These days of lockdown when a tax professional opens up its social messaging app, he would find ten messages on COVID-19 and one message on RCM on the remuneration to directors. This advance ruling has taken directors by storm and has created havoc. Let's see in the detail what was the question and what was answered and whether RCM applies to remuneration to directors.
The question before the AAR was whether remuneration paid to the directors is liable to RCM or not?
Advance Ruling in the case of Alcon Consulting Engineers (India) (P.) Ltd. [2019] 110 taxmann.com 357 (AAR - KARNATAKA) analysis
This tale started from the first ruling Alcon Consulting Engineers (India) (P.) Ltd.[2019] 110 taxmann.com 357 (AAR - KARNATAKA) the first advance ruling authority before which this question arose. When submissions concerning this advance ruling were made,there were no rigorous submissions on the subject. Instead, a one-liner question was asked. While going through the discussions and findings, it was seen that authority just wrapped off this question in two paras
"5. Regarding the remuneration to the Directors paid by the applicant, the services provided by the Directors to the company are not covered under clause (1) of the Schedule III to the Central Goods and Services Tax Act, 2017 as the director is not the employee of the company. The consideration paid to the director is in relation to the services provided by the director to the company and the recipient of such service is the company as per clause (93) of section 2 of the CGST Act and the supplier of such service is the director.
5.1 The question before us is not whether this service is taxable or not, but whether this supply of services is liable to tax under reverse charge mechanism. "
Neither applicant had spent the time to prove that there was an employer-employee relationship between Director and Company norRuling Authority took time to establish in detail that there was no possibility of such kind of relationship. Instead, authority just took a sideway deciding the remuneration was liable to RCM without determining its taxability. Hence, this ruling was irrelevant.
Advance Ruling in the case of Clay Craft Indian Private Ltd RAJ/AAR/2019-20/33 (AAR-RAJASTHAN)
Interestingly this advance ruling started the business from where the AAR-Karnataka had left off. They said that previous ruling had already decided that there should be levy RCM, so it went on further to determine whether there can be an employer-employee relationship between directors and company as per Schedule III of CGST.
Unlike the previous ruling, this case was argued in a better manner, and the authority did not give certain arguments proper attention. They are as follows:
1. They had brought the definition of the employee. The term employee is not being defined in GST. As a result, they had drawn the meaning from Cambridge Dictionary "someone who is paid to work for someone else. Now it was important for AAR to consider the difference between two roles owners, i.e. Shareholder and employee, i.e. Directors as directors are merely an employee of shareholders.
2. Under the Companies Act, 2013, the Managing Director/Manager is defined. Wherein it is mentioned that the company may entrust any of the directors with powers of management and such arrangement may be done under the agreement with the company.Directors were being allotted different work at a different level of the company, and each one of them was holding charge of procurement of raw material, production, quality checks, dispatch, accounting, etc. Just like any other employee of the company.
3. It was submitted that TDS under section 192 of the Income Tax Act, i.e. TDS on Salary was deducted.
4. It was also submitted that Directors, apart from being directors, were given several other responsibilities whereby bring them under the definition of the employee. They had also placed reliance on the PF Act.
5. Reliance was also placed on the articles of association of the company wherein it was mentioned that any director from time to time mighthold the office of Managing Director and he may draw salary from time to time.
These were the summary of the arguments that were placed before the authority but were grossly rejected. It would be interesting to note that even the department in their submission before the advance ruling authority instead of objectingthe submissionsmade by the applicant they just said that it is not eligible under Schedule III of CGST Act. It would be interesting to note that even in the order passed by the advance ruling authority in the discussion para no reasons were provided by the advance ruling authority for denying the submissions made by the applicant. There are various judgements under were non-speaking orders are not valid. Hence, there are chances that in case of an appeal, this order may not sustain.
We would like to draw attention to specific other points to determine employee and employer relationship between director and company:-
1. While analysing the relationship of the director and company it would be worth to address that directors are having the following powers as per section 175 of Companies Act 2013:-
a. Make calls on shareholders
b. Authorise the buyback of securities and shares
c. Issue securities and shares
d. Borrow monies
e. Investing the funds
f. Grant loans
g. Approve the financial statement
h. Approve amalgamation/merger
i. Diversify the business
j. Take over a company
If we refer to the above list, there is no were mention regarding the fact that director would take care of the day to day activities of the company. So to carry out the above functions, the directors would exercise the powers in the board meeting for which they would be paid sitting fees. Whereas to take care of day to day management of the company director can be paid salary and would have an employer-employee relation. Director’s sitting fees would be covered under RCM, but the salary would remain outside the ambit of RCM.
2. We would also need to appreciate that when the directors are doing any other functions, it is covered by a contract. The situation is to be examined in the manner that what kind of contract is existing between the company and the director. Instead of getting divulged by the designation, he is holding. Hence, if the contract entered is for employment, then it would remain employment under any situation whether the individual is director or not.
3. If a close look is also given to the Companies Act, we need to address that there are certain types of directorships that are present in the company:
a. Whole-time director/Managing Director: As per section 2(94) of the Companies Act, 2013
"whole-time director" includes a director in the whole-time employment of the company
Hence, definition under the Companies Act is acknowledging the fact that the whole-time directors can be under the employment if the contract is being entered as such. Further, for the purpose of being Managing Director, there is a precondition of becoming the whole-time director. Hence, in the case of the managing Director and whole time director they would be covered under contract for the employment under that situation it would clearly form part of Schedule III of the CGST Act and would be out of the scope of GST.
b. Companies Act 2013, for Section 62(1)(b) of the Companies Act, 2013,
"Employee" means- (a) a permanent employee of the company who has been working in India or outside India; or
(b) a director of the company, whether a whole-time director or not but excluding an independent director; or
(c) an employee as defined in clauses (a) or (b) of a subsidiary, in India or outside India, or of a holding company of the company
but does not include-
(i) an employee who is a promoter or a person belonging to the promoter group; or
(ii) a director who either himself or through his relative or through anybody corporate, directly or indirectly, holds more than ten percent of the outstanding equity shares of the company.
Hence, as per the Companies Act, a director can be an employee, and he may draw a salary which would not invite any RCM obligation.
c. Executive Directors: Attention is also invited to the fact that there are executive directors and non-executive directors on the board of the company. The executive directors are also on the employment with the company, and non-executive directors are not on the employment of the company. While filing Form DIR-12 clearly this fact is required to be mentioned to the MCA. Hence, in the case if the director is appointed as executive director, then he would clearly fall in the ambit of the Schedule III and GST would not apply to the salary paid to the directors.
4. Judicial precedents
a. Under the Income Tax Act, this issue was discussed whether the remuneration paid to the directors is salary and its TDS is to be deducted under section 192. In the case of Ram Pershad v. CIT - [1972] 2 SCC 696 apex court held that to identify the relationship and control of the directors the deciding the factor would be contract with the directors and Articles of the association. Hence, if by virtue of these documents if you can satisfy that director is also working the capacity of the employee, the remuneration paid would be exempted as per the schedule III.
b. Under the Employees State Insurance Act, this issue was discussed in the case of Employees State Insurance Corpn. v. Apex Engg. (P.) Ltd. [1998] 1 SCC 86 by the apex court. It had held that Directors of a company, who are receiving remuneration, would fall within the definition of an "employee" as provided under Section 2(9) of the Employees' State Insurance Act, 1948 ('Act') and that the company is bound to deposit contributions in relation to the remuneration paid to such Directors.
c. It would also be pertinent to note that we already had a similar provision under Service Tax and had the same controversy. This issue was being discussed in the case of Allied Blenders And Distillers (P.) Ltd Vs. Commissioner of Central Excise & Service Tax, Aurangabad[2019] 101 taxmann.com 462 (Mumbai - CESTAT) before the Mumbai CESTAT during argument tribunal had taken note that there was an appointment letter, articles of association were supporting board resolution. During hearing returns of Employee Provident Fund was also being furnished the tribunal gave the ruling in the favour of the assesses stating as follows:
"15. ..... To discredit the said statement, no contrary evidence was produced by the Revenue to establish that the directors are not involved in the day to day function of the company, but participate only in Board Meetings and consequently paid remuneration.
16. Also, from the documents produced by the Appellant it is crystal clear that the Directors who are concerned with the management of the company, were declared to all statutory authorities as employees of the company and complied with the provisions of the respective Acts, Rules and Regulations indicating the director as an employee of the company. No contrary evidence has been brought on record by the Revenue to show that the Directors, who were employee of the appellant received amount which cannot be said as 'salary' but fees paid for being director of the company. The Income Tax authorities also assessed the remuneration paid to the said directors as salary, a fact cannot be ignored. The judgments cited by the revenue cannot be applied to the present case as the facts are different and the finding of Income tax authorities accordingly also different in the said case."
d. Even before that when there was no negative list service tax department in the case of Rent Works India Pvt. Ltd. V. Commissioner of Central Excise, Mumbai-V before the Mumbai Tribunal had tried to classify director remuneration as management Consultancy services. The Hon'ble Tribunal, in this case, had held that the Income Tax Department is a branch of the Revenue Department, and so is Service Tax Department. Hence, there cannot be such a situation where the Income Tax Department is treating director remuneration as salary and Service Tax Department is treating it as management consultancy service. Such kind of conflicting interpretations cannot be taken, and hence, the amount paid to the directors should be classified as salary, not as Management Consultancy Service.
5. What care you need to take now?
a. The companies should have proper board resolution with respect to the amount directors are entitled to "Salary."
b. Mark the directors as Executive Directors specifically in the resolutions and Form DIR-12
c. Wherever possible, classify directors as Whole Time Directors/Managing Director wherever applicable
d. Have a proper appointment letter with having appropriate conditions, salary and other emoluments also define their scope of work
e. Deduct TDS under section 192 and issue Form 16 from time to time
f. Pay salary on a monthly basis regularly.
g. If your company is liable to ESI or PF, please ensure that the same is being deposited with respect to this employee directors also.
h. Maintain attendance records; they can come handy to prove that are regularly involved in the work.
Disclaimer: Though almost care is being taken to prepare this update. However, in case of error or omission, neither Abhay M Sharma & Co nor its partners would be liable for the same. This presentation is merely informative and cannot be termed as professional advice. Views expressed are strictly personal and in case of any difficulty or correction, it should be bought to notice immediately.
CAclubindia
