We have attempted to collate all major regulatory amendments notified throughout the year, with our resources on the same. Below we present a regulatory round-up for the year 2021, be it for MCA, SEBI, RBI or the like, along with the links to our major articles/ FAQs on the same.
Our youtube video giving a quick view on the same can be accessed at – https://www.youtube.com/watch?v=WJbJx2jgK9A
This version: 4th December, 2021
– By Harsh Juneja | Executive (corplaw@vinodkothari.com)
(Updated as on February 03, 2023 by Lovish Jain | Executive)
Section 135(5) of the Companies Act, 2013 (‘the Act’) requires every eligible company [as per section 135(1)] to spend at least 2% of the average of net profits of immediately preceding 3 financial years towards Corporate Social Responsibilities(‘CSR’) activities. The CSR spending may sometimes include contributions made to NGOs or other beneficiaries, or money paid to implementing agencies. However, quite often, the expense may relate to procurement of goods or services which are applied to one or more CSR activities. This procurement of goods or services comes with the tax cost, viz., GST. So the question is, does this GST paid, while acquiring goods or services, give rise to an input tax credit, such that the same may be claimed as a set off? A related, and more important question is, whether CSR expense for the purpose of sec. 135 (5) be the amount net of the ITC, if the ITC is claimable, or the gross amount paid?
Section 16(1) of the Central Goods and Service Tax (‘CGST Act, 2017’) prescribes the eligibility criteria for taking Input Tax Credit. It states that “Every registered person shall, subject to such conditions and restrictions as may be prescribed and in the manner specified in section 49, be entitled to take credit of input tax charged on any supply of goods or services or both to him which are used or intended to be used in the course or furtherance of his business and the said amount shall be credited to the electronic credit ledger of such person.”
Until the Budget 2023 announcement, there was no explicit provision clarifying the position whether input tax credit would be available for acquiring goods or services for carrying out CSR activities. In the Finance Bill, 2023, a proposal has been made for amendment in section 17 of the CGST Act, 2017 to disallow the availability of input tax credit for expenditure made towards CSR activities. Please refer to our article on the same
There have been rulings by Appellate Tribunal and Advance Rulings under GST w.r.t. the same.
Hon’ble CESTAT Mumbai, in the case of M/s Essel Propack Ltd. vs Commissioner of CGST, Bhiwandi, gave a view that the CSR gives a company an economically, socially and environment sustainability in the society in the long run, as a company can not operate without providing benefits to its stakeholders. Therefore, it held that if companies are unable to claim input services in respect of activities relating to business, production and sustainability of the companies themselves would be at stake.
Hon’ble High Court of Karnataka, in its judgement, in the case of M/s Commissioner of Central Excise, Bangalore vs. Millipore India (P) Ltd., also was of view that CSR Expenses are mandatorily incurred by employers towards benefit of the society and “to maintain their factory premises in an eco-friendly manner”. Therefore, the tax paid on such services shall form part of the costs of the final products and thus, the company can claim these taxes paid as input services.
Uttar Pradesh Authority for Advance Ruling (‘AAR’) in the matter of M/s Dwarikesh Sugar Industries Ltd held that a company is mandatorily required to undertake CSR activities and thus, forms a core part of its business process. Hence, the CSR activities are to be treated as incurred in “the course of business”.
Telangana State AAR in the matter of M/s. Bambino Pasta Food Industries Private Limited has clearly held that expenditure made towards CSR, is an expenditure made in the furtherance of the business. Hence the tax paid on purchases made to meet the obligations under CSR will be eligible for ITC.
Section 135(7) is a penal provision under the Act which deals with penalty on non-compliance of section 135(5) and (6). It was observed by the AAR that a Company fulfilling eligibility criteria under section 135(1) of the Act is required to mandatorily spend towards CSR and thus, must comply with these provisions to ensure smooth run of business.
Thus, Uttar Pradesh AAR held that the expenses incurred by the Company in order to comply with requirements of CSR under the Act qualify as being incurred in the course of business and are eligible for ITC in terms of the Section 16 of the CGST Act, 2017.
Section 17(5)(h) of the CGST Act excludes “goods lost, stolen, destroyed, written off or disposed of by way of gift or free samples” for the purpose of availing ITC on payment of GST. The term ‘gift’ is not defined anywhere in the CGST Act. However, in layman’s language, gift means a thing given willingly to someone without payment.
In the matter of M/s. Polycab Wires Private Limited, Kerala AAR held that distribution of necessaries to calamity affected people under CSR expenses shall be treated as is if they are given on free basis and without collecting any money. Hence, for these transactions, it was held that ITC shall not be available as per section 17(5)(h).
However, a contrast has been drawn in the Uttar Pradesh AAR Ruling towards goods given as ‘gift’ and given as a part of CSR activities. Gifts are voluntary and occasional in nature whereas CSR expenses are obligatory and regular in nature. AAR held that since CSR expenses are not incurred voluntarily and have to be incurred regularly, they are not to be treated as ‘gift’ and thus, should not be restricted under section 17(5)(h) for claiming ITC.
One may also refer to explanation 2 to Section 37(1) of Income Tax Act, 1961, as also cited by Hon’ble High Court of Delhi in the matter of Pr. Commissioner of Income Tax vs. M/s Steel Authority of India Ltd which provides that, any expenditure incurred by an assessee on the activities relating to CSR referred to in section 135 of the Companies Act, 2013 shall not be deemed to be an expenditure incurred for the purposes of the business or profession.
A company contributes a sum towards a beneficial organisation such as NGOs, Charitable Trusts and Section 8 Companies (‘implementing agencies’) towards fulfillment of CSR activities. However, these implementing agencies also need to hire services of vendors to complete these activities. These vendors charge GST on the services rendered by them. Since these implementing agencies often do not generate any output, the question raises can these organizations also claim ITC on the services rendered by them?
There is a concept of ‘pure agent’ in GST. Explanation to Rule 33 of CGST Rules, 2017 prescribes that a pure agent means a person who –
The implementing agencies fulfill this eligibility criteria of being a ‘pure agent’. Rule 33 also contains some conditions on the fulfilment of which, expenses incurred by the supplier as a pure agent of the recipient of the supplier of goods or services, are excluded from the value of supply-
In our case, if an implementing agency avails any goods or services from a vendor to fulfil the CSR activities for a company, then the payment of any such amount to the vendor shall be treated as a supply made as a pure agent by the implementing agency on behalf of recipient of supply, i.e., the company. Thus, these expenses incurred by the implementing agencies shall be excluded from the value of supply and therefore, are not liable for payment of GST.
The Act does not clarify that the amount to be contributed towards CSR activities should be inclusive or exclusive of taxes. However, it seems that since GST is charged on supply of goods and services, irrespective of the intention of social benefit, the amount contributed towards CSR can be both inclusive and exclusive of GST. Having said that, the question still pertains on the inclusivity of the amount of GST paid towards the amount of CSR expenditure for the purpose of section 135(5) of the Companies Act, 2013.
While the rational view would be, expenses incurred on GST for fulfilment of CSR activities should be eligible for claiming input tax credit, however, the Finance Bill, 2023 proposes otherwise. The effective date of the amendment will be 1st April 2023. Hence, once the Budget proposals are passed, any acquisition of goods or services for CSR purposes will be denied the benefit of GST set off. So the next question is whether the CSR expenditure would be inclusive of GST. We deal with the same citing illustrations in our article.
Articles of a company are the rulebook for the indoor management of a company and should be observed at all times subject to the provisions of the Companies Act, 2013 (“the Act”) which has an overriding effect on the articles of a company. Any inconsistency in the articles of a company to that of the Act is ultra vires and gives the Act an upper hand. However, when an apparent inconsistency arises on account of a stricter provision in the articles, can articles be disregarded on grounds of repugnancy? Or whether there can be legal enforceability of articles that are complementing the main provisions of the Act without defeating the intent of law? The question assumes importance in light of certain practical situations which cropped up recently.
Whether existing auditor needs to vacate immediately?
Abhishek Saraf | Manager (corplaw@vinodkothari.com)
On and from the enforcement of the provisions of the Companies Act, 2103 (the “Act”), statutory auditor of a company is required to be appointed for a fixed term of 5 consecutive years (except in the case of appointment of first auditor and appointment of auditor in Government Company). The said requirement is different from the provisions of corresponding section 224 and 224A of the erstwhile Companies Act, 1956 (“Act, 1956”) where a statutory auditor was appointed year on year basis.
In addition to the introduction of a minimum tenure of 5 years, the Act also brought the concept of mandatory rotation of the statutory auditors so appointed so to ensure the auditors do no develop too much familiarity with the auditee. In fact, the Report[1] of the CII Task Force on Corporate Governance also discussed on the proposal of the rotation of auditors as well as audit partners to discourage any sort of an affinity between the auditors and the company.
The provisions relating to mandatory rotation of the statutory auditors have been provided under section 139(2) of the Act.
Section 139(2) of the Act states that-
“(2) No listed company or a company belonging to such class or classes of companies as may be prescribed, shall appoint or re-appoint–
(a) an individual as auditor for more than one term of five consecutive years; and
(b) an audit firm as auditor for more than two terms of five consecutive years:
…..”
Section 139(2) of the Act provides for a mandatory rotation of statutory auditors for the following classes of companies:
(i) Listed companies
(ii) Unlisted public companies having paid up share capital of INR 10 crores or more;
(iii) Private companies having paid up share capital of INR 50 crores or more; and
(iv) Companies having paid up share capital of below threshold limit mentioned in (ii) and (iii) above, but having public borrowings from financial institutions, banks or public deposits of INR 50 crores or more.
Once the bar on re-appointment applies; there is a mandatory cooling-off period of 5 years where the outgoing auditor should not be in any way be related to the incoming auditor.
Further, the requirement of appointment of auditors for a minimum tenure as well as the rotational requirement has been exempted for certain classes of companies which have been mentioned below:
| Exemption from minimum tenure of 5 years | Exemption from rotational provisions |
|
· All companies in case of appointment of first auditor
· Government companies |
· One person company
· Small companies |
From the date of enforcement of section 139 of the Act, i.e., 1st April, 2014, companies were given a time period of three years to comply with sub-section (2) of the Act. However, considering the practical difficulties, MCA vide its Companies (Removal of Difficulties) Third Order, 2016 amended the transitional provisions of Section 139(2) of the Act to allow companies to comply with the provisions relating to rotation of auditors not later than date of the 1st AGM of the company held after 3 years from the date of commencement of the Act.
With this amendment, it was clarified that the auditor who has utilized the tenure of 5 years or 10 years, as applicable may continue the office till the conclusion of AGM held for the FY ended 31st March 2017 and the company shall appoint new auditor in accordance with section 139 (1) in the same AGM.
It is to be noted that the third proviso to sub-section (2) of section 139 contained the provisions to address the first-time applicability on companies on and from the commencement of the said section. It was given to allow smooth transition from the old regime to the new regime. The proviso specifically provided 3 years’ time from commencement of the Act which has expired long back.
Another situation that requires to be addressed is the fate of the auditors of the companies which subsequently get covered under sub-section (2) of section 139.
In this regard, it is important to note the language of the said sub-section states the following:
“No listed company or a company belonging to such class or classes of companies as may be prescribed, shall appoint or re-appoint XXX”
Addressing the said issue, the view expressed in Ramaiya[2] is that the auditor will have to vacate his office at the next forthcoming AGM of the company, even if the existing term is not complete.
However, we will hold a different view on the same based on the following reasons:
In view of the rationale given above, it can be concluded that since the question of rotation will arise only at the time of appointment or re-appointment which again can only be seen only after the completion of the tenure of 5 years, therefore, the interpretation of requiring the continuing auditor to vacate its office at the ensuing AGM post first time applicability does not seem to be correct.
[1] To view the Report, click here
[2] Page 2473 of A Ramaiya Guide to the Companies Act (19th Edition)
[3] The requirement to ratify was done away with vide the Companies (Amendment) Act, 2017 w.e.f. 7th May, 2018.
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Payal Agarwal, Vinod Kothari and Company ( payal@vinodkothari.com )
The recent cases of intervention by the stock market regulator and stock exchanges in preferential allotment of listed companies have brought to fore an important but fundamental point. That is, with a price band fixed under the SEBI (Issue of Capital and Disclosure Requirements) Regulations, 2018 (‘ICDR Regulations’), and considering th
e liquidity in listed (and frequently traded) shares, whether there is a need for an independent valuation report, has become a question of great interest. Since the issue is currently under litigation will want to say that it will be interesting to see the evolution of jurisprudence on this important issue. While the issue is of relevance to minority shareholders, but it also touches a key issue in valuation as to whether there is a fair value beyond the quoted value of a company whose shares are not infrequently traded.
Further, there might be scenario, where a preferential allotment triggers an open offer under SEBI (Substantial Acquisition of Shares and Disclosure Requirements) Regulations, 2011 (“SAST Regulations”). The SAST Regulations provides formula for determining offer price, which establish a clear nexus between the price of shares offered under preferential allotment and price of shares under open offer as per SAST Regulations. Given that the pricing of open offer is influenced by the pricing under preferential allotment, should the price under the ICDR Regulations be accepted or fair valuation of shares should be sought in order to ensure fair compensation to shareholders?
At this stage of discussion, it becomes important to look into the relevant provisions and the meaning of “fair value” and understand how fair it is to have a preferential allotment without ascertainment of such fair value by an independent valuer.
Preferential allotment in listed companies are governed by the following provisions –
Preferential offers under section 62(1)(c) can be made to any person, if so authorised by a special resolution passed in general meeting if the price of such shares is determined by way of a valuation report of a registered valuer. However, if one goes through allied Rule 13 of SCD Rules, it becomes clear that the companies whose shares are listed on a stock exchange are not required to obtain a valuation report from a registered valuer. The said rules clearly bring out a distinction between preferential offers made by a listed company versus those made by unlisted companies. Sub-rule (2) specifically states that for companies whose shares are listed on a recognised stock exchange, the requirements under the relevant SEBI regulations (ICDR Regulations) will apply, while the unlisted companies will be governed by the provisions of the Companies Act; and sub-rule (3) states that the price under the preferential allotment shall not be less than the price determined on the basis of valuation report of registered valuer. Hence, it becomes clear that in case of a listed company, as per section 62 and rule 13, there is no requirement of a valuation report, per se. Instead, the legislature has left it to be regulated by SEBI regulations. Therefore, one will have to look for what ICDR says.
Reg. 164 of ICDR lays the floor limit of the price, which is to be calculated as the higher of average of weekly high and low of volume weighted average price of related equity shares quoted on a recognised stock exchange for –
The Regulation does not call for an independent valuation report. This must be read in contradistinction to regulation 165, which deals with pricing of infrequently traded shares. Reg. 165 rather specifically requires an independent valuation.
The above clearly demonstrates that the regulations have consciously exempted listed entities from seeking an independent valuation where listed shares are frequently traded. The regulations, in fact, draw a timeframe to extract weighted averages of the market prices to ensure that the fluctuations in prices, if any, are ironed out and the resultant price is the even price at which the market has transacted during that period. This, admittedly and reasonably too, is based on the assumption that ‘market’ is the best reflection of a fair price which a willing seller and a willing investor are ready to deal in. This view can also be substantiated with similar stipulations in other laws and valuation standards.
Meaning of fair value under applicable accounting standards –
Ind AS 113 deals with the fair valuation of equity shares. This Ind AS defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date, and thus considers fair value to be “a market based measurement and not an entity specific measurement.”
Clause 18 of the Ind AS 113 provides, “If there is a principal market for the asset or liability, the fair value measurement shall represent the price in that market.”
Rule 11UA (1)(c) of the Income Tax Rules provides for the fair value of shares listed in a stock exchange.
It renders the transaction value of such shares to be the fair value in case the transaction has been done through stock exchange. Otherwise, the fair market value of such shares are taken to be –
“(a)the lowest price of such shares and securities quoted on any recognized stock exchange on the valuation date, and
(b)the lowest price of such shares and securities on any recognized stock exchange on a date immediately preceding the valuation date when such shares and securities were traded on such stock exchange, in cases where on the valuation date there is no trading in such shares and securities on any recognized stock exchange”
Rule 18 of the Companies (Registered Valuers and Valuation) Rules, 2017 requires the registered valuer to follow such valuation standards as prescribed by the Central Government. For valuation with effect from 01st July, 2018, all registered valuers are mandatorily required to apply the ICAI Valuation Standards in their valuation assignments for the purposes of the Companies Act, 2013.
The definition of ‘fair value’ under ICAI Valuation Standard (101) is the same as that in IndAS 113, that is, fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the valuation date. IVS 101 further states that fair value assumes that the price is negotiated in a free market. The ICAI Valuation Standards recognises three approaches for valuation, being – market approach, income approach, and cost approach.
Where the assets to be valued are traded in active market, the market approach is followed for valuation purposes.
Paragraphs 18-20 gives guidance over the valuation as follows –
“18. A valuer shall consider the traded price observed over a reasonable period while valuing assets which are traded in the active market.
The stipulations as above clearly reflect that for quoted shares, fair valuation is based on quoted prices only. Given that IVS too refers to ‘traded prices’, a registered valuer would rely on such traded prices to arrive at a fair value. It may be reiterated that ICDR uses a ‘range’ of time so as to spread out the fluctuations in prices, which has been similarly captured in the IVS.
One may argue that the price of a company’s shares can be tampered with, by the company as per its whims and wishes. However, for a listed company, whose every information is readily available on public domain, does such an argument hold good? In view of the strict regulatory surveillance constantly placed by SEBI and stock exchanges on listed companies, this does not seem to be a possible scenario.
The aforesaid logic and arguments may not hold good in case of shares that are infrequently traded or are unlisted. As indicated above, the applicable rules/regulations and standards prescribe a different methodology to arrive at fair values of such shares. For instance, regulation 165 of ICDR requires the minimum price in case of infrequently traded shares to be determined on the basis of valuation as per applicable parameters. Also, the SAST Regulations requires the offer price in case of infrequently traded shares to be determined by way of valuation taking into account various valuation parameters such as comparable trading multiples, book value and such others.
To reiterate, such distinction made out between frequently traded and infrequently traded shares clearly buttresses the views here.
The chances of a listed company acquiring a fair deal without falling into the formalities of fair valuation does not seem to be a scarce event. Listed companies are well governed under the provisions of ICDR Regulations as regards pricing of shares under preferential allotment. To ensure shareholder protection, ICDR already prescribes a minimum threshold based on average quoted prices. The prices depend on the market price of related equity shares quoted and traded on stock exchanges. Further, fair value of equity shares depend on market value of such shares and there does not seem to be chances of much disparity among the price under ICDR versus that as determined by way of fair valuation.
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