Section 135 & the Concept of Revolutionary Legislation: The fine line in between

By Arpita and Puja, UPES

Editor’s Note:  The New Companies Act 2013 has come up with the concept of mandatory CSR and this Act will replace the archaic, almost 60 yrs old Companies Act, 1956 and it is widely being perceived as a revolutionary legislation but it will be too early to be termed as such because before that it must pass the test of practical application. Although this CSR provision is an excellent measure but this new legislation is not free from problems. There are certain problems in the existing CSR provision that needs to be addressed for the legislation march forward on the path of becoming a revolutionary legislation. The point to be noted here is that spending on CSR is not mandatory under Companies Act, 2013 but reporting about the same is mandatory. So in case a company does not make CSR spending it is required to submit a report pertaining to the reasons as to why it did not spend on such CSR activity. This essay aims to highlight the hurdle to bring about a revolution in the existing framework.

INTRODUCTION

What is a revolutionary legislation? Can we say that a well drafted legislation is a revolutionary legislation or does it take a little more to be termed as revolutionary? The answer to the latter question is yes, it takes little more for a legislation to be labeled as revolutionary. Any Legislation can be termed as revolutionary if the practical enforceability is possible. There are many instances of well drafted legislations but when it comes to practical application history has witnessed many cases where legislation fails reason being those legislations are successful only on paper but not fit to serve the purpose in reality. So before it can be decided as to whether the CSR provision under the New Companies Act, 2013 (2013 Act) is a revolutionary legislation or not it is first of all required that its practical applicability is tested.

India is fighting battles with countless economic and social challenges and in such a condition there is no conflict of opinion that the CSR provision in the 2013 Act definitely has the potential to usher in a revolutionary change in the existing society. The fact that some companies are now legally required to include CSR committee in their governance structures represents a welcome move towards institutionalizing and legitimizing CSR but this provision of CSR in the 2013 Act is not free from predicaments and there are certain points which hunts for sober clarifications. So, it is important that all the grey areas seeking clarifications are made clear and provisions with shortcomings are accordingly amended to formulate a better CSR policy regime that can be properly executed to serve the purpose. It is only after such clarifications and amendments that this CSR policy can become a revolutionary legislation.

Although the there is no division of opinion on the point that this CSR clause in the 2013 Act can become a revolutionary legislation but over a period of time when we will encounter difficulties in its practical applicability then this legislation will lose its chances to become a revolutionary legislation. There are some good points in the new CSR provision but at the same time there are certain pitfalls as well. At the same time the point to be taken into consideration is that the sum total of flaws in the CSR provision exceed the sum total of the merits of the same and because of this reason CSR which has the potential to become a revolutionary legislation will not be able to serve the purpose and if these flaws are not done away with then this legislation can never become a revolutionary legislation.

EXISTING FLAWS: RIPPING OFF THE ESSENCE

As it has already been discussed that the provision of CSR in the Companies Act 2013 is undoubtedly a welcome step and this legislation has full potential to become revolutionary legislation but there are certain hurdles in its path to attain this tag. There are certain grey areas in the 2013 Act that seeks some serious clarifications. If these ambiguities are not removed then it is most likely that corporations will exploit it to their own advantages by using it as a blanket to escape their liabilities. Following are the grey areas that need to be worked upon so as to make sure that this legislation becomes successful in bringing about a revolution in the existing scenario.

Some of the points in the CSR provision of 2013 Act that demand immediate attention for the need of clarifications are:

CSR not defined

One of the biggest drawback of CSR provision is that what exactly is CSR is nowhere been defined. Defining is important to draft suitable policies within the ambit of the definition.

Elaborating and clarifying the concept of ‘Valid Explanation’.

The mandate to make 2% spending on the CSR activities for the Target companies provides an exception to this in a way that if companies are not spending the prescribed 2% then they must come up with ‘Valid Explanation’ for the same. With this the confusion starts as to what constitutes a valid explanation. So there is full room for interpretation which will give rise to arbitrariness.[i]

Government should not direct where to spend.

2013 Act provides a list of CSR activities to be undertaken by the companies but there is absolutely no reason as to why the companies should be directed on this point.  The Act at the very first place should never have come up with such list because it is not for the government to tell to the companies where to spend and it should be left to the companies to decide the type of CSR activity they want to undertake.

CSR Committee Strength for Private Companies

Section 135 of the New Companies Act requires that CSR committee should consist of a minimum of three directors. Now it is important to note that a private company has only two directors. So it is a point of clarification that if a private company fits in the category of Sec 135 Companies category then will it be required for the private company to increase its board strength to make the number of directors three. So it is too stringent provision and a clarification is sought on this point and mention that private must constitute an exception to it.

Making Penal Provision more Stringent

If Section 134(8) is read with Section 135(5) it can be very well made out that the penal provision is only for the non-compliance of submitting the report and not for the failure to spend with respect to CSR. Such penalty is going to be in vain as the companies well know how to mould things in their favor to escape the liability.[ii]

Companies technically not falling under the Category.

Yet another issue is that there may be instances when the companies are not enthusiastic in making such CSR spending because of the reason that the companies are not such colossal profit making companies but they do fall under the Section 135 category mainly due to triggering net worth and turnover criteria. This will detrimental to the interest of the company.

Double Taxation

The 2% of three years average profit is the profit before tax (PBT). So the target companies will have to in a way pay double tax. Firstly they will have to part with the 2% of the three years average profit which is profit before tax and thereafter they will have to pay tax[iii] on the remaining profit after deducting that 2% profit. Yet another problem is that some of the activities enlisted in Schedule VII are exempted.[iv]

Where are shareholders?

Apart from this shareholders have been given no say in the CSR spending by the companies. The 2% PBT to be spent on CSR forms a part of shareholder’s wealth. So the question that arises here is that should such funds be diverted to CSR without shareholder’s approval?[v]

THE ROAD TO BE TAKEN

The Provision of CSR in 2013 Act mainly suffers from the problem of vagueness. So in order to cure this problem which is paralyzing the Act it is important to provide certain clarification to make the provisions clear and free from any ambiguity. Following are the recommendations that will greatly contribute in solving the problems emanating from this CSR provision:

  • Definition of CSR is the foremost requirement as it is impossible to make provision for any legal concept without defining it.
  • It is first of all important to explain as to, what constitutes a “Valid Explanation “because it is too vague a term and there is chance for misinterpreting it.
  • The existing penal provisions as have been prescribed in the Act are not sufficient enough to serve the purpose so it must be made more stringent.
  • The Act must not restrict the area of CSR activities by providing an inclusive list and give liberty to the companies to decide the same.
  • The provision of CSR committee consisting of 3 directors must be relaxed for private companies as it makes no sense for the private companies to increase directors’ strength for this reason.

CONCLUSION

If a company devotes itself in some altruistic job, it will help the company to pull off in a better position in the market thus it will get rewarded by its stakeholders[vi]. To conclude, the purpose of CSR, we must comprehend that it is only one of a number of diverse liability approaches that can control behavior in and around corporations, with an objective of benefitting the society. As highlighted, stringent provisions are called for in case of non-compliance with the CSR provision, as a just punishment embraces the ethical condemnation of the society. Instead of serving just as a sheer supplement to corporate fines, ground breaking corporate sentences should be the key objectives of CSR of serving the society.

This incorporation of mandatory CSR provision in India is acting as a “Global Watch”. India is at the forefront of CSR law with the passing of 2013 Act.  As such, India is an experimenting ground for CSR laws of this kind.

Lastly, the authors firmly believe that this CSR provision incorporated in the 2013 Act definitely have the potential to become a revolutionary legislation but the pitfalls as have been discussed in the essay may act as hindrances in the trail of this legislation to conquer the label of revolutionary legislation.

 Edited by Hariharan Kumar

[i] Kordant Philanthropy Advisers, The 2% CSR Clause: New Requirements for Companies in India, Kordant Report Series available at http://www.kordant.com/assets/2-Percent-India-CSR-Report.pdf (last visited March 29th 2014).

[ii] Arpit Gupta, Mandatory CSR in The Companies Bill, 2011: Are We There, Yet? 8 NALSAR S.L.R 38 (2013).

[iii] CA Sanjay Kumar Sharma, A 360 degree analysis of Corporate Social Responsibility (CSR) Mandate of the New Companies Act, 2013 3GJMBS 757 (2013).

[iv] Lubna Kably, CSR spends to get cos varying tax benefits THE TIMES OF INDIA (13th August 2013) http://timesofindia.indiatimes.com/business/india-business/CSR-spends-to-get-cos-varying-tax-benefits/articleshow/21792947.cms.

[v] Tina Edwin, New Companies Bill: What India Inc should watch out for THE ECONOMIC TIMES (22nd July 2012) http://articles.economictimes.indiatimes.com/2012-07-22/news/32777534_1_csr-activities-new-companies-bill-corporate-social-responsibility.

[vi] SHARMA, supra note 2.

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