By Lalit Kumar

Corporate social responsibility (CSR) involves conducting business in a way that contributes to social good. Globally, there are efforts to set standards for businesses to follow – triple bottom line (people, planet, profits or prosperity), corporate citizenship, shared value, and inclusive growth.In notifying(i.e., giving effect to)Section 135 of the Companies Act, 2013 and Schedule VII of the Act, India has made a policy commitment to engage business more directly in contributing to equitable economic development and other social good.

Lawyers for corporations, NGOs and marginalized communities are preparing to advise clients and report on the expected investment of energy and financial support for wide-ranging CSR activities including social, environmental issues and protection of national heritage, art and culture.

Overview of the “2% CSR” Provisions

The CSR provisions are effective from April 1, 2014.Companies which meet one of the criteria as provided in section 135 of the Companies Act, 2013 will require compliance with the CSR provisions.Foreign companies with a branch office or project office in India will also need to comply with the CSR requirements if they fall within any of the criteria under section 135.

Such companies will need to constitute a CSR committee with at least three directors. Since a private limited company is required to have a minimum of only two directors, such private companies are exempted from having three directors on the CSR committee and can have only two directors. One of the three directors on the CSR committee has to be an independent director. Companies which are not compulsorily required to have independent directors on their board are exempted from the requirement of having an independent director on the CSR committee. The board of directors’ report will have to disclose the composition of the CSR committee.

Each CSR committee will have to frame a CSR policy recommending the amount to be incurred on CSR activities. The CSR policy must be approved by the board of directors.  Thecontents of such policy must be disclosed in the board of directors’ report in the format prescribed in the annexure to the CSR Rules and on the company’s website, if any.

The amount to be spent has to be atleast 2% of the average net profits made during the three immediately preceding financial years, giving preference to the local areas of its operations. While calculating the profit for the purposes of CSR contribution, neither the profits earned from overseas branches of an Indian company nor the dividend received from other Indian companies must be included, provided those Indian companies are covered and comply with Section 135. Expenditure incurred in India will only qualify.Expenditure incurred exclusively for the benefit of employees of the company and their families is excluded.

The CSR activities to be undertaken by the companies have to be within the purview of Schedule VII, which lists all the permitted CSR activities. Therefore, any expenditure on activities not permitted in Schedule VII will not qualify as CSR expenditure. The existing CSR programs and activities of companies will need to be aligned with the permitted Schedule VII activities. Further, activities undertaken in pursuance of company’s normal course of business are excluded.

CSR activities may be undertaken through a registered trust or a registered society or a non-profit company established by the company or its holding or subsidiary or associate company.  However, any trust, society or company not established by the company or its holding or subsidiary or associate company should have a minimum track record of 3 years in undertaking CSR programs.

Collaborationon CSR activities with other companies is permitted provided the CSR committees of respective companies separately report their CSR projects or programs.Political contributions shall not be considered as CSR activity. Companies can build CSR capacities of their own personnel provided the expenditure shall not exceed 5% of the total CSR expenditure of the company in a financial year.

The tax treatment, that is, whether or not CSR contribution mayl be deducted as business expenditure is still not clear. Those CSR activities in Schedule VII for which there is already a tax deduction available in Income Tax Act, 1961, for example, contribution to the Prime Minister’s National Relief Fund, are eligible for that exemption. Since the CSR Rules provide that activities undertaken in pursuance of a company’s normal course of business are excluded from taxation, it is unclear at this point whether CSR expenditure will be allowed to be deducted as business expenditures from the company’s business income.

Lalit Kumar is a partner at the law firm of J. Sagar Associates based in New Delhi. He specialises in M&A transactions and is an expert in company law matters.  He can be reached at lalit@jsalaw.com.