Section 135 of the Companies Act: Corporate Social Responsibility

What is Section 135 of the Companies Act?

Section 135(1) of the Companies Act mandates that every company meeting the specified criteria for net worth, turnover, or net profits must establish a Corporate Social Responsibility (CSR) committee. This includes Section 8 companies (non-profit companies), which are also required to set up a CSR committee and comply with CSR provisions if they meet the prescribed thresholds for net worth, turnover, or net profits.

---

Applicability of CSR in India

The provisions of Corporate Social Responsibility (CSR) apply to any company that meets at least one of the following criteria in the preceding financial year:

• Net worth exceeding Rs. 500 crore
• Turnover exceeding Rs. 1000 crore
• Net profit exceeding Rs. 5 crore

For such companies, the Board of Directors is required to ensure that the company spends at least 2% of its average net profits from the last three financial years on CSR activities, as per the company's CSR policy. If the company is in its early years and has not completed three financial years, it must spend 2% of the average net profits from the preceding years.

---

What is the Importance of Corporate Social Responsibility?

Corporate Social Responsibility (CSR) is a broad concept that reflects a company’s efforts to positively impact society. Here’s why CSR is important:

• Improved Public Image: CSR initiatives enhance a company’s reputation by showcasing its commitment to social good, making it more favorable in the eyes of consumers.
• Increased Media Coverage: Media visibility helps highlight the company’s efforts, casting a positive light on its actions.
• Enhanced Brand Value: CSR fosters strong, socially responsible relationships with customers, boosting the company’s brand value.
• Competitive Advantage: Companies engaged in community-focused initiatives stand out from competitors, showcasing their commitment to making a difference.

---

What is the Role of the Board of Directors?

The Board of Directors plays a critical role in implementing CSR within a company. Their responsibilities include:

• Approval of CSR Policy: After reviewing the CSR Committee's recommendations, the Board must approve the company's CSR policy.
• Ensuring Adherence: The Board ensures that only activities mentioned in the CSR policy are undertaken.
• CSR Spending: The Board ensures the company spends at least 2% of the average net profits of the last three financial years on CSR activities. If the company is new and hasn't completed three financial years, the average is calculated for the years since incorporation.
• Disclosure in Board's Report: The report should include:
  • The composition of the CSR Committee
  • The contents of the CSR policy
  • Reasons for any shortfall in CSR spending and details of unspent amounts, including the transfer of unspent funds related to ongoing projects to a specified fund (to be done within six months from the end of the financial year).

---

What is the Net Profit for CSR Applicability?

For calculating the net profits of a company under CSR provisions, the following rules apply as per Section 198 of the Companies Act, 2013:

Inclusions:

• Subsidies and bounties: Government or public authority grants for CSR purposes are included in the net profit.

Exclusions:

The following are excluded from the net profit calculation:

1. Premium on shares: Profits from share premiums, unless the company is an investment company.
2. Forfeited shares: Profits from the sale of forfeited shares.
3. Capital profits: Any profits of a capital nature, such as profits from the sale of assets or part of the company’s undertaking or immovable property, unless the business involves buying and selling such assets.
4. Asset revaluation or notional gains: Changes in carrying amounts due to revaluation or unrealized gains are not considered.

Deductions from Net Profit:

The following amounts are deducted:

• Usual working charges: Ordinary operational expenses.
• Directors’ remuneration: Payments to directors.
• Staff bonuses and commissions: Compensation paid to employees, technicians, engineers, etc.
• Abnormal profit taxes: Taxes on excess profits, as notified by the Central Government.
• Special taxes: Taxes on business profits due to special circumstances, as notified.
• Interest: Interest on debentures, mortgages, and loans secured by company assets, and unsecured loans.
• Repair expenses: Routine repair expenses (excluding capital repairs).
• Excess of expenditure over income: When expenses exceed income, the difference is deducted.
• Damages and legal liabilities: Compensation or insurance premiums related to legal liabilities.
• Bad debts: Debts deemed uncollectible and written off during the year.

Non-Deductible:

The following amounts cannot be deducted:

1. Income tax: Tax payable under the Income-tax Act, 1961.
2. Voluntary payments: Any damages or compensation paid voluntarily.
3. Capital losses: Losses of a capital nature, like from the sale of assets or undertakings, except when the sale proceeds are less than the written-down value or scrap value.
4. Asset revaluation adjustments: Changes in the carrying value of assets or liabilities as per fair value adjustments.

---

Fines and Penalties for Non-Compliance

If a company fails to comply with the provisions of CSR spending, utilization of unspent amount, and transferring, then the company will have to pay a penalty of Rs.1 crore or twice the amount to be transferred to the CSR fund.

Moreover, every officer of the defaulting company will have to pay Rs.2 lakhs or one-tenth of the amount to be transferred to the CSR fund, whichever is less.

Section 135 of the Companies Act 2013 makes it mandatory for companies to contribute to corporate social responsibility initiatives to promote social welfare and sustainable development. Complying with the CSR provisions, reporting obligations, and spending requirements help businesses to fulfill their CSR responsibilities effectively.

---