Checklist with respect to Decision on applicability of GST on Directors Remuneration
Applicability of GST on Remuneration to Directors
Why it is a Wake-up call for many
After the decision on Applicability of GST on Remuneration to Directors rendered by Advance Ruling Authority in case of Clay Crafts India Pvt Ltd (AR no RAJ/AAR/2019-20/33 dt 05.02.2020) many articles have been published discussion the facts / merits / ratio of the case on various well-known websites & blogs.
In one of the articles published, this decision has been cited as a “Wake-up Call”. To my mind a WAKE-UP CALL IT IS INDEED BUT not with respect to the fears of getting notices in similar cases from the Department, In my view the wake up call is with respect to going back to the basics & looking within, that is checking the documentation of the companies we advise, audit or may be do some other work for & ascertaining where they stand.
If one goes carefully through the cases that have been cited with respect to the pre-GST Service Tax Regime, where the RCM liability of Service Tax was set aside, one important fact clearly emerges out, and that is, in all those cases a strong documentation was produced by the defending parties to prove why there is no applicability of the tax in their case.
Here I have compiled some of the important decisions that have been cited & discussed by various experts in the field & definitions (from Companies Act 2013) which have been discussed in those articles & tried to conclude with a general checklist for ready reference of all professionals.
Decisions available for reference –
Chintaman Rao Vs. State of M.P, AIR 1958 SC 388 – The concept of employment involves three ingredients: (1) employer (2) employee and (3) the contract of employment. The employer is one who employs, i.e. one who engages the services of other persons. The employee is one who works for another for hire. The employment is the contract of service between the employer and the employee whereunder the employee agrees to serve the employer subject to his control and supervision.
D.C Works Limited Vs. State of Saurashtra, AIR 1957 SC 264 – The determination of the relationship between master and servant is the existence of the right in the master to supervise and control the work done by the servant not only in the matter of directing what work the servant is to do but also the manner in which he shall do his work. The nature or extent of control which is requisite to establish the relationship of employer and employee must necessarily vary from business to business and is by its very nature incapable of precise definition. The correct method of approach, therefore, would be to consider whether having regard to the nature of the work there was due control and supervision by the employer.
Nilgiri Cooperative Market Society Ltd. Vs. State of Tami Nadu, 2004 (3) SCC 514 – Supreme Court laid down following tests for determination of employer employee relationship-
(a) who is the appointing authority;
(b) who is the paymaster;
(C) who can dismiss;
(d) how long alternative service lasts;
(e) the extent of control and supervision;
(f) the nature of the job e.g. whether it is professional or skilled work;
(g) nature of establishment;
(h) the right to reject.
Chennai tribunal in case of Integra Software Services Pvt. Ltd. Vs. CCE & ST, Pondicherry [MANU/CC/0193/2017] -only services provided by director in capacity of director of the company shall be subject to RCM. For other services, liability to pay GST rests with the director.
Employees’ State Insurance Corporation Vs Apex Engineering Pvt. Ltd., reported at 1998 (1) SCT 63 (SC) &Commissioner of Income Tax Vs. B.P. Dalmia reported at (1993) 112 CTR (Cal) 400- Managing Director is an employee of the company.
The test for employment
The term ’employee’ has nowhere been defined in the CGST Act or the rules made thereunder. Therefore, the meaning of the said term along with the presence of the employer-employee relationship is to be inter alia derived from the following tests laid down by the Hon’ble Supreme Court :
a. Whether there exists complete control and supervision on the employee by the employer;
b. Whether the salary or remuneration is paid directly by the employer;
c. Whether the employer has the right to dismiss the employee;
d. Whether the employer has the right to take disciplinary action; and
e. Whether there is continuity of service;
f. Whether the employee has been directly appointed by the employer; and
g. Whether the other provisions of the contract or agreement are consistent with its being a contract of service.
Case Law reference – Balwant Rai Saluja vs. Air India Ltd. [(2014) 9 SCC 407]; Ram Singh vs. Union Territory, Chandigarh, [(2004) 1 SCC 126]; Workmen of Nilgiri Coop. Mkt. Society Ltd. vs. State of T.N. [(2004) 3 SCC 514], Bengal Nagpur Cotton Mills vs. Bharat Lal, [(2011) 1 SCC 635]; and National Aluminium Co. Ltd. v. Ananta Kishore Rout & Ors., [(2014) 6 SCC 756]
It must also be borne in mind that in cases where a Managing Director or an Executive Director is treated as a principal employer, she or he may carry a dual capacity of being the principal employer as well as the employee. Such a view has recently been upheld by the Hon’ble Supreme Court in Venus Alloy 4 after taking note of the definition of employee under the Employees’ State Insurance Act, 1948 (‘ESI Act’).
Case Law reference – ESIC vs. Venus Alloy Pvt. Ltd. [Civil Appeal No. 1464 of 2019, decided on 05.02.2019]
In the case of Monitron Securities v. Mukundlal Khushalcnand 2001 LLR 339 (Guj HC) it was held that if a director is performing duties and is working for the company, he will come within purview of an ‘employee’ –
Ram Prasad vs. CIT – (1972) 86 ITR 122 (SC) – A director of a company, as such, is not a servant but an agent inasmuch as the company cannot act in its own person but has only to act through directors who qua the company have the relationship of an agent to its capacity. Whether or not a managing director is a servant of the company apart from his being a director can only be determined by the articles of association and the terms of his employment. The assessee was appointed as Managing Director for 20 years and was also a major shareholder. The Hon. Supreme Court in this decision has recognized the dual capacity of being engaged by the company – As a Director for stewardship and as an employee for actually managing the Company.
CIT vs. L. Armstrong Smith (1946) 14 ITR 606 (Bom) – Salary—Employer-employee relationship—Remuneration of chairman and managing director— Assessee, director of a company holding almost all the shares, working asa chairman and managing director and getting remuneration as provided by articles of association of the company —There is a contractual relationship between the company and the assessee of employer and employee—Remuneration received by assessee is, therefore, chargeable under s. 7 as salary
R. Kothandaraman vs. CIT (1966) 62 ITR 348 (Mad) – Salary—Accrual—Assessee is managing director of a company—Agreement invested assessee with extensive powers of management subject to superintendence, direction and control of board of directors and subject also to provisions of memorandum and articles of association—Relationship between the company and assessee is that of an employer and employee—Agreement was a contract of service—Therefore, monthly remuneration credited to assessee represented his salary— Company debited the whole of salary following a resolution of board of directors—Agreement did not provide for such stopping payment of remuneration—Further, entries in the books of the company did result in accrual of salary from month to month—Denial, withdrawal or waiver, if at all, occurred subsequent to assessment year—Remuneration rightly brought to tax
Whole Time Director – Section 2(94) of the Companies Act, 2013 defines the term ‘whole-time director’ as a director, who is in the whole-time employment of the company
Managing Director – Section 2(54) of the Companies Act, 2013 defines ‘managing director’ as a director who, by virtue of the articles of a company or an agreement with the company or a resolution passed in its general meeting, or by its Board of Directors, is entrusted with substantial powers of management of the affairs of the company and includes a director occupying the position of managing director, by whatever name called
Executive Director – Rule 2(1)(k) of the Companies (Specification of definitions details) Rules, 2014 defines it to mean a whole Time Director as defined in Section 2(94) of the Companies Act, 2013.
Employee – as per the Explanation to Rule 12 of the Rules issued under 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
(i) an employee who is a promoter or a person belonging to the promoter group; or
(iki) 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 Section 2(59) : “Officer” includes any director, manager or key managerial personnel or any person in accordance with whose directions or instructions the Board of Directors or any one or more of the directors is or are accustomed to act;
Section 2(60) : “Officer who is in default” for the purpose of any provision in this Act which enacts that an officer of the company who is in default shall be liable to any penalty or punishment by way of imprisonment, fine or otherwise, means any of the following officers of a company, namely :
(i) whole-time director;
Check List –
1. Power to appoint / terminate / remunerate Whole time (WTD) / Managing (MD) / Executive Director (ED) flows from Articles of Association & is generally delegated to the Board of Directors
2. It does not matter if the Board which usually represents majority share holders appoints one or more from them as WTD / MD / ED
3. This power has to be exercised by BOD in a meeting by passing a resolution
4. The resolution needs to specify the nature of compensation payable / period of employment / powers & duties to be performed by WTD / MD / ED
5. If more than one such persons is appointed then their duties / responsibilities /areas of work should be clearly defined
6. Preferably a formal agreement can be made between the company and such personnel specifying the terms & conditions of their appointment
7. These personnel can be remunerated partly by way of fixed remuneration (which preferably should be paid / credited to his account on monthly basis) and partly by way of commission based on profits of the company to be paid yearly
8. TDS to be made u/s 192 of ITA from such payments & Form 16 needs to be issued to them
9. These personnel need to disclose such payments received from the company under the head Income from Salaries
10. All the compliances made by the company with MCA should bear sign of such persons & they should be mentioned as Key Managerial Personnel in the MCA filings
11. Various contracts / agreements / loan & borrowing documentation with Bankers & NBFC’s be signed by such personnel
12. Correspondence with various Government Authorities can be signed by such personnel
13. If company is covered under EPF / ESI schemes, then such personnel can be included under the same
14. Copies of ITR filed by these personnel will also be helpful in establishing that they are exclusively associated with the company & devoting full time to the company
CA Deepak Gadgil- Solapur, Maharashtra
Note – the cases referred to in this article have been cited & discussed in various articles published on the issue in the past week on reputed websites & blogs