Corporate Social Responsibility in 2021: Comply or Pay Penalty
[Krina is a student at GLS Law College, Ahmedabad.]
Corporate Social Responsibility (CSR) was introduced as a statutory obligation for companies under Section 135 of the Companies Act 2013 (2013 Act). Companies having a net worth of INR 500 crores or more, or turnover of INR 1,000 crores or more, or a net profit of INR 5 crores or more, are required to spend at least 2% of their 3-year annual net profit towards CSR activities in a financial year. Those activities could be related to environment, education, gender equality, poverty, or any other activity described in Schedule VII of the 2013 Act. Thereafter, the Companies (Social Corporate Responsibility Policy) Rules 2014 were notified. CSR was not mandatory at that time and the approach was to “comply or explain”. If a company did not comply, it only had to mention the reasons for non-compliance in their report. Since there were serious compliance gaps, the Companies (Amendment) Act 2019 introduced punishments that included imprisonment, and hence, the approach shifted from “comply or explain” to “comply or pay fine”.
After facing resentment from companies, in 2020, criminal liabilities were removed from the 2013 Act but the penalties imposed were huge. In 2021, the Ministry of Corporate Affairs (MCA) notified the Companies (Corporate Social Responsibility) Amendment Rules 2021 (New Rules) and also notified the changes in Section 135 of the 2013 Act via the Companies (Amendment) Act 2019 (2019 Act), and the Companies (Amendment) Act 2020 (2020 Act). The provision for utilization of unspent money and set-off of excess amounts introduced in the 2019 Act and the 2020 Act respectively have also been incorporated in the new CSR regime. This article intends to analyze the ramifications of the new CSR regime on the stakeholders, including the corporates which are mandated to undergo CSR, their Chief Financial Officer who will allocate the budget, and their CSR committee which will implement the plan, and also the increased responsibility on implementing partners.
Shift from Directional to Mandatory CSR
As per the amended Section 135 of the 2013 Act, if a company does not spend the CSR amount, it can retain such amount after identifying an ongoing project. Ongoing projects have been defined under the New Rules as a multi-year project, but they cannot be longer than 3 years, excluding the year of commencement. The responsibility to identify an ongoing project is that of the Board of Directors (Board) of such a company. In case there is an ongoing project, the amount retained must be put in a bank account named ‘Unspent CSR Account’ within 30 days from the end of the financial year. That amount must be utilized in 3 years, else it goes to funds specified in Schedule VII within a period of 30 days from the date of completion of the 3rd financial year. In case no ongoing project is identified, it will be transferred to a fund under Schedule VII.
Earlier, no such provision was in place, and it was observed that the companies which had the financial capacity to undertake CSR activities failed to comply due to delay in project identification, implementation plans, and lack of expertise. Since many projects actually have a long gestation period, a time frame of 3 years was required wherein a company could spend its parked funds for a particular CSR project.
Section 135 of the 2013 Act mandates that the company spend 2% of their average net profits of 3 years on CSR. If the company fulfills the obligation, the same will be in the Board’s report. However, in case a company spends an excess amount, then that amount can be carried forward and spent in the next 3 years. Various projects require huge investment which may go beyond the requirement of 2%, especially when there is a creation of capital assets. This move will encourage the companies to invest more in capital assets as the excess amount can always be carried forward in the future.
New Definitions Introduced
The New Rules prescribe a list of activities that shall not fall within the ambit of CSR. These are set out below.
An activity undertaken in pursuance of the normal course of business of the company will not be CSR. MCA came up with a report back in 2015 wherein it highlighted the possibilities of businesses doing unethical activities by utilizing their own products and services under the garb of CSR. Thus, such activities are not covered. Moreover, a company can use its managerial talent and knowledge to help society, and it need not be confined in its own sector. However, companies involved in the R&D of vaccines, drugs, and medical devices may undertake COVID-19 related R&D as part of CSR.
An activity pursued outside India will not be counted as CSR, as it will not benefit Indians. Training of Indian sports personnel outside India is, however, counted as CSR.
Any contribution to any political party is excluded from the ambit of CSR. Further, any activities benefitting the employees are excluded, and any CSR amount spent on employees is not considered as 'social spending'.
If an activity results in marketing benefits, the same will be excluded. This does not mean that all the activities on a sponsorship basis are excluded. For example, beautification of parks and gardens may come under the purview of CSR, if there are no marketing benefits derived by a corporate.
Activities carried out for the fulfillment of any other statutory obligations under any law in force in India are to be excluded from CSR.
Registration Requirement for Implementing Partners
Implementing agencies are the intermediaries who work with the principal and the end beneficiaries, and they identify CSR opportunities and also monitor their implementation. It is not possible for every company to monitor its policies on a regular basis, and hence, this work can be delegated to the implementing partners.
It is now mandatory for captives, public agencies, government agencies, and statutory agencies to be registered with the MCA. Captives are the corporate’s own implementing bodies, and public agencies are those agencies which are exclusively there to carry out CSR activities of corporates. These agencies are required to be registered under Section 12A and Section 80G of the Income Tax Act 1961 as well. The rationale behind this amendment is that lately, a lot of non-governmental organizations (NGOs) undertake CSR activities of corporates, and now the government will be able to monitor those NGOs which will bring more transparency in the system. This will also give statutory confirmation to organizations involved in charitable activities.
Increased Rigor for Internal Control
Previously, annual budget and areas of activities were being recommended by the CSR Committee, but the manner of execution was decided by the Board. As per the New Rules, the CSR committee is required to draw a detailed annual ‘Action Plan’ to undertake the CSR program. This move reinstates the new approach adopted by the government to ensure effective implementation of the CSR regime.
Further, the Board is to satisfy that CSR fund is utilized for the purpose and manner approved by it. It also requires the CFO or alike to give a ‘Utilisation Certificate’ of the disbursements made. Previously, companies simply picked and chose an activity under Schedule VII as a CSR activity, but now the government intends the Board to do strategic planning with respect to the CSR activities to be undertaken by the company.
Capital Assets to be Transferred
In case a capital asset is created/acquired by the company, the company cannot own the asset but will have to transfer it to a company established under Section 8 of the 2013 Act, or a registered public trust or a registered society, beneficiaries or a public authority. The objective behind this amendment is that the overall intent of the legislation must work for the public good. Many companies created assets in their books of accounts; these assets kept on appreciating in value and resulted in economic benefits too. If these assets are created for the public good, their ownership should also lie with the public.
Social Impact Assessment
Social impact assessment is to be done through an independent body. Every company having average CSR obligation of INR 10 crores or more in the 3 immediately preceding financial years shall undertake impact assessment, through an independent agency, of their CSR projects having outlays of INR one crore or more. It is not enough for companies to just spend an amount on CSR; they will also have to justify the social impact created out of those exercises. Other small companies not falling within the threshold need not undertake such an impact assessment, given that this exercise is cost-intensive and time-consuming. However, such small companies may do the impact assessment as a best practice.
Over a span of years, the approach behind implementing CSR has changed from “comply or explain” to “comply or pay fine.” The corporates are not only supposed to allocate money for a project anymore, but they are also supposed to use their managerial expertise, talent, and capital to create a social impact in the society and justify the same. Statistics indicate that in FY 17-18, 9,753 companies did not report any data on CSR despite them coming under the purview of Section 135 of the Act. In FY 19-20, Indian corporates just spent INR 8,691 crores on CSR, which is too small when compared to the size of India Inc. Thus, the author is of the view that the recent amendments were necessary to make corporates an integral part of Indian society.