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Corporate Social Responsibility

Learning Objectives​

By the end of this topic, you should be able to:

  • Define CSR and explain why India made it a statutory obligation — the first major economy to do so.
  • State the applicability thresholds in Section 135(1) of the Companies Act, 2013 and the 2% spending obligation.
  • Describe the composition and functions of the CSR Committee and the Board's responsibilities.
  • Identify permissible CSR activities under Schedule VII and what does not count as CSR.
  • Explain the treatment of unspent CSR amounts after the 2019 and 2021 amendments (Unspent CSR Account, transfer to Schedule VII funds, penalties).
  • Evaluate the shift from "comply or explain" to "comply or pay penalty."

Quick Answer​

Corporate Social Responsibility (CSR) under Section 135 of the Companies Act, 2013 requires every company meeting any one financial threshold — net worth ₹500 crore or more, turnover ₹1,000 crore or more, or net profit ₹5 crore or more in the immediately preceding financial year — to spend at least 2% of its average net profits of the preceding three financial years on activities listed in Schedule VII (education, health, environment, rural development and more). The provision took effect on 1 April 2014, making India the first country to mandate CSR spending by statute. Since the 2021 amendments, unspent amounts must be transferred to designated accounts or funds, and non-compliance attracts monetary penalties — CSR has moved from a soft "comply or explain" norm to a hard legal obligation.

Overview​

For most of corporate history, CSR was voluntary philanthropy — companies gave back to society if and as they chose. India changed that model. Concerned that liberalisation-era growth was not translating into social investment, Parliament wrote CSR into the Companies Act, 2013 itself.

The design is layered. Section 135 sets who must comply and how much must be spent. Schedule VII sets what counts as CSR. The Companies (CSR Policy) Rules, 2014 set how — through whom activities may be implemented, what must be disclosed, how impact must be assessed. And the amendments of 2019 and 2021 added teeth: mandatory transfer of unspent money and penalties for default.

For exams, the moving parts to master are the thresholds, the 2% computation, the CSR Committee, Schedule VII, and — most tested since 2021 — what happens to unspent CSR money.

Core Concepts​

1. Applicability — Section 135(1)​

Definition: Section 135(1) applies to every company (public or private, including foreign companies with an Indian branch/project office meeting the criteria) that, during the immediately preceding financial year, had net worth ≥ ₹500 crore, or turnover ≥ ₹1,000 crore, or net profit ≥ ₹5 crore.

Explanation: The three tests are alternatives — meeting any one triggers the section. Note the asymmetry: the net worth and turnover thresholds are high (catching large companies), but the net profit threshold of ₹5 crore is modest, pulling in thousands of mid-sized profitable companies. "Net profit" is computed under Section 198 (the same base used for managerial remuneration), excluding profits from overseas branches and dividends from other Indian companies already complying with Section 135. A company that ceases to meet all three criteria for three consecutive financial years exits the obligation until it re-qualifies.

Example: A private manufacturing company has net worth ₹80 crore and turnover ₹300 crore — below those thresholds — but earned ₹6.2 crore net profit last year. It is covered, because the profit test alone suffices.

Real-World Example: Reliance Industries, TCS, HDFC Bank and other large listed companies each spend several hundred crore rupees annually on CSR; but the law equally binds an unlisted family-owned company crossing the ₹5 crore profit line — a point their boards often discover late.

Why It Matters: Applicability is the first issue in every CSR problem question. Getting the "any one of three, preceding financial year" framing right earns the foundation marks.

Common Misunderstanding: Students often write that Section 135 applies only to public or listed companies. It applies to every company meeting a threshold — private companies included.

2. The 2% Spending Obligation — Section 135(5)​

Definition: The Board must ensure the company spends, in every financial year, at least 2% of the average net profits made during the three immediately preceding financial years (or, if the company has not completed three years, the years since incorporation) on CSR activities, with preference to local areas where it operates.

Explanation: The base is a three-year average — smoothing out one-off spikes or dips. Net profit is the Section 198 figure, not the accounting profit in the P&L. Surplus arising from CSR activities cannot be counted as business profit and must be ploughed back into CSR. Administrative overheads for CSR are capped at 5% of total CSR expenditure. Companies may spend through their own foundations or registered implementing agencies (which must obtain CSR registration — Form CSR-1 — from the MCA), but political contributions, activities benefiting only employees, sponsorships for marketing benefit, and activities in the normal course of business do not qualify.

Example: A company's Section 198 net profits for the last three years were ₹40 crore, ₹50 crore and ₹60 crore. Average = ₹50 crore; minimum CSR spend = ₹1 crore for the current year.

Real-World Example: During COVID-19, the MCA clarified that contributions to the PM CARES Fund and spending on COVID relief (vaccination drives, oxygen plants, makeshift hospitals) counted as CSR — a live illustration of Schedule VII being interpreted purposively through MCA circulars. (Contributions to a Chief Minister's relief fund, by contrast, are not on Schedule VII.)

Why It Matters: Computation questions ("calculate the CSR obligation") are standard, and the local-area preference plus exclusions (normal course of business, employees-only benefits) supply the analytical twists.

Common Misunderstanding: That 2% is a ceiling or a tax. It is a minimum spend, not a payment to government — the company chooses and executes projects itself; and companies may voluntarily spend more (excess spend can be set off against the obligation for up to three succeeding years under the 2021 Rules).

3. CSR Committee and CSR Policy — Sections 135(1)-(4)​

Definition: A covered company must constitute a CSR Committee of the Board with three or more directors, at least one being an independent director; the Committee formulates the CSR Policy, recommends activities and expenditure, and monitors implementation.

Explanation: The framework flexes for smaller structures: a company not required to appoint independent directors needs only two or more directors on the Committee; a private company with just two directors may have both on it. After the 2020 amendment, a company whose CSR obligation does not exceed ₹50 lakh need not constitute a Committee at all — the Board discharges its functions. The Board must approve the CSR Policy, disclose its contents and the Committee's composition in the Board's report and on the company website (Section 135(4)), and under Section 134(3)(o) the Board's report must detail the policy and initiatives. If the company fails to spend the 2%, the Board's report must specify the reasons — and, post-2019, deal with the unspent amount as the law directs. High-value CSR (₹1 crore or more per project completed) requires impact assessment by an independent agency for companies with CSR obligations of ₹10 crore or more.

Example: A listed company's CSR Committee of three directors (one independent) recommends an annual action plan: ₹3 crore to a rural sanitation project and ₹1 crore to a scholarship fund via a registered trust holding CSR-1 registration. The Board approves it, and the annual report carries the mandated disclosures.

Real-World Example: Tata Consultancy Services channels much of its CSR through structured programmes (adult literacy, digital skilling) overseen by its board-level CSR committee and reported in an annual CSR report — the governance architecture Section 135 envisages.

Why It Matters: Governance-of-CSR questions (composition, functions, disclosure) are easy marks; the ₹50 lakh exemption and private-company relaxations are the fine print examiners use to separate grades.

Common Misunderstanding: Believing every covered company must have an independent director on the Committee. Only companies otherwise required to appoint independent directors need one; private companies and others use the relaxed compositions.

4. Schedule VII — What Counts as CSR​

Definition: Schedule VII lists the permitted areas of CSR activity, which courts and the MCA say must be interpreted liberally, looking at the substance of the activity.

Explanation: The list includes: eradicating hunger, poverty and malnutrition; promoting health care and sanitation (including Swachh Bharat Kosh contributions); promoting education and vocational skills; gender equality and women's empowerment; environmental sustainability (including Clean Ganga Fund); protection of national heritage; benefits to armed forces veterans; training for rural, national and Olympic/Paralympic sports; contributions to the PM's National Relief Fund and PM CARES; incubators and R&D funded by governments in science and technology; rural development projects; slum area development; and disaster management including relief and rehabilitation. What is excluded matters equally: activities in the normal course of business (with a narrow, time-bound COVID-era exception for vaccine R&D), activities outside India (except training Indian sports personnel), political contributions under Section 182, employee-only benefits, and marketing-driven sponsorships.

Example: A cement company builds and staffs a government-school science lab in villages near its plant — squarely within "promoting education" and the local-area preference. The same company's discounted cement for dealers' housing projects is normal-course business and does not count.

Real-World Example: Infosys Foundation's hospital and educational infrastructure grants, and ITC's watershed and afforestation programmes, map directly onto Schedule VII heads (health, education, environmental sustainability, rural development).

Why It Matters: Application questions typically hide a disqualified activity (a brand-sponsored marathon, a staff welfare scheme) inside a list of genuine CSR items and ask you to compute the compliant spend.

Common Misunderstanding: Treating Schedule VII as illustrative of "anything socially good." Donations to a political party, one-off event sponsorships with branding, or overseas charity generally do not qualify, however worthy they seem.

5. Unspent CSR and Enforcement — the 2019/2021 Transformation​

Definition: Under Sections 135(5)-(7) as amended (Companies (Amendment) Acts, 2019 and 2020, both operative from 22 January 2021), unspent CSR money can no longer simply be explained away: it must be transferred to statutory destinations, and failure attracts civil penalties.

Explanation: Two tracks exist. (a) Ongoing projects: unspent amounts relating to an identified multi-year project must be moved to a special "Unspent Corporate Social Responsibility Account" in a scheduled bank within 30 days of the financial year's end, and spent within three financial years; anything still unspent then goes to a Schedule VII fund within 30 days. (b) No ongoing project: the unspent amount must be transferred to a fund specified in Schedule VII (e.g., PM's National Relief Fund) within six months of the financial year's end. Penalty under Section 135(7): the company pays twice the unspent/untransferred amount or ₹1 crore, whichever is less; every officer in default pays one-tenth of that amount or ₹2 lakh, whichever is less. Importantly, the 2020 amendment decriminalised the default — it is a civil penalty, not imprisonment (the 2019 Act's jail term for officers was dropped before commencement).

Example: A company's CSR obligation for FY 2024-25 is ₹2 crore; it spends ₹1.2 crore, and ₹80 lakh relates to an ongoing three-year clean-water project. It must park ₹80 lakh in an Unspent CSR Account by 30 April 2025 and finish spending by FY 2027-28. Had there been no ongoing project, the ₹80 lakh would go to a Schedule VII fund by 30 September 2025.

Real-World Example: MCA adjudication orders since 2022 have penalised companies for failing to transfer unspent CSR on time — routine enforcement that confirms CSR default is now treated like any other statutory breach, not a reputational footnote.

Why It Matters: This is the most current, most examinable part of CSR law: "comply or explain" (2014-2020) versus "comply, transfer, or pay penalty" (2021 onwards) is a ready-made analysis question.

Common Misunderstanding: That a board explanation in the annual report still cures non-spending. Post-2021, explanation is necessary but no longer sufficient — the money must actually move to the Unspent CSR Account or a Schedule VII fund.

Visual Learning​

The CSR compliance cycle under Section 135:

Key Terms​

TermDefinitionContext / Related Concepts
CSRStatutorily mandated spending on social and environmental activities by qualifying companiesSection 135 + Schedule VII + CSR Rules, 2014
Net profit (S.198)Profit computed under Section 198, the base for the 2% calculationAlso used for managerial remuneration limits
Average net profitsMean of the three immediately preceding financial years' Section 198 profitsThe 2% is applied to this average
CSR CommitteeBoard committee that frames policy and monitors CSR3+ directors, 1 independent; exemptions apply
Schedule VIIStatutory list of permissible CSR activity areasInterpreted liberally per MCA circulars
Ongoing projectMulti-year project (up to 3 years excluding commencement year) identified by the BoardTriggers Unspent CSR Account route
Unspent CSR AccountSpecial bank account holding unspent money for ongoing projectsTransfer within 30 days of FY end; spend in 3 years
Implementing agencyRegistered trust/society/Section 8 company executing CSR for the companyMust file Form CSR-1 with the MCA
Impact assessmentIndependent evaluation of large CSR projectsMandatory for cos. with ≥ ₹10 cr obligation, projects ≥ ₹1 cr
Comply or explainPre-2021 regime where reasons for non-spending sufficedReplaced by transfer-or-penalty regime
Section 135(7) penaltyCivil penalty for failing to transfer unspent CSRTwice the amount or ₹1 crore (company), whichever is less
Local area preferenceDirection to prefer areas around company operationsDirectory guidance, not an absolute rule

Common Mistakes​

Mistake 1

  • Misconception: "Section 135 applies only to large public/listed companies and came into force in 2021."
  • Why it's wrong: The section applies to any company — private, public, listed or not, even foreign companies operating in India — that meets one threshold, and it has been in force since 1 April 2014. Only the unspent-transfer and penalty regime dates from 22 January 2021.
  • Correct: Test each company against the three alternative thresholds for the immediately preceding financial year; if any is met, Section 135 applies regardless of the company's type.

Mistake 2

  • Misconception: "The 2% CSR amount is paid to the government like a cess or tax."
  • Why it's wrong: CSR is company-directed expenditure, not a levy. The company (or its implementing agency) selects, executes and monitors Schedule VII projects. Money reaches a government fund only in the specific case of unspent amounts transferred to a Schedule VII fund.
  • Correct: 2% is a minimum spend the company deploys itself on Schedule VII activities, with preference to local areas; excess spend can even be set off for three succeeding years.

Mistake 3

  • Misconception: "If a company doesn't spend the 2%, explaining the reasons in the Board's report is enough."
  • Why it's wrong: That was the pre-2021 position. Since the 2019/2020 amendments took effect, the unspent amount must be transferred — to an Unspent CSR Account (ongoing projects, 30 days) or a Schedule VII fund (six months) — failing which Section 135(7) penalties apply to the company and officers.
  • Correct: Reasons must still be stated, and the money must move to the statutory destination within the timelines; CSR is now "comply or pay."

Comparison and Connections​

AspectCSR spending (S.135)Charity / philanthropyPolitical contribution (S.182)Tax / cess
Legal characterStatutory minimum expenditureVoluntaryPermitted but capped/regulated; never CSRCompulsory payment to State
Who decides useCompany's Board/CSR CommitteeDonorCompany (disclosure required)Government
Qualifying purposesSchedule VII onlyAnything lawfulPolitical partiesPublic revenue
Consequence of defaultTransfer obligation + S.135(7) penaltyNonePenalty for breach of S.182Recovery, interest, prosecution

Connections: CSR sits inside the broader corporate governance framework (board committees, disclosures in the Board's report under Section 134); the net profit base links it to company accounts (Section 198 computation); and the debate over mandated CSR connects to directors' duty under Section 166(2) to act in the best interests of the company, its employees, shareholders, the community and the environment — India's statutory embrace of stakeholder theory.

Practice Questions​

Recall​

  1. State the applicability thresholds and the minimum spending obligation under Section 135. Answer guidance: Any one of — net worth ≥ ₹500 crore, turnover ≥ ₹1,000 crore, net profit ≥ ₹5 crore — in the immediately preceding financial year; spend ≥ 2% of average Section 198 net profits of the three preceding financial years on Schedule VII activities, preferring local areas.

  2. What is the composition of the CSR Committee, and when is no committee required? Answer guidance: Three or more directors with at least one independent director; two or more where independent directors aren't required; both directors for a two-director private company; no committee needed where the CSR obligation does not exceed ₹50 lakh (Board discharges the functions).

Understanding​

  1. Explain what happens to unspent CSR amounts, distinguishing ongoing projects from other cases. Answer guidance: Ongoing project → Unspent CSR Account within 30 days of FY end, spend within three financial years, then residue to a Schedule VII fund within 30 days. No ongoing project → straight to a Schedule VII fund within six months. Add the Section 135(7) penalties for default and note decriminalisation (civil penalty, no imprisonment).

  2. Why does the Act use a three-year average of net profits rather than the latest year's profit? Answer guidance: Smooths volatility so a single windfall or bad year doesn't distort the obligation; gives boards predictability for multi-year project planning; aligns the obligation with the company's sustained capacity to spend.

Application​

  1. Zenith Pvt Ltd (two directors) earned Section 198 net profits of ₹4 crore, ₹6 crore and ₹8 crore in the last three years. Its net worth is ₹60 crore and turnover ₹250 crore. Advise on its CSR obligations for the current year. Answer guidance: Applicability: net profit last year (₹8 crore) ≥ ₹5 crore → covered despite low net worth/turnover. Obligation: 2% × average ₹6 crore = ₹12 lakh. Since ≤ ₹50 lakh, no CSR Committee needed — the Board (both directors) acts. It must adopt a policy, spend on Schedule VII activities, and follow unspent-transfer rules if it falls short.

  2. A covered company proposes to count these as CSR: (a) ₹40 lakh scholarship fund for employees' children; (b) ₹30 lakh to the PM's National Relief Fund; (c) ₹25 lakh sponsoring a marathon carrying its brand; (d) ₹50 lakh building village health clinics near its factory. Which qualify? Answer guidance: (a) No — benefits only employees/families. (b) Yes — expressly in Schedule VII. (c) No — marketing-benefit sponsorship excluded by the CSR Rules. (d) Yes — health care promotion with local-area preference. Compliant spend = ₹80 lakh.

Analysis​

  1. "Mandatory CSR converts corporate boards into arms of state welfare policy." Critically evaluate India's Section 135 model against the voluntary CSR model followed in most jurisdictions. Answer guidance: For the mandate: scale of social need, free-rider problem in voluntary CSR, alignment with Section 166(2) stakeholder duty, measurable outcomes (thousands of crores deployed annually). Against: crowds out genuine strategic CSR, box-ticking and pass-through spending, 2% acts like a quasi-tax without state accountability, compliance burden on mid-sized firms. Note the 2021 pivot to penalties intensifies both effects. A balanced conclusion referencing the "comply or explain → comply or pay" evolution scores best.

  2. Compare the pre-2021 and post-2021 CSR enforcement regimes. Has decriminalisation weakened or strengthened compliance? Answer guidance: Pre-2021: spend or explain; unspent money stayed with the company; enforcement rare. Post-2021: mandatory transfer, hard timelines, automatic-style civil penalties on company and officers; imprisonment proposed in 2019 was dropped in 2020 after industry pushback. Argue that certain, quick civil penalties plus mandatory fund transfer likely deter better than a rarely used criminal sanction — supported by MCA adjudication activity since 2022.

FAQ​

Q1. Is CSR expenditure tax-deductible? Generally no — Explanation 2 to Section 37(1) of the Income-tax Act, 1961 disallows CSR expenditure as business expenditure. However, components that independently qualify under other provisions (e.g., certain donations under Section 80G) may get relief through those routes. This "spend but no deduction" design is itself a criticism of the regime.

Q2. Can a company do CSR through an NGO instead of directly? Yes. It may act through a Section 8 company, registered public trust or registered society (its own or a third party's), provided the entity is registered with the MCA by filing Form CSR-1 and has the required track record (three years, for entities not established by the company itself).

Q3. Does employee volunteering or the value of staff time count towards the 2%? No. The CSR Rules count actual expenditure on Schedule VII activities; the monetised value of employee time or in-kind services of personnel does not count towards the obligation.

Q4. What if a company spends more than 2% in a year? Excess CSR expenditure can be set off against the obligation of up to three immediately succeeding financial years, subject to a Board resolution and disclosure — a 2021 addition that rewards front-loading of large projects.

Q5. Is "local area preference" binding — can a Mumbai company fund a project in Assam? The preference for local areas in Section 135(5) is directory, not mandatory. The MCA has clarified companies should balance local preference with national needs; spending elsewhere in India is valid CSR, though boards should record their reasoning. Spending outside India (except training Indian sports personnel) is not CSR.

Quick Revision​

  • Section 135 in force since 1 April 2014; India = first country to mandate CSR by statute.
  • Applicability (any one, preceding FY): net worth ≥ ₹500 cr, turnover ≥ ₹1,000 cr, net profit ≥ ₹5 cr — all companies, including private.
  • Spend ≥ 2% of average Section 198 net profits of the preceding 3 FYs; local-area preference (directory).
  • CSR Committee: 3+ directors incl. 1 independent; relaxed for private cos.; not needed if obligation ≤ ₹50 lakh.
  • Schedule VII lists eligible activities (education, health, environment, PM funds, rural development, disaster relief…); interpret liberally.
  • Not CSR: normal-course business, employee-only benefits, political contributions, marketing sponsorships, overseas activities.
  • Unspent + ongoing project → Unspent CSR Account in 30 days, spend within 3 FYs.
  • Unspent + no ongoing project → Schedule VII fund within 6 months.
  • Penalty (S.135(7)): company — 2× unspent or ₹1 cr, whichever less; officer — 1/10th or ₹2 lakh, whichever less; civil, not criminal.
  • Excess spend can be set off for 3 succeeding years; admin overheads capped at 5%; impact assessment for big spenders.
  • CSR expenditure is not deductible under Section 37(1) of the Income-tax Act.
  • Evolution: comply-or-explain (2014) → transfer-or-penalty (22 Jan 2021).

Prerequisites​

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