The tax benefit against corporate social responsibility (CSR) spending, introduced by the Companies Bill, 2012, which was recently passed by the Rajya Sabha, would vary widely depending on the nature of such expenditure. At present, both tax and CSR consultants are putting their heads together to chalk out a CSR strategy for India Inc, which would also provide the best tax efficiency.
For instance, writing a cheque towards the PM's National Relief Fund (PMNRF) would entitle the donor company to a deduction, from taxable profits, of the entire donation amount. On the other hand, if a company has constructed a school building in a village, no tax benefit may be available — at least not without a drawn out litigation. While both the donation towards the PMNRF and promotion of education are activities that qualify as CSR spends under the companies bill, the tax benefits could vastly differ. The bill calls for companies having a net worth of Rs 500 crore or more, or a turnover of Rs 1,000 crore or more, or a net profit of Rs 5 crore or more to have a CSR spend of at least 2% of their average net profits of the past three years. The bill stops short of making CSR spend mandatory, as it states the board of directors "shall ensure" that the company spends towards CSR.
Schedule VII of the bill prescribes wide-ranging activities that could be part of a company's CSR policy, such as eradicating hunger and poverty, promotion of education, women empowerment, reducing child mortality and improving maternal health, environmental sustainability, employment enhancing vocational skills or contributions to central or state government set-up funds, including the PMNRF.
The bill does not prescribe the proportion of funds to be contributed towards any activity. As things stand, a company could meet its CSR obligation entirely via donation.
However, there is a devil in the fine print. "A company is required to give preference to the local area and areas around it where it operates for CSR spend. Perhaps the rules, which will follow, may specify what percentage should be spent on CSR activities in local areas and what percentage can be donated," says a director of a large business group.
Under section 37 of the Income Tax (I-T) Act, 1961, an expenditure which is not capital expenditure and is expended "wholly and exclusively" for the purpose of a business is allowed as a deduction from business profits (known as business deduction). To illustrate in the CSR spend context, the moot question for India Inc is whether constructing and running a school can be regarded as an expenditure incurred wholly and exclusively for the purpose of business? "If clarifications are not issued, claiming CSR spends as a business deduction may result in endless litigation," says a company director.
Sudhir Kapadia, partner and tax head, EY, says, "It can be argued that since the companies are now covered by a legislation that calls for CSR spending, any CSR-designated revenue expenditure should be regarded as having a nexus with the business and should be allowed as business deduction. For capital expenditure, such as school furniture or building, depreciation should be available. However, a clarification would be welcome."
Tax laws also prescribe a deduction for various donations from taxable income, but in most cases such a tax deduction could be much less than if the same were allowed as a business deduction. Under section 80-G of the I-T act, the amount of donation is deductible from taxable income, either in full or to the extent of 50%. The aggregate maximum amount, allowed as a deduction, is subject to a ceiling of 10% of the gross total income of the donor. For certain funds, this ceiling doesn't apply.
According to tax experts, even in case of donations made to external agencies or a foundation set up by the company, it can be argued that it is a bonafide business expenditure which should be allowed fully as a deduction under section 37 of the I-T act. "The Supreme Court, in case of a donation made by a company to a public welfare fund, had held that the donation was directly connected or related to the company's business. It resulted in a benefit to the carrying on of the business and was allowed as a business deduction. The same tenet should apply to donations under the company's CSR policy," says Punit Shah, co-head (tax) at KPMG.
There are also a few sections in the I-T act that provide for deduction from business profits in respect of contributions made towards notified projects. For instance, Section 35CCD provides a weighted deduction of 150% of the expenditure towards a notified skill development project. "However, only a few projects, if any, get notified," say CSR consultants.
More than 2,500 companies, including the top 100 companies across sectors, will be covered by these CSR provisions, according to EY. The CSR spend of BSE500 companies could run up to over Rs 5,000 crore according to the most conservative estimates, say analysts. Even central public sector enterprises, which were subject to CSR norms under separate guidelines, will, on enactment of the bill, come within the purview of these new provisions.