Carry Forward of Foreign Tax Credit; Deduction of CSR Exp. - Interesting Article

[Shakunca]

Under the Income Tax Act, 1961 -

a) Should Carry Forward of unutilized Foreign Tax Credit be allowed?
b) Is there a need for specific provision for deduction of CSR Expenditure (mandated by the Companies Act, 2013)?

Please find Article at the link: http://www.caclubindia.com/articles/views-on-budget-expectations-20950.asp#.U7pO4PmSyAg

[pawansingla]

1. Introduction
1.1   The Finance Bill, 2014 has brought a very radical and far reaching amendment, as far as CSR expenditures are concerned.
1.2   There was a lot of expectation that as a corollary to the CSR related amendment in the Companies Act there will be a corresponding amendment in the Income Tax Act, allowing CSR expenditures as deductions under section 37.
1.3   On the contrary the Finance Bill as proposed that CSR expenditure shall not be allowed as expenditure under section 37. However, any CSR expenditure which is allowed as deduction under other sections such as section 35 is permissible.
2. CSR Related Amendments
2.1   The Finance Bill, 2014 has proposed to insert a new Explanation in sub-section (1) of section 37 so as to clarify that for the purposes of sub-section (1) of the said section, any expenditure incurred by an assessee on the activities relating to corporate social responsibility referred to in section 135 of the Companies Act, 2013 shall not be deemed to be an expenditure incurred by the assessee for the purposes of the business or profession. This amendment will take effect from 1st April, 2015 and will, accordingly, apply in relation to the assessment year 2015-16 and subsequent years. The proposed amendments are as under:
13. In section 37 of the Income-tax Act, in sub-section (1), the Explanation shall be numbered as Explanation 1 thereof and after Explanation 1 as so numbered, the following Explanation shall be inserted with effect from the 1st day of April, 2015, namely:—
"Explanation 2.—For the removal of doubts, it is hereby declared that for the purposes of sub-section (1), any expenditure incurred by an assessee on the activities relating to corporate social responsibility referred to in section 135 of the Companies Act, 2013 shall not be deemed to be an expenditure incurred by the assessee for the purposes of the business or profession.".
2.2   This proposed amendment is a great setback and may defeat the real purpose of bringing CSR related amendments in the Companies Act, 2013. For example a corporate now will be motivated to contribute to those statutory funds were 100% deduction is available. For instance a corporate can implement a CSR programme by contributing to the various development programme. It can also comply with CSR provision by contributing to funds like National Defence Funds or other funds where 100% tax exemptions are available. After the proposed amendments the companies would be motivated to spent CSR money only on those areas where tax exemptions are available. In other words all other areas will virtually become redundant. There is a strong need to revisit this provision and the companies should be allowed to deduct CSR expenses under Section 37.
3. Overview of the Tax Implications
3.1   The Companies Act requires at least 2% of average Net Profit to be spent on CSR. In other words the requirement of Companies Act essentially indicates appropriation of surplus net income for charitable purposes. It does not indicate any statutory charge against the gross income. It may be noted that all expenditures are legal charge against the gross income. On the contrary, CSR expenditure is an appropriation of net income. Therefore, the provisions of the Companies Act create confusion by making CSR a post 'net profit' issue. Ideally, CSR expenditure being a legal requirement should be permitted to be deducted as expenditure under section 37(1) of the Income Tax Act, though there is no statutory clarity in this regard.
3.2   CSR being a statutory requirement should be treated as a valid charitable expenditure, otherwise it would be big disincentive to the Companies. If CSR is not treated as a valid expenditure, then the Companies would be motivated to give funds to only those organisations where they get maximum tax benefit. For instance, Prime Minister Relief Fund, National Defence Fund or organisations notified under Section 35 or 35AC or 80G. Such organisations provide 100% tax benefit. It may be noted that only few organisations such as Prime Minister Relief Fund, National Defence Fund provide 100% benefit, under Section 80G only 50% benefit is available to the donor.
3.3   CSR laws permit expenditure on capacity building of employees and on local area development. Such expenditures, could earlier be directly claimed as CSR expenditures under section 37(1) of the Income Tax Act. In other words, there are certain categories of CSR expenditures which can be charged against income within the existing provisions of the Income Tax Act. However, with the proposed amendments any expenditure under CSR will not be allowed as deduction under section 37.
3.4   There were many case laws where it was held that such expenditures should be treated as admissible expenditure. Now all such judicial precedence will be nullified from a CSR prospective. For instance a company can claim expenditure towards local area development as CSR expenditure. Now with the proposed amendments the company will be motivated to claim such expenditure as normal business expenditures and not CSR expenditures, in the light of the case laws discussed under.
3.5   Afforestation expenses: In the case Orissa Forest Development Corp. Ltd. v. Jt. CIT [2002] 80 ITD 300 (Cuttack), it was held that expenses incurred by the corporation in plantation of new trees was a revenue expenditure, even though there was no statutory obligation on the part of the assessee to incur such an expenditure.
3.6   Drinking water facilities to local residents: In the case CIT v. Madras Refineries Ltd. [2004], 266 ITR 170/138 Taxman 261 (Mad.) it was held that development of local and establishing drinking water facility for local area people was a valid expenditure. It was observed that the concept of business is not static. It has evolved over a period of time to include within its fold the concrete expression of care and concern for the society at large and for the people of the locality, in which the business is located in particular. Being known as a good corporate citizen brings goodwill of the local community, as also with the regulatory agencies and the society at large, thereby creating an atmosphere in which the business can succeed in a greater measure with the aid of such goodwill. Monies spent for bringing drinking water, as also for establishing or improving the schools meant for the residents of the locality in which the business is situated cannot be regarded as actually outside the ambit of the business concerns of the assessee, especially when the undertaking owned by the assessee is one which is to some extent a polluting industry. Hence, expenditure incurred by the assessee for establishing drinking water facilities for the residents in the vicinity of its refinery and for providing aid to the schools run for the benefit of the children of those residents was allowable as deduction.
3.7   Donation can also be claimed under section 37(1): If the contribution made by an assessee is in the form of donations of the category specified under section 80G, but it could also be termed as an expenditure of the category falling under section 37(1), then the right of the assessee to claim the whole of it as allowance under section 37(1) cannot be denied - Mysore Kirloskar Ltd. v. CIT [1987] 166 ITR 836/30 taxman 467 (Kar.).
3.8   Admissibility of donation if proved as relatable to carrying on of business : In the case CIT v. Industrial Development Corp of Orissa Ltd. [2001] 249 ITR 401/115 Taxman 626 (Orissa) the Hon'ble Odisha High Court held that even donation can be treated as business expenditures, provided such donation can be related with the business of the assessee. In this case the donation was disallowed as there was nothing on record to establish that the donation made by the assessee to the Chief Minister's Relief Fund was directly connected with and related to the carrying on of the assessee's business. However, this case provides a landmark ratio of allowing donation as business expenditure. In the case of mining Companies as the funds are specifically for the local area development under CSR, there is no reason why such expenditures should not be allowed under section 37(1).
4. Concluding remarks
4.1   Overall the proposed Finance Bill, 2014 has created a fix with regard to the admissibility of the CSR expenditures. It is the job of the government to align various legislations. The Companies Act mandates various types of CSR expenditures. As discussed above, giving grant to Prime Minister Relief Fund, National Defence Fund is a CSR expenditure at the same time there is a list of priority activities, which the companies should do under CSR. The Hon'ble Finance Minister in his budget speech declared that slum development will also be included as CSR expenditure.
4.2   However, differential tax treatment of the legally permissible CSR expenditure will defeat the very purpose of enacting CSR. Why should a company incur CSR expenditure on priority areas without having any tax benefit, when it can incur the same expenditure with 100% tax deductions. The Government should provide a level playing ground for all kind of CSR expenditure.