While India has taken the initiative to the social initiative regime in the world, the concept of social and economic initiatives being a responsibility of the corporates has gained popularity all over the world.

Just before the world’s largest democracy went to the polls, India made Corporate Social Responsibility mandatory for businesses.

Now, corporates in India have to match the efforts of the State and Non-Governmental Organizations (NGOs) in initiating activities for the economic growth of the underprivileged and similarly marginalized groups as well as social causes such as animal welfare and environment.

From April 1, 2014, it has become legally binding for companies in India to be “socially responsible.”

Section 135 of the new Companies Act 2013, reads with the CSR Rules makes it mandatory for companies, meeting certain criteria, to set aside two percent of their net profits for undertaking and promoting socially beneficial activities and projects in India. To implement this, the Ministry of Corporate Affairs (MCA) recently issued the CSR Rules, 2014, to implement this legislative mandate, which came into effect on April 1, 2014.

Every company with a net worth of at least Rs 500 crore, or a minimum turnover of Rs 1,000 crore, or a minimum net profit of Rs 5 crore, has to constitute a CSR committee dedicated to undertake initiatives such as promoting women’s empowerment, improving maternal health, education, gender equality or ensuring environmental sustainability.

However, the new CSR regime isn’t as simple as it seems. There are issues which will need to be analyzed and addressed before we ascertain the true intention of the legislation.

Areas of doubt in the new CSR Regime

In creating exclusions from net profit, the CSR rules provide the profits of a branch of an Indian company located outside India cannot be merged into the profits of the parent company for the purpose of computing the two percent contribution. In contravention of the very mandate of Section 135, the exclusion is, to that extent, ultra vires.

Also, the law does not treat foreign companies differently and includes foreign companies doing business in India whether by themselves or through an agent or even electronically.

The list of CSR activities provided in the rules seems illustrative and not exhaustive. It, however, suggests the scheduled activities ‘alone’ will be considered for the purpose of CSR. Now, whether or not social activities falling outside the purview of the schedule form a part of CSR activities or not still remains doubtful.

The Act provides that, for CSR spending, a company should give preference to the “local area in which it operates.”

This has given rise to another ambiguity. If a company has more than one operational office in the same city or zone, how should it distribute its CSR spending? What will matter in law, the location of its manufacturing unit or the location of its corporate headquarters?

In excluding contributions directly or indirectly made to a political party from the scope of CSR activity, the law has overlooked contributions made to institutions affiliated with one or more politicians or those located in a constituency represented by a politician who has some form of regulatory supervision or leverage over the entity. Also, with regard to entities being under the trusteeship or office of a politician, the law remains ambiguous.

By law, CSR activities cannot be undertaken “only” for the benefit of the employees and their families. Did the legislation mean “primarily” or “exclusively” benefiting employees? Because, if the legislation meant “primarily,” then any activity which benefits one’s employees, and is extended to other marginalized groups cannot be considered as CSR for the said purpose.

In the Direct Taxes Code 2013, where the deduction for CSR expenditure in backward regions and districts is concerned, the CSR expenditure cannot be allowed as a business deduction as it is an application of income. Allowing a deduction for CSR expenditure would imply that the government would be contributing one-third of this expenditure as revenue foregone.

Was a law needed?

Look at the Hurun India Philanthropy List which is a ranking of 31 Indians who donated more than Rs. 10 crore (equal to USD 1.6 million) in cash or cash equivalent during April 1, 2012, until March 31, 2013.

IT tycoon Azim Hashim Premji emerges as the most generous Indian with a donation of Rs. 8,000 crore in the past year. Education was the most important area for the Indian philanthropists with a total contribution of Rs. 12,200 crore.

It was followed by social development (Rs. 1,210 crore), healthcare (Rs. 1,065 crore), rural development (Rs. 565 crore), environmental cause (Rs. 170 crore) and agriculture (Rs. 40 crore). HCL group Chairman Shiv Nadar is the second highest contributor in the list with a donation of Rs. 3,000 crore.

The Shiv Nadar Foundation, which completed 20 years in philanthropy this year, works towards educational initiatives and expansion programs, directly benefiting 15,000 students across India.

The Wipro chairman who has personally has donated 8.7 percent from his personal stock-holding in Wipro as an endowment for the Azim Premji Foundation and has gone on to pledge more has publicly opposed the mandated spending of 2 percent of a company’s profits on CSR related activities.

While his primary worry remains that, “the stipulation should not become a tax at a later stage,” he feels “spending two percent on CSR is a lot, especially for companies that are trying to scale up in these difficult times. It must not be imposed.” More importantly, he insisted that a distinction should be made between personal philanthropy and CSR, which is a company activity.

While India has taken the initiative to the social initiative regime in the world, the concept of social and economic initiatives being a responsibility of the corporates has gained popularity all over the world.

And the rest follow

The Financial Reporting Council in the United Kingdom is in the process of introducing guidelines for disclosures regarding environmental, social and governance issues of a company. These would finally replace the existing “business review” section of annual reports, and companies would be required to provide complete disclosure about their business activities, including social efforts.

The European Parliament’s Legal Affairs Committee has approved draft legislation on corporate non-financial reporting that require some companies to disclose information about their environmental, social and employee-related impact, as well as their diversity policy.

The CSR regime in India is in a nascent stage and there will be hitches, and a lot of fine-tuning will be required before we hit the perfect balance. What is commendable is the spirit with which India has made her corporates socially responsible and in that, led the world’s most developed nations.

Gajanan Khergamker is an independent editor and legal counsel with over three decades of experience. He heads DraftCraft – an India-based media-legal think tank. His areas of expertise include policy, inclusion, foreign affairs, law, and diversity. His firm’s website is www.draftcraft.in and he can be reached at gajanan@draftcraft.in. Read other articles by Gajanan.