Conflicting provisions on CSR applicability under CA, 2013 & CSR Rules

CSR Rules require further tailoring to fit

CS Ajay Kumar K V | Vinod Kothari and Company

Corporate Social Responsibility (‘CSR’) framework in India has always been adaptive to changing times and has witnessed quite an evolution. The basic idea behind the CSR provisions was to promote responsible and sustainable business philosophy at a broad level and to encourage companies to come up with innovative ideas and robust management systems to address social and environmental concerns of the local area and other needy areas in the country.

Despite the evolution and series of amendments, certain provisions in the Companies (Corporate Social Responsibility Policy) Rules, 2014 (‘CSR Rules’) continue to conflict with the requirements under section 135 of the Companies Act, 2013 (‘CA, 2013‘). This article discusses two of such conflicting provisions relating to CSR applicability.

As per Section 135 (1) of Companies Act, 2013, CSR provisions were originally applicable to companies meeting the thresholds of INR 500 crore net worth or INR 1000 crore turnover or INR 5 crore net profit during any financial year. The meaning of the term ‘any financial year’ was clarified by MCA to imply any of the three preceding financial years. This was amended vide the Companies (Amendment) Act, 2017 (‘CAA, 2017’) thereby shifting the applicability on companies meeting any of the aforesaid criteria during the immediately preceding financial year, on the basis of recommendation made by High-Level Committee on Corporate Social Responsibility (‘HLC-CSR’)¹. Further, in terms of Section 384 (2) of CA, 2013 CSR provisions are applicable to foreign companies as well.

Conflicting provision under CSR Rules

• On Applicability [Rule 3 (1)]

Rule 3 (1) of CSR Rules provides that a company including its holding or subsidiary, and a foreign company defined in Section 2 (42) of CA, 2013 fulfilling the criteria specified under Section 135 (1) of CA, 2013 are required to comply with CSR related provisions.

Section 135 (1) is absolutely clear on the applicability par. Therefore, the intent to include holding and subsidiary company of a company that meets the criteria is unclear. If the holding or subsidiary company independently meets the criteria specified under Section 135 (1), only then it will be required to comply with CSR related provisions.  The applicability cannot be linked with applicability of the Section 135 (1) to the holding or subsidiary company.

• Cessation of Applicability [Rule 3 (2)]

In terms of Section 135 (1) read with Section 135 (5), companies meeting the aforesaid criteria during the immediately preceding financial year are required to constitute CSR Committee and spend in every financial year, at least 2% of the average net profits of the company made during the three immediately preceding financial years. Consequently, companies not meeting any of the aforesaid criteria during the immediately preceding financial year are not required to ensure CSR related compliances[1].

However, Rule 3 (2) continues to provide a time frame of 3 consecutive financial years as an eligibility to discontinue ensuring compliance under Section 135. The said provisions have become redundant after enforcement of CAA, 2017. Relevant extract of HLC-CSR is as under:

 “The Companies (Amendment) Act, 2017 has amended the eligibility criteria as being based on financial parameters of the ‘immediately preceding’ financial year instead of three immediately preceding financial years prevalent until then. Rule 3(2) of the Companies (CSR Policy) Rules, 2014 specifies that companies which cease to be eligible under Section 135(1) of the Act for three consecutive financial years shall not be required to comply with provisions of Section 135.

 In view of the 2017 amendment, Rule 3(2) is redundant. “

Power of Central Government to revise thresholds

The Report of the Company Law Committee in 2019[2] based on the experience gained from the industry recommended the revision of the net worth/ turnover/ net profit thresholds specified in Section 135(1) from time to time to suit the changing requirements of the economy. The extracts of the committee note were;

“The Committee noted the merit in ensuring that static financial thresholds do not come in the way of corporate-driven socio-economic development and environmental conservation. In order to keep such revision process timely, the Committee recommended insertion of suitable provisions in the Section 135(1), which would enable the Central Government to enhance such limits by way of rules.”

However, the provisions of the Companies Act, 2013 do not provide for enabling power to the Central Government to revise the statutory thresholds framed 8 years back.

Conclusion

Prior to enforcement of CAA, 2017, the applicability was required to be ascertained based on the net-worth, turnover and net profits during any of the three preceding financial years. Therefore, Rule 3(2) of CSR Rules also provided a similar timeline for determining inapplicability of the CSR related provisions.

However, pursuant to amendment in Section 135 (1) by way of CAA, 2017 the Company is required to ascertain applicability by referring to the net-worth, turnover and net profits during the immediately preceding financial year. Accordingly, the inapplicability provided in Rule 3 (2) also was required to be aligned with amended Section 135 (1). Despite the deletion recommended by HLC-CSR, the provisions reflect under CSR Rules. Accordingly, companies need not wait till deletion of Rule 3 (2) as the same is anyways redundant post enforcement of amendment made in Section 135 (1).

Further, Rule 3 (1) of CSR Rules does not provide any additional clarity on the applicability and should be suitably amended. Lastly, enabling power to review static thresholds may also be inserted in Section 135 (1) of CA, 2013.

[1] https://www.mca.gov.in/Ministry/pdf/CSRHLC_13092019.pdf

[2] https://www.mca.gov.in/Ministry/pdf/CLCReport_18112019.pdf

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