CSR Obligations Under Section 135: Common Defaults and How to Avoid Them

Corporate Social Responsibility obligations under Section 135 of the Companies Act, 2013 apply to a significant number of Indian companies. The framework has been substantially tightened since its introduction, including through the 2021 amendments that made unspent CSR funds subject to mandatory transfer to specified funds. Non-compliance carries real consequences, and the MCA has been increasingly active in scrutinising CSR disclosures.

Which Companies Are Covered

Section 135 applies to every company that has a net worth of Rs. 500 crore or more, a turnover of Rs. 1,000 crore or more, or a net profit of Rs. 5 crore or more during the immediately preceding financial year. The obligation applies based on any one of these criteria being met.

Once a company meets the threshold, it is required to constitute a CSR Committee of the Board, comprising three or more directors with at least one independent director (for companies required to have an independent director). Companies with only two directors on the Board are required to have a two-member CSR Committee without the independent director requirement.

The Spending Obligation

The company is required to spend, in every financial year, at least 2% of the average net profits of the company during the three immediately preceding financial years, on CSR activities. Net profit for this purpose is calculated in accordance with Section 198 of the Act.

Where the company has not completed three financial years, the average is calculated based on the years for which the company has been in existence. A company incorporated in the current year, for example, would have no CSR obligation in its first year of operation.

Eligible CSR Activities

Schedule VII to the Companies Act lists the eligible areas for CSR spending. These include eradicating hunger, poverty, and malnutrition, promoting education, promoting gender equality and empowering women, ensuring environmental sustainability, protection of national heritage, measures for the benefit of armed forces veterans, training to promote rural sports and nationally recognised sports, contribution to the Prime Minister's National Relief Fund or similar government funds, and promotion of social business models.

CSR activities must be undertaken through a registered trust, society, or a company established under Section 8 of the Companies Act, or directly through the company's CSR arm, or through entities established by the Central or State Government. Activities that benefit only employees of the company and their families do not qualify as CSR.

The 2021 Amendment: Unspent Funds

The 2021 amendment introduced mandatory transfer requirements for unspent CSR funds. Where the company has not spent the required CSR amount in a financial year, and the unspent amount is not related to an ongoing multi-year project, the company must transfer the unspent amount to the PM's National Relief Fund or any other fund specified in Schedule VII within six months of the end of the financial year.

Where the unspent amount relates to an ongoing project, it must be transferred to a special CSR Unspent Account within 30 days of the end of the financial year and spent within three years from the date of transfer. If not spent within three years, the amount must then be transferred to Schedule VII funds.

Penalties for Non-Compliance

Failure to comply with the CSR provisions exposes the company to a fine of twice the amount required to have been transferred to the PM's National Relief Fund or twice the amount that should have been spent, whichever is less, along with a fine of not less than Rs. 1 crore. Every officer in default is liable to imprisonment of up to three years or a fine of not less than Rs. 50,000, or both.

Companies should maintain detailed records of their CSR spending, including project details, disbursements, and implementation agency agreements, to be able to demonstrate compliance in the event of regulatory inquiry.