect from 1st April, 2014.

2. It is mandatory for every company (listed , unlisted public or private, holding, subsidiary and foreign) complying any one of the following conditions:

a.Turnover of more than Rs.1000 crore
b. Networth of more than Rs. 500 crore
c. Net Profit of more than Rs. 5 crore

to follow provisions of section 135 and CSR Policy Rules, 2014.

3. Any company fulfilling any of the above stated criteria needs to do following compliances w.e.f 1st April,2014:

a. Constitute Corporate Social Responsibility Committee of the Board consisting of three or more directors out of which at least one director shall be an Independent Director. Unlisted and Private Limited companies are not required to appoint an Independent Director in its CSR committee if it doesnot fulfil any of the criteria specified u/s. 149(4) of the CA, 2013 i.e Having 1. paid share capital of Rs. 10 crore or more, 2. Turnover of Rs. 100 crore or more and 3. Outstanding loan or borrowing, debentures or deposits of Rs. 50 crore or more and can form CSR Committee without such director and private limited company having only 2 directors on its board shall constitute its CSR Committee with 2 such directors.

b. Corporate Social Responsibility Committee shall have following roles:

– Formulate and recommend to the board, a CSR Policy which shall indicate the activities to be undertaken by the company as specified in schedule VII, specify the modalities of execution of such project or programs and implementation schedules for the same and monitoring mechanism of such projects or programs and specify that the surplus arising out of CSR projects or programs shall not form part of the business profit of the company;
– Recommend the amount of expenditure to be incurred on the activities referred to in clause (a); and
– Monitor the CSR policy of the company from time to time.

c. The Board of every company shall approve the suggestions of the committee in CSR policy and disclose the constitution of committee and contents of CSR policy in its Board Report and also place it on the company’s website, if any.

d. The board and every company shall ensure that the company spends, in every financial year, at least two percent of the average net profits of the company made during the three immediately preceding financial years, in pursuance of its corporate social responsibility policy: provided that the company shall give preference to the local area and areas around it where it operates, for spending the amount earmarked for CSR activities and if board fails to spend such amount, the board shall, its board report specify the reasons for not spending the amount.

e. If any company ceases to be a company covered under section 135(2) to 135(5) of the CA, 2013, for three consecutive financial years, it shall not be required to constitute CSR committee and to follow any provisions of section 135(2) to 135(5) till such time it meets the criteria specified in section 135(1).

f. The Board of a company may decide to undertake its CSR activities approved by the CSR committee through a registered trust or a registered society or a company, foundation established by the company or its holding or subsidiary or associate company under section 8 of the Act or otherwise:- Provided that

– If such trust, society or company is not established by the company or its holding or subsidiary or associate company, it shall have a established track record of three years in undertaking of similar programs or projects;
– The company has specified the projects or programs to be undertaken through these entities, the modalities of utilisation of funds on such projects and programs and the monitoring and reporting mechanism.

g. A company may also collaborate with other companies for undertaking projects or programs or CSR activities in such a manner that the CSR committees of respective companies are in a position to report separately on such projects or programs.

h. The CSR projects or programs or activities undertaken in India only shall amount to CSR Expenditure. Any CSR expenditure incurred outside India will not counted as CSR activity contribution.

i. Any contribution directly or indirectly to any political party shall not amount to CSR Expenditure.

j. The CSR projects or programs or activities that benefit only the employees of the company and their families shall not be considered as CSR activities in accordance with section 135 of the Act.

k. CSR activities does not include the activities undertaken in pursuance of normal course of business of a company;

l. CSR Expenditure shall not include any expenditure on any item not in conformity with activities which fall within the preview of Schedule VII of the Act.

m. Board Report for respective financial year should make following disclosures on CSR Activities:

– A brief outline of the company CSR policy including overview of projects or programs proposed to be undertaken and a reference to web-link to the CSR Policy and projects or programs.
– The Composition of the CSR Committee
– Average Net profits of the company for last 3 financial years
– Prescribed CSR Expenditure i.e 2 percent of the amount of Average net profits of the company for last3 financial years.
– Details of CSR spent during the year i.e total amount to be spent for the financial year, amount unspent if any, and manner in which the amount spent during the financial year
– In case company has failed spent 2 percent of its average net profits of last 3 financial years or any part thereof, the company shall provide the reasons for not spending the amount in its board report.
– A responsibility statement of the CSR committee that the implementation and monitoring of CSR Policy, is in compliance with CSR objectives and Policy of the Company.

n. The said annual report on CSR activities to be included in Board Report as referred above shall be signed by 1. CEO/MD or Director, 2. Chairman of CSR Committee and in case of foreign company, by person specified under section 380(1)(d) of the CA, 2013.

o. The list of 10 CSR activities as specified in Schedule VII is as under:

– Eradicating hunger, poverty and malnutrition, promoting preventive health care and sanitation and making available safe drinking water;
– Promoting education, including special education and employment enhancing vocation skills especially among children, women, elderly, and the differently abled and livelihood enhancement projects;
– Promoting gender equality, empowering women, setting up homes and hostels for women and orphans; setting up old age homes, day care centres and such other facilities for senior citizens and measures for reducing inequalities faced by socially and economically backward groups;
– Ensuring environmental sustainability, ecological balance, protection of flora and fauna, animal welfare, agroforestry, conservation of natural resources and maintaining quality of soil, air and water;
– Protection of national heritage, art and culture including restoration of buildings and sites of historical importance and works of art; setting up public libraries; promotion and development of traditional ans and handicrafts;
– Measures for the benefit of armed forces veterans, war widows and their dependents;
– Training to promote rural sports, nationally recognised sports, paralympic sports and Olympic sports;
– Contribution to the Prime Minister’s National Relief Fund or any other fund set up by the Central Government for socio-economic development and relief and welfare of the Scheduled Castes, the Scheduled Tribes, other backward classes, minorities and women;
– Contributions or funds provided to technology incubators located within academic institutions which are approved by the Central Govemment;
– Rural development projects.

 Making CSR Mandatory : Key Challenges & Consequences:

1. If we analyse the definition of CSR given in Companies ( Corporate Social Responsibility policy), 2014, CSR is not defined in detail but only includes list of Projects/ programs specified in schedule VII of the Act which will be considered as CSR activities. It is a vague legal definition.

2. If we do the strict reading of above provisions under Section 135 and rules thereto, it can be concluded that CSR is not required to be followed by business entities such as limited liability partnerships and partnerships which are also profit making business entities. Such entities should also be covered. If not covered , it will give rise to more corruption.

3. It is also evident from the provisions that it is based on the principle of “ Comply or Explain”. It is one of the most debatable issue as to whether any penal consequences will be attracted on failure to spend, or an explanation in the directors will be sufficient. It is provided in the section 134(8) that if a company contravenes the provisions of non disclosure of details about the policy developed and implemented by the company on CSR initiatives taken in the year, the company shall be punishable with pecuniary fine and every officer who is in default shall be punishable with a imprisonment or fine or both. Hence, it seems that CSR spending is non mandatory provision while CSR reporting in Board Report is a mandatory provision. This doesnot seems to solve the purpose of regulation.

4. Further, there is no clarification in the Act /Rules on what shall be the legally warranted, valid reasons given by directors which shall be acceptable for not spending on CSR activities.

5. It will be heavy burden on the companies which are not earning profits but having triggering networth or turnover. Moreover, when the companies are incurring losses , it will be a heavy burden on them.

6. Under the current income tax law, the CSR spending cannot be treated as expenditure. It will be part of profit and attract taxes. As per rule 7 of CSR Rules, CSR expednditure doesnot include any expenditure on an item not in conformity or not in line with activities which fall within the preview of Schedule VII of the Act. As per the current Income law, unless expenditure is in the course of the business of the company, the same is disallowed and the question may arise as to whether CSR expenditure is incurred in the course of the business of the company or not. Income Tax Act needs to be changed in conformity with these provisions in order to avoid disputes.

7. Mandatory CSR Expenditure is one kind of corporate tax. The corporate tax rate in India is 32.45 percent—already one of the highest, compared to a global average of 24.09 percent, according to KPMG. Now, if again corporate needs to spend 2 % of their net profits every year, many foreign investors shall think twice before investing in India.

8. Only Board and CSR Committee shall act as Monitoring Mechanism. They shall be responsible for CSR spending in a effective way and in compliance with the provisions of the section 135 and rules made thereunder. Regulators should come out with strict monitoring mechanism for purposeful tracking of flow of funds during the implementation of this provision.

9. Under the CSR rules, it is specified that companies can to undertake its CSR activities approved by the CSR committee through a registered trust or a registered society or a company, foundation established by the company or its holding or subsidiary or associate company under section 8 of the Act or otherwise, Provided that If such trust, society or company is not established by the company or its holding or subsidiary or associate company, it shall have a established track record of three years in undertaking of similar programs or projects. The company has specified the projects or programs to be undertaken through these entities, the modalities of utilisation of funds on such projects and programs and the monitoring and reporting mechanism.

Mostly, NGO’s, Trust, or associates, are not having wider public accountability and access. Holding or Subsidiary or Associates companies are only accountable to their shareholders. There are chances that CSR spending may not be done in systematic and democratic manner. So instead, CSR activities should be carried on by the corporates through more government controlled organisations, NGO’s and Trusts to have more transparency and accountability.
10. Such type of provisions cannot be imposed on anybody. It should be in DNA of Corporates and board of directors to perform certain social activities for the benefit of the society at large. You cannot force somebody to become good citizen and contribute to the society by imposing statutory restrictions. Rather, to encourage such type of CSR activities, government should reward the corporates if they spend on CSR activities instead of penalizing them for not complying with CSR provisions.

Due to increased stakeholder’s activism, Investors, stakeholders who find out that company is not good corporate citizen and doesnot adopt good corporate citizenship practices could shun its products or services, refuse to invest in its stock or speak out against that company among family and friends causing reputation risk to the company. It’s a high time for corporate to be “Socially Responsible” for sustainable development.

I wrap up my views with my favourite statement by by Niall Fitzgerald, Former CEO and Chairman, Unilever:
“We believe that the leading global companies 2020 will be those that provide goods and services and reach new customers, in ways that address the world’s major challenges-including poverty, climate changes, resource depletion, globalization and demographic shifts.”

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