Taxation of CSR initiatives

CSR spends shall not be added to net profit as per profit and loss account for computing book profits for Minimum Alternate Tax (MAT) purposes.

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United Nations Industrial Development Organization (UNIDO) defines ‘Corporate Social Responsibility’ as a “management concept whereby companies integrate social and environmental concerns in their business operations and interactions with their stakeholders.

CSR is generally understood as being the way through which a company achieves a balance of economic, environmental and social imperatives (“Triple-Bottom-Line- Approach”), while at the same time addressing the expectations of shareholders and stakeholders.”

Thus, CSR is a responsibility voluntarily assumed by a company in its enlightened self-interest. It is not something imposed by law. Rather, it is something which a business does beyond what is required by law.

However, in Indian law, CSR is understood in the sense of legally mandated corporate spends.

The Companies Act,2013 imposes mandatory CSR obligations on companies which have net worth of Rs 500 crore or more, or turnover of Rs 1000 crore or more, or a net profit of Rs 5 crore or more during any financial year.

Such Companies are required to spend 2 percent or more of their average net profits on certain activities mentioned in Schedule VII to the Companies Act,2013 such as eradicating hunger, poverty and malnutrition, promoting healthcare and sanitation, making available safe drinking water etc.

Explanation 2 to section 37(1) of the Income-Tax Act, 1961 disallows any expenditure incurred by an assessee on the activities relating to CSR referred to in section 135 of the Companies Act, 2013 by emphatically providing that such expenditure shall not be deemed to be an expenditure incurred for the purpose of business or profession.

The rationale for this provision is that “…the objective of CSR is to share burden of the Government in providing social services by companies having net worth/turnover/profit above a threshold. If such expenses are allowed as tax deduction, this would result in subsidizing of around one-third of such expenses by the Government by way of tax expenditure…” (Explanatory Memorandum to the Finance(No.2) Bill, 2014).

Thus, companies which incur mandatory CSR spends cannot claim the same as deduction while computing profits or gains from business or profession.

A question arises whether deduction denial provision in Explanation 2 is without any loopholes? The answer appears to be “No”.

CSR spends shall not be added to net profit as per profit and loss account for computing book profits for Minimum Alternate Tax (MAT) purposes.

Further, the company is not barred from claiming deduction available to items of CSR spends under Chapter VI-A as the disallowance under Explanation 2 applies only to claiming expenditure as deduction for computing business and not to any deduction that may be available under Chapter-VIA of the Income-Tax Act,1961.

For example, contribution to Swacch Bharat Kosh and Clean Ganga Fund as well as contributions to the Prime Minister’s National Relief Fund do qualify as CSR spends by virtue of being included in Schedule VII to the Companies Act,2013 and these also qualify for deduction under section 80G of the Income-Tax Act,1961.

To make deduction denial under Explanation 2 to section 37(1) effective, amendments are required to be made to sections 115JB and 80G of the Income-Tax Act as well.

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