An unnecessary law

Jail term for CSR law violation is a retrograde step

At a time when the Indian economy is in the middle of a slowdown, it is natural for the business community to expect intervention by the government that will help reduce the pain in the system. It is not unsurprising that industry would expect the government to take steps to boost confidence and help revive economic activity. However, contrary to expectations, some of the policy measures that the government has taken in recent times have further dampened business confidence. Aside from raising the income tax rate for the rich, which also affects a class of foreign portfolio investors, increasing tariff on a range of goods and giving more powers to the bureaucracy, the government recently amended the Companies Act to provide for a jail term to officers of a company in case corporate social responsibility (CSR) norms are not followed.

According to Section 135 of the Companies Act, a company with a net worth of at least Rs 500 crore, or a turnover of more than Rs 1,000 crore, or a net profit of over Rs 5 crore has to spend part of its profit on CSR, as specified in Schedule VII of the Act. The amendment to the Act now mandates the company transfer the unspent amount to a specified account. If the money remains unspent for three years, it would have to be transferred to a fund listed in Schedule VII. If a company is found to flout CSR rules, it will have to pay fines and its officers can face imprisonment up to three years. Laws like these will certainly not boost confidence in the business community and are flawed at multiple levels.

To begin with, making CSR spending compulsory for a set of companies, which was introduced by the United Progressive Alliance government, was a bad idea. A lot of companies were spending on CSR activities voluntarily, and this is how it should have remained. Making it compulsory is akin to taxation. Introducing harsh provisions that could lead to a jail term for company executives in the case of non-compliance has made it worse. This has evoked genuine fear in the business community. Also, spending by compulsion is likely to yield suboptimal outcomes because the focus is on expenditure and not on outcome. But this looks like a minor issue in the broader context. Further, the move comes at the wrong time. Compliance is reported to be improving and firms are spending close to what is mandated by the law.

At a broader level, it is incorrect to assume that businesses that don’t spend on CSR activities are not contributing to society. Companies provide goods and services, create jobs, and pay taxes, which help the government fulfil its obligations. More goods and services or jobs can only be created when firms have the freedom to produce, spend, and invest. This will also result in higher tax collection, which can be spent on social-sector needs by the government. Laws like compulsory CSR spending, along with the latest amendment, curb such freedom and give the inspector raj one more dimension on which to harass companies.