The question of taxability of director’s remuneration has been a subject matter of dispute so far as taxability is concerned. The recent advance rulings on the subject have created more confusion than clarity on this issue. Here is an attempt to look into the taxability aspect in the light of law and advance rulings.
Supply – meaning and scope
Section 7 of the CGST Act, 2017 provides the definition of supply. Section 7(2)(a) provides the activities or transactions specified in Schedule -III would be treated neither as a supply of goods nor a supply of services. Section 7(2) is a non-obstante clause starting with “Notwithstanding” which overrides Section 7(1) and hence even if an activity or a transaction is covered under the scope of supply if the same finds place in schedule III, it would not be supply of either goods or service.
S.No. 1 of the Schedule III ibid treats the services by an employee to the employer in the course of or in relation to his employment neither supply of goods nor supply of services.
In this cotext, it would be important to analyse whether the service of director to the company would be service by an employee to the employer, in which case the same cannot be a supply and hence, there is no question of levy of GST either in the hands of the company under reverse charge basis or in the hands of the director himself.
Employee and Employer relationship
The terms employee and employer are not defined under the GST Act and the same must be understood in common parlance and with the aid of other laws.
Explanation to Section 62(1)(b) of the Companies Act, 2013 defines employee as under:
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.
From the above definition of the Companies Act, it is very clear that the other than the independent director, all other directors either whole time or otherwise is considered as employees of the company.
Section 149(6) defines the independent director to mean a director other than a managing director or a whole-time director or a nominee director.
So, it is ample clear that the managing director, a whole-time director and a nominee director shall be considered as employees of the company.
However, in case of other directors who are not executive directors but are simplicitor director on the board and also don’t get salary from the company are not employees of the company. Such directors do not earn salary but are remunerated by way of sitting fees or in any other manner but not salary.
The acid test for taxability is therefore, employment which can be substantiated by the following evidences:
a) Employment contract or appointment letter
b) Board resolution
d) Section under which TDS has been deducted
e) Accounting entry for salary or remuneration
The clear interpretation of section 7 read with entry (i) of schedule 1 would therefore, indicate that if employer employee relationship exists, GST may not be leviable.
Advance Rulings on GST on director’s remuneration
The relevant Advance Rulings are briefly discussed hereunder:
The applicant was in the business of providing consultancy services, like surface survey and map making, project management consultancy services for construction projects, engineering advisory services and technical testing analysis services etc. to the general public, State Government agencies, and Central Government throughout the country.
It sought advance ruling in respect of the question as to whether the expenses incurred by the Staff members on behalf of the company exceeding Rs. 5000 a day and then reimbursed periodically are liable to tax. Whether Reverse Charge Mechanism (RCM) is applicable on remuneration paid to the Directors.
Further, it was observed that 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 section 2(93) and the supplier of such service is the director. The question was not whether this service is taxable or not, but whether this supply of services is liable to tax under reverse charge mechanism.
However, ruling did not consider or examine Schedule III nor did examine the facts that if such director was appointed as employee or otherwise and therefore. This cannot be universally applied but would depend on specific facts.
The applicant was a private limited company consisting of six directors and all of them working at different level of management and each one of them was holding charge of procurement of raw material, production, quality checks, dispatch, accounting etc. They were therefore, working directors.
Consideration in form of salary and commission paid to the Directors by the company was against the services provided by them to the company and the company is recipient of such service and Directors are the supplier. Further, the applicant was already paying GST by way of reverse charge mechanism on the commission paid to the Directors treating such amount as pertaining to the service provided by them in the capacity of a Director.
The applicant sought Advance ruling on whether GST is payable under Reverse Charge Mechanism (RCM) vide Notification No. 13/2017- Central Tax (Rate) dated 28-6-2017 on the salary paid to Director of the company who is paid salary as per contract. Further, whether the situation would change from (a) above if the Director also is a part time Director in other company also.
It was observed that the consideration paid to the Director for the supply of services to the Company is specifically covered under Notification No. 13 /2017- Central Tax (Rate) dated 28.06.2017 and GST payable under reverse charge basis.
It was further observed that consideration paid to the Directors is against the supply of services provided by them to the applicant company and are not covered under clause (1) of the Schedule III to the CGST Act, 2017 as the Directors are not the employee of the Company. In the instant case, Director was the supplier of services and the applicant company is the recipient of the services. So it is very clear that the services rendered by the Director to the company for which consideration is paid to them in any head is liable to pay GST under Reverse Charge Mechanism.
Notification No. 13/2017- Central Tax (Rate) dated 28.06.2017 has given the distinct identity to the services provided by the Director and specifically included in the category of service on which GST will be payable under RCM.
It therefore, ruled that:
a) The consideration paid to the Directors by the applicant company will attract GST under reverse charge mechanism as it is covered under entry No. 6 of Notification No. 13/2017-Central Tax (Rate) dated 28.06.2017 issued under section 9(3) of the CGST Act, 2017.
b) Situation will remain same as (a) above and will attract GST under reverse charge mechanism.
This ruling gives an impression that the directors are not employees without any reasoning and without considering factual matrix in the case as to terms of appointment of director, TDS and PF deduction etc. and this advance ruling appears to be based on a wrong footing and on the premise that directors are not employees or directors cannot be considered as employees. This appears to be illogical.
Both the advance ruling has erred and missed the basic essence that the employment service is not subjected to GST whether such employment is that of a director or any other designation.
The facts of the case is not a question as to whether remuneration paid to full time director by the Company is liable for GST under RCM or not, as in the case of AAR, Rajasthan. In this case, the applicant being an unregistered person seeking Advance Ruling as to whether income received from various sources form part of the “Aggregate Turnover” for the purpose of obtaining registration under section 25 of CGST Act, 2017.
The applicant was in receipt of incomes from various sources such as partner’s salary as partner from partnership firm, Salary as director from Private Limited company, Interest income, Dividend on shares, Rent on Commercial Property, rent on Residential flat etc
While the Authority recorded that income received, i.e. interest income received from various sources are includable in aggregate turnover as the activities amount to supply as per section 7 of the CGST Act, 2017. However, on salary received in the capacity of Director of a company, the AAR held that there could be two possibilities with regard to salary as a Director. One is he may be an Executive Director and in this case, he becomes an employee of the company and services provided by employee to employer is neither supply of goods nor supply of service in terms of Schedule III of CGST Act, 2017.
Another possibility is that he may be a nominated director (Non- Executive Director) and in such case, remuneration paid by the company to the Director is liable for GST under Reverse Charge Mechanism in terms of section 9(3) of CGST Act read with Notification No.13/2017-CT (Rate) dated 28.06.2017.
It was ruled that the remuneration received by the applicant as Executive Director is not includable in the aggregate turnover, as it is the value of the services supplied by the applicant being an employee. Further if the applicant receives the remuneration as a Non-Executive Director, such remuneration is liable to tax under reverse charge mechanism under section 9(3) of the CGST Act 2017, in the hands of the company, under entry no 6 of Notification No. 13/2017-Central Tax (Rate) dated 28.06.2017. Thus, the value of the said services of the applicant being a Non-Executive Director are includable in the aggregate turnover, as it is the value of the taxable services supplied by the applicant, though the tax is discharged by the private limited company, under reverse charge mechanism.
The Karnataka AAR ruling pronounced on 04.05.2020 within a short span of time from Clay Craft ruling dated 20.02.2020 provides a ray of hope as we now have two different interpretations, though on the basis of misunderstood facts and short sighted interpretation in M/s Clay Craft Case.
As expected, CBIC has come out with a clarificatory circular and has clarified that the part of Director’s remuneration which are declared as “Salaries‟ in the books of a company and subjected to TDS under Section 192 of the Income Tax Act, 1964 are not subject to GST and shall not be treated as supply in terms of Schedule III of the CGST Act, 2017.
It has been further clarified that the part of Director’s remuneration which is declared separately other than “salaries” in the Company’s accounts and subjected to TDS under Section 194J of the Income Tax Act, 1964 as Fees for professional or Technical Services shall be treated as taxable supply for GST and company is liable to discharge the applicable GST on it on RCM basis. This settles the confusion resulting from the two divergent rulings.
Going by the statutory provision of the GST law on exclusion of employer – employee transactions from levy of GST, reverse charge mechanisms and the three rulings on hand which are different facts, it appears that the advance ruling in case of Anil Kumar Agarwal is more balanced, conveys the sense of law and has also understood the query of the applicant in right perspective. Read harmoniously along with CBIC clarification, it can be interpreted that while directors’ salary is not taxable, director’s remuneration is taxable under RCM. Further , circular makes it clear now and the part of Director’s remuneration which is declared separately other than “salaries” in the Company’s accounts and subjected to TDS under Section 194J of the Income Tax Act, 1964 as Fees for professional or Technical Services shall be treated as taxable supply for GST.
It would be advisable for companies to document the transaction between directors as employee and director as non-executive director elaborately so that no dispute arises and the tax payers are saved from harassment.