Recently the decision of the Advance Rulings Authority of Rajasthan gave its decision in the case of Clay Craft India Pvt. Ltd. – Advance Ruling No. RAJ/AAR/2019-20/33 which has created a ripple in the hitherto sound understanding and for that matter taking for granted that Directors Remuneration is Equivalent to Salary paid to an Employee for this reason, this is the nature of payment that is covered by Schedule III of the CGST Act, as “Services by an employee to the employer in the course of or in relation to his employment” and hence is not a supply and once it is not a supply no RCM is applicable to the same. The Rajasthan AAR in the above decision has held as under:
“It is very clear that the services rendered by the Director to the company for which consideration is paid to them under “any head” is liable to GST under reverse charge mechanism – Applicant company is located in the taxable territory and the Director’s consideration is paid for the supply of services by Directors to the applicant company and hence same is liable to GST under RCM as provided under Entry No. 6 of 13/2017-CTR issued u/s 9(3) of the Act, 2017.”
Though according to the provisions of Sec.103 of the CGST Act the decision of the AAR is binding on the Applicant and its Jurisdictional Officer and in all fairness this decision should be further agitated to reach a reasoned decision, either way, but what it presently does is euphemistically lets the cat amongst the settled pigeons.
Let us analyse the above decision minutely first to do some soul searching exercise, trying to pin certain do’s and don’ts and then to through the historically old regime contextual decisions and relevant other decisions that can be used to understand the real situation and be better prepared in all situations.
- Facts and Arguments put forth by the Assessee in the case of Clay Craft.
– The initiation of this application was based on the decision of Karnataka AAR in the case of Alcon Consulting Engineers (India) Pvt. Ltd. that considered Directors Remuneration as being covered by RCM.
– The above decision had not considered the possibility of the director working in dual capacity as an employee and also as a director and hence this application.
– Board of Directors of Clay Craft had Six Directors, all executive directors with assigned duties and responsibilities.
– Salaries paid to these Six Directors for services rendered by them, which was in addition to their services as directors.
– Salary Paid to the Directors is booked under Salaries and offered for tax as Income from Salaries by the Directors in their personal tax returns.
– PF and TDS laws being complied with on the Salaries paid to the directors.
– Commission and other payments to the directors was being considered for GST under RCM and tax liability was being discharged on the same.
– Employee has not been defined in CGST or SGST Act and put forth the meaning as per Cambridge Dictionary.
– 2(94) of the Companies Act defined ‘Director’ includes a director in the employment of the company.
– The above definition is inclusive definition and refers to a director who has been in employment of the company on fulltime basis and is also entitled to receive remuneration.
– Sec 269 dealing with appointment of managing or whole time director and the explanation ‘appointment’ includes reappointment and ‘director includes director in the employment of the company.
– Department of Company Affairs (DCA) in a Letter dated 29th June 1964 had provided that an employee of the company also appointed as a director of the company is in the position of the director. Therefore conversely any director working as whole time director would be legally at par with an employee.
– Employee as per PF Act and ESI Act was put forth.
– Articles of Association provided for the appointment and remunerating of the Managing Director by the Board of Directors.
– Decision of the Hon. Supreme Court in the case of Ram Prasad vs. CIT – (1972) 86 ITR 122 (SC), which deals with the Agent/Servant determination question was cited in brief.
- Consideration and Answers by the AAR
– Question is whether GST is payable by the company on the consideration paid to the directors for providing services to the company is liable for GST under RCM.
– Consideration is paid to the Directors by the company.
– Consideration paid to the Directors is specifically covered under Notification No. 13/2017 dated 28th June 2017.
– Services Supplied by a Director to the Company are covered by RCM
– Services supplied by the directors are not covered by clause 1 of the Schedule III (Employee Services).
– Services rendered by the Director to the company for which consideration is paid them in any heads is liable for GST under RCM.
In respect of Non-Executive Directors paid Sitting Fees or Commission that may be covered by Sec. 194J (1)(b) the above GST liability and the RCM may be valid. However the nature of payments to Executive/Working Directors is the bone of contention and normally the executive directors are not paid Sitting Fees or commission, but in case they are paid this is also covered by Sec. 192 and not be Sec. 194J(1)(ba) and reason for this article.
In the above decision neither the company has brought out and established clearly with supporting documents and judicial decisions bringing to fore the employee-employer relationship can exist even between a Director and a company in certain circumstances, the pre-gst regime directly decided cases nor has AAR gone into the merits holistically and correctly to give a detailed and reasoned order. The AAR has simply gone by the entry in the Notification and assumed the same to be chargeable to GST and then under RCM.
Some time back, Karnataka AAR in the case of Alcon Consulting Engineers Pvt. Ltd. – KAR ADRG 83/2019 dated 25th September 2019 had similarly held that the Remuneration paid/payable to Directors was subjected to RCM. But the question that was decided by Karnataka AAR was not whether this service is taxable or not, but whether this supply of service is liable to tax under reverse charge mechanism.
The Notification 13/2017 dated 28th June 2017 and the relevant entry.
From the plain reading of the above Entry and also as being applied by the Advance Ruling Authorities any payment to a director under any head is covered by the above and RCM would apply. The question that is not being dealt with is about the taxability first, what is being decided and dealt with is ‘assumption of the applicability of GST and then coverage of the same under RCM and answered yes’.
There is a basic fallacy in such understanding and assumption.
a. If the director rents out an Immovable Property for which Rent is paid by the company shall that be Supply of Real Estate Services or Directors Services?
b. What if the immovable property is Residential and exempt from tax. Assumption of the Taxability and putting it in RCM would be against the Charging Provisions.
c. The Director has a proprietary firm supplying services under the proprietary firm name (same PAN). Shall these be classified as services provided by the Director? Technically yes, but what if these services are typically under forward charge. These services could also be exempt services.
d. The Pain point could be the Personal Guarantee by the director of the Bank Loan granted by the Bank to the company. The Loan documents are signed in dual capacity as director for the company and in personal capacity this is guaranteed and at times with a personal asset being mortgaged. The guarantee is purely in the Personal Capacity.
What is being missed out is the Category of the Supply of Service and the reference to the Director is limited only for the purpose of Services as a Director only. The nature of payment is not “Person-Centric’ but ‘Nature of payment Centric’ i.e. it is not qua a person but qua the kind of payment first.
Pre-GST Regime Decisions
The chargeability of Service Tax on the Directors Remuneration (Salary) and coverage under RCM after 7th August 2012 has already been decided in favour of the assessee in the following decisions. The reasoning of the same in one of the decisions would be a very moot deciding factor in all cases and a point in favour of the assessee. But while deciding the same one also has to keep in mind that the very basics of the challenge, which is founded on the treatment of such payment under the Income Tax Act, may also stand challenged, not by the GST Authorities, but by the Income Tax Authorities in certain cases as explained in the following relevant paragraphs.
- M/S. MAITHAN ALLOYS LTD. Vs CCE & ST, BOLPUR – 2018 ACR 927 CESTAT Kolkata
Remuneration to whole time director cannot be subjected totax on reverse charge basis.
A whole-time director refers to a director who has been in employment of the company on a fulltime basisand is also entitled to receive remuneration. The position of a whole-time director is a position ofsignificance under the Companies Act. Moreover, a whole-time director is considered and recognized as a‘key managerial personnel’ under Section 2(51) of the Companies Act. Further, he is an officer in default [asdefined in clause (60) of section 2] for any violation or non-compliance of the provisions of Companies Act.
Thus, the whole time director is essentially an employee of the Company and accordingly, whatever remuneration is being paid in conformity with the provisions of the Companies Act, is pursuant to employer– employee relationship and the mere fact that the whole time director is compensated by way of variablepay will not in any manner alter or dilute the position of employer – employee status between the companyassessee and the whole time director. When the very provisions of the Companies Act makes whole time
Director (as also in capacity of key managerial personnel) responsible for any default / offences, it leads tothe conclusion that those directors are employees of the assessee company.
The appellant has duly deducted tax under section 192 of the Income Tax which is the applicable provisionsfor TDS on payments to employees. This factual and legal position also fortifies the submission made bythe appellant that the whole time directors who are entitled to variable pay in the form of commission are‘employees’ and payments actually made to them are in the nature of salaries.
- Allied Blenders and Distillers (P.) Ltd. Commissioner of Central Excise & Service Tax, Aurangabad – (2019) 101 taxmann.com 462 (Mumbai – CESTAT)
Where assessee-company paid remuneration to its four whole time
Directors for managing day-to-day affairs of company and made necessary deductions onaccount of Provident fund, Professional Tax and TDS as applicable and declared these Directorsto all statutory authorities as employees of company, remuneration paid to Directors was nothingbut salary and assessee was not required to discharge service tax on remuneration paid toDirectors
Section 66 of the Finance Act, 1994 – Levy andcollection of tax – Period July, 2012 to March, 2015 – Assessee-company paid remuneration to its fourwhole time Directors for managing day-to-day affairs of company and made necessary deductions onAccount of Provident Fund, Professional Tax and TDS as applicable – Adjudicating Authority held thatassessee was required to discharge service tax, under reverse charge mechanism, on remuneration paidto Directors
Assessee contended that remuneration paid to Directors was in nature of salary paid tothem, since said Directors were whole time Directors and employees of company – It also contended thatsince relation between assessee and four Directors was in nature of employer and employee, no servicetax was payable by it on remuneration paid to Directors which was nothing but ‘salary’ being paid to anemployee – Whether since it was crystal clear from documents produced by assessee that aforesaidDirectors were declared by assessee to all statutory authorities as employees of company and compliedwith provisions of respective Acts, Rules and Regulations indicating Directors as employees of
Company, remuneration paid by assessee to directors was nothing but salary – Held, yes – Whether,therefore, assessee was not required to discharge service tax on remuneration paid to Directors – Held,yes
Both the assessee and the revenue heavily relied on the judgment of the Supreme Court in the case of Ram Prasad v. CIT (1972) 86 ITR 122 delivered under the Income-tax Act.
The crux of the above Hon. Supreme Court Decision has been captured and analysed well in contextual form of an Employer and Employee Relationship, in the above decision of the Hon. Mumbai Tribunal reproduced from the Decision of the Hon. Supreme Court as under:
In the said case, the assessee and his wife owned a large number of shares in a private limited company engaged in the business of running hotels. By an agreement with the company, the assessee was to receive Rs. 2000 per month, fixed sum of Rs. 500 per month as car allowance, 10 per cent of gross profit of the company. For assessment year 1956-57 the assessee was assessed in respect of Rs. 53,913 payable to him as 10 per cent of the gross profit which he gave up soon after the accounts were finalized but before they were passed by the General meeting of the shareholders. The question before the Supreme Court was as to whether 10 per cent gross profit payable to the assessee under the terms of the agreement appointing him as the managing director is liable to be assessed as ‘salary’ or under the head ‘income from business’.
The contention of the assessee in that case was that in order to assess the income as salary it must be held that there was a relation of master and servant between the company and the assessee. It was pleaded that for such a relationship to exist, it must be shown that the employee must be subject to the supervision and control of the employer in respect of the work the employee has to do. Where, however, there is no such supervision or control it will be a relationship of principal and agent or an independent contractor.
The Supreme Court analysing the characteristics of master and servant relationship observed as:
– “6. There is no doubt that for ascertaining whether a person is a servant or an agent, a rough and ready test is, whether, under the terms of his employment, the employer exercises a supervisory control in respect of the work entrusted to him. A servant acts under the direct control and supervision of his master. An agent, on the other hand, in the exercise of his work is not subject to the direct control or supervision of the principal, though he is bound to exercise his authority in accordance with all lawful orders and instructions which may be given to him from time to time by his principal. But this test is not universal in its application and does not determine in every case, having regard to the nature of employment, that he is a servant. A doctor may be employed as a medicalofficer and though no control is exercised over him in respect of the manner he should do the work nor in respect of the day-to-day work, he is required to do, he may nonetheless be a servant if his employment creates a relationship of master and servant. Similar is the case of a chauffeur who is employed to drive the car for his employer. If he is to take the employer or any other person at his request from place ‘A’ to place ‘B’ the employer does not supervise the manner in which he drives between those places.
Such examples can be multiplied. A person who is engaged to manage a business may be a servant or an agent according to the nature of his service and the authority of his employment. Generally it may be possible to say thatthe greater the amount of direct control over the person employed, the stronger the conclusion in favour of his being a servant. Similarly the greater the degree of independence the greater the possibility of the services rendered being in the nature of principal and agent. It is not possible to lay down any precise rule of law to distinguish one kind of employment from the other.The nature of the particular business and the nature of the duties of the employee will require to be considered in each case in order to arrive at a conclusion as to whether the person employed is a servant or an agent. In each case the principle for ascertainment remains the same.
Analysing the facts in issue and applying the said tests their Lordships further observed as:
“14. A perusal of the articles and terms and conditions of the agreement definitely indicate that the assessee was appointed to manage the business of the company in terms of the articles of association and within the powers prescribed therein. Reference may particularly be made to Arts. 139 and 142 to ascertain the nature of the control imposed by the company upon the Managing Director. Under the former the additional work which he can do as an agent or manager of the company can be done on terms and conditions and on such remuneration as can be agreed upon between him and the Directors of the Company and under the latter he had to execute the decisions that may be arrived at by the Board from time to time. The very fact that apart from his being a Managing Director he is given the liberty to work for the company as an agent is indicative of his employment as a Managing Director not ‘being that of an agent.
Several of the clauses of Art. 140 as pointed out by the High Court specifically empower the Board of Directors toexercise control over the Managing Director, such, for instance to accept the title of the property to be sold by the
Company, providing for the welfare of the employees, the power to appoint attorneys as the Directors think fit etc. Aspointed out earlier under the terms of the agreement he can be removed within the period of 20 years for not dischargingthe work diligently or if he is found not to be acting in the interest of the company as Managing Director. These termsare inconsistent with the plea that he is an agent of the company and not a servant. The control which the companyexercises over the assessee need not necessarily be one which tells him what to do from day to day.
That would be a too narrow view of the test to determine the character of the employment. Nor does supervision implythat it should be a continuous exercise of the power to oversee or superintend the work to be crone. The control and
Supervision is exercised and is exercisable in terms of the articles of association by the Board of Directors and the company in its general meeting. As a Managing Director he functions also as a member of the Board of Directors whose collective decisions he has to carry out in terms of the articles of association and he can do nothing which he is not permitted to do. Under s. 17(2) of the Indian Companies Act 1913 Regulation No. 71 of Table A which enjoins that the business of the company shall be managed by the directors is deemed to be continued in the articles of association of the company in identical term or to the same effect. Since the Board of Directors are to manage the business of the Company they have every right to control and supervise the assessee’s work whenever they deem it necessary.
Every power which is given to the Managing Director therefore emanates from the articles of association which prescribes the limits of the exercise of that power. The powers of the assessee have to be exercised within the terms and
Limitations prescribed there under and subject to the control and supervision of the Directors which in our view is indicative of his being employed as a servant of the company.” (Emphasis supplied)
The revenue, on the other hand, referring to the judgment of the Allahabad High Court rendered in the case of Sardar Harpreet Singh v. CIT 1990 SCC Online All. 929 submitted that merely deduction of income tax at source cannot be considered that the Director and the company has employer and employee relationship.It is the agreement between the employer, i.e., company and the Director that would reveal the exact relationship between them. In the instant case, nosuch agreement exists between the employer and the Directors. Hence there exists no employer and employee relationship
There is no merit in the argument of the revenue inasmuch as during the course of investigation, the statement of the Vice President (Finance & Accounts) of the assessee-company was recorded by the Investigating Officers on 4-6-2015.
Answering the question No. 3, he informed that there were four Directors in the company and they were appointed in accordance with the provisions of the Companies Act and Regulation of Article of Association of company for managing day-to-day affairs of the company. Further answering to question No. 4, he has stated that the company is paying the mremuneration which is nothing but salary. All the necessary deductions on account of Provident Fund, Professional Tax and TDS under section 192 of the Income-tax Act are made as applicable. Also they were issuing Form-16 like it is issued to all other employees. Even in the salary return filed by the assessee-company before the Income-tax authorities,the Directors names have been included. The company does not pay the director’s sitting fee to any of the Directors. 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.
Also from the documents produced by the assessee, it is crystal clear that the Directors, who are concerned with themanagement of the company, were declared to all statutory authorities as employees of the company and complied withthe provisions of the respective Acts, Rules and Regulations indicating the Director as an employee of the company. Nocontrary evidence has been brought on record by the revenue to show that the Directors, who were employees of theassessee, received amount which cannot be said as ‘salary’ but fees paid for being Director of the company. The IncomeTax authorities also assessed the remuneration paid to the said Directors as salary.
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 authoritiesalso assessed the remuneration paid to the said directors as salary, a fact cannot be ignored. The judgments cited by therevenue cannot be applied to the present case as the facts are different and the finding of Income tax authorities accordinglyalso different in the said case.
Following Documents were filed and relied upon in the above case.
a. Resolution of Appointment with Remuneration
b. Form 16
c. Electronic Challan cum Return – ECR – PF Return
d. Form 32 – Showing Directors as Executive Directors
- Rent Works India (P.) Ltd. Commissioner of Central Excise, Mumbai-V – (2016) 70 taxmann.com 38 (Mumbai – CESTAT)
Where amount paid to director is considered as ‘salary’ for incometaxpurposes, then, same cannot be considered as ‘service’ for service tax purposes and cannot, therefore, be charged to service tax.
6. The issue involved in this case is whether for the period 18-04-2006 to 31-10-2006, any service taxliability arises on the amount paid to Mr. Alan Van Niekerk under the category of ‘ManagementConsultancy Services’ and under Reverse charge mechanism or otherwise.
7. On perusal of the agreement with Mr. Alan Van Niekerk, we find that the said agreement is betweenappellant and one Mr. Alan Van Niekerk for rendering the services to appellant on the management ofmarket and exclusive services. The said agreement provides for payment of an amount as monthlyremuneration of Mr. Alan Van Niekerk and as also additional amount at the discretion of the board aspercentage to Alan Van Niekerk. It is seen from the records and more specifically the balance sheet at 31-7-2007, Mr. Alan Van Niekerk has signed the balance sheet of the appellant as director on behalf of theboard of directors. In our considered view, Shri Alan Van Niekerk was a director in the appellant’scompany and the amount which is paid to him during the period 18-04-2006 to 31-10-2006 was aremuneration as per agreement between the appellant and the said individual.
We also fortified in ourview, by the demand issued by Income Tax department for this amount paid to Mr. Alan Van Niekerk to be considered as salary paid. The Income Tax Department has considered this amount paid to the appellant to Mr. Alan Van Niekerk as a salary in adjudication proceedings. The adjudicating authority inthe case in hand has summarily dismissed the submissions. If an amount paid by the appellant to Shri Alan Van Niekerk is considered as a salary by the Income Tax Department, a branch of Ministry of Finance, Department of Revenue, it cannot be held by the Service Tax Department, another branch of Ministry ofFinance, Department of Revenue, as amount paid for consultancy charges and taxable under Finance Act. The same department of Government of India cannot take different stand on the amount paid to the very same person and treat it differently. In our considered view, the amount which is paid to Mr. Alan Van Niekerk, in the circumstances of this case as brought out herein above, has to be treated as salary to the director and the salary is not to be considered as to fall under the category of ‘Management Consultancy Services’ and liable for Service Tax.
The above decision raises the moot point that how one single nature of payment can be differentiated for no reason by two separate departments of the Same Ministry and get away with it.
There was another following case where the Matter Remanded to Verify the Salary Related Documents which were not filed by the assessee.
- AGGARWAL ZARDA FACTORY PVT. LTD. Vs COMMISSIONER OF CENTRAL EXCISE & S.T., MEERUT – 2018 (12) TMI 1361 – CESTAT ALLAHABAD
Demand of Service Tax – Remuneration paid to the directors of the company – Reversecharge mechanism – Held that:- The learned Commissioner (Appeals) has observed that inthe absence of documents such as TDS Certificate, Ledger Account and other related documents substantiating appellant’s claim of employer-employee relationship between thesaid directors and the claim of the appellant could not be examined for the period fromJuly, 2012 to August, 2013 and therefore, said claim was rejected – also, the learned Commissioner (Appeals) did not have advantage of the documents submitted here -appeal allowed by way of remand.
Other Supportive Decisions
For the above consideration as Salary being paid to an employee what is essential is the recognition of the employee and employer relationship between the Director and the company. For this we need to understand the circumstances, facts and conditions when such employer and employee relationship can understood and has been judicially accepted.
As per the Companies Act 2013
Section 2(34): “Director” means a director appointed to the Board of a 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 anofficer of the company who is in default shall be liable to any penalty or punishment by way ofimprisonment, fine or otherwise, means any of the following officers of a company, namely :
(i) whole-time director;
Section 2(94): “managing director” to mean a director who, by virtue of an agreement with the company or of a resolution passed by the company in general meeting or by its Board of Directors or by virtue of its memorandum or articles of association, is entrusted with substantial powers of management which would not otherwise be exercisable by him,and includes a director occupying the position of a managing director, by whatever name called.
The proviso to that section provides that a managing director of a company shall exercise his powers subject to the superintendence, control and direction of its Board of Directors.
From the Layout and design provided by the Companies Act 2013 we see two layers of the Management, the Supervisory and Controlling (Board of Directors) not involved in day to day managing of the business and Second the actual Day to Day Management of the company under the Supervision and direct Control of the Board of directors and such other person could also be a director and in such case, under the contractual relationship with the company, undertakes the additional duties of day to day management of the company operations and thus in such capacity becomes a servant of the company i.e. Employer and Employee Relationship is Created.
Decisions where the Managing Director was held to be Employee of the Company.
- 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 articlesof association of the company—There is a contractual relationship between the company and the assessee of employer and employee—Remuneration received byassessee 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 ofservice—Therefore, monthly remuneration credited to assessee represented hissalary—Company debited the whole of salary following a resolution of board ofdirectors—Agreement did not provide for such stopping payment of remuneration—Further, entries in the books of the company did result in accrual of salary frommonth to month—Denial, withdrawal or waiver, if at all, occurred subsequent toassessment year—Remuneration rightly brought to tax
Decision where the Director has not been accepted as an employee.
- CIT vs. Lady Navajbai R.J. Tata – (1947) 15 ITR 0008
Income from other sources—Vis-a-vis salary—Assessee a permanent director of
company but not a manager or managing director—She attended board meetings but did not attend the office of company every day—She was consulted by directorson all important matters—Under articles of association, business of the company tobe managed by directors and their remuneration fixed at Rs. 100 per month and such other sum as may be voted to them by the company in its general meeting—Assessee was, therefore, not an employee of the company and the sum of Rs.40,000 paid to her as director’s remuneration was not salary but gratuity paid to her by virtue of her office as director and assessable as income from other sources under s. 12 and not as salary under s. 7
- CIT vs. Travancore Chemical Manufacturing Co
Business expenditure—Disallowance under s. 40A(5)—The provisions contained in the articles of association of the company clearly indicate that the relationship between the company and the managing directors is that of employer and employees—Managing director may be removed from directorship by an extraordinary resolution, in the discharge of their duties and functions they are subject to supervision—Entitled to remuneration by way of salary—Assumptions ofTribunal regarding the nature of relationship that exists between the company andmanaging director are irrelevant—Therefore, subject to the provisions of s. 40A(5)company is entitled to claim deduction in respect of the remuneration paid to themanaging director.
Employer Employee Relationship Establishment a Must
From the decisions finding favour with the employee employer relationship between the director and the company is certain underlying document/support from contractual relationship, Articles of Association etc. where such director has been given the executive power to manage the company on day to day basis under the supervision and guidance of the Board of Directors and can be removed if does not perform well. In addition there are umpteen documents and communication with various statutory authorities that provide for reporting of such director as an employee. However the same would not be true for a Director who attends to only the Board Meetings for providing guidance and is not an Executive Director. It is possible that such person may also be given and furnished Salary Certificate in Form 16 and the Director Remuneration be so disclosed, but the same may not find acceptance based on the facts and documents evaluation by the Higher Appellate Authorities. The same may also not find a favour by the Income Tax Department for being taxed as Income from Salary. Adequate care needs to be taken in such cases.
What Next – The Next Steps
The Rajasthan AAR decision may be contested and finally may be overridden by Higher Appellate Authorities. However this can also create host of litigations for which each company should revisit the documents in support of the claims and where they have not been formally made or documented to have this done at the earliest. But what happens to the past years when one finds in a piquant situation where the Directors Fees were in fact Fees for Directors Services and erroneously were treated as Salary and under the mistaken belief, considered as Exempt and not subjected to GST and also the Reverse Charge. In such a case the assessee may evaluate the way out through the principle of Revenue Neutrality where even the Hon. Supreme Court supports such a principle.
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