Budget 2023: Restriction on Input Tax Credit on Corporate Social Responsibility expenses

Partner: Himanshu Sinha, Counsel: Shashank Shekhar, Senior Associate: Tushar Joshi, Associate: Samyak Jain

There has been a long-standing controversy in respect of Input Tax Credit (ITC) on expenses undertaken by companies for meeting their Corporate Social Responsibility (CSR) obligations. The Finance Bill, 2023 (Bill) has now provided clarity on this issue, through a proposed amendment to restrict ITC on goods or services received by a taxable person for carrying out CSR activities. Since companies will now be unable to avail ITC on their CSR expenses, this will result in higher tax costs and could negatively impact the beneficiaries.

Background

1. CSR Requirements

The Companies Act, 2013 mandates every company with:

• net worth of INR 500 crore or more, or
• turnover of INR 1,000 crore or more, or
• net profit of INR 5 crore or more

to spend in every financial year at least 2% of their average net profit made during the preceding three financial years towards meeting its CSR obligations. CSR activities undertaken by companies aim to balance the companies’ economic and commercial interests with their social and environmental impact, to achieve more holistic and inclusive growth.

2. Position under the erstwhile Service Tax regime

Since companies incur substantial expenditure towards CSR activities, they have often sought the credit of taxes paid on the input and input services for undertaking such expenses. Under the erstwhile service tax regime itself, a controversy had arisen around entitlement of ITC for CSR expenses. In 2018, the Customs, Excise and Service Tax Appellate Tribunal (CESTAT), Mumbai had held that CSR expenses were obligatory for the private sector to undertake. The concept of CSR goes beyond charity and has a direct bearing on the activities of companies since it augments their credit rating and standing in the corporate world. Accordingly, the CESTAT, Mumbai had set aside the denial of ITC on CSR expenditure by the tax department.

However, in a recent judgement passed in 2022, CESTAT, New Delhi upheld the denial of ITC on CSR expenses holding that input services are those which are used for providing output services, but CSR obligations arise only after providing the output services. Accordingly, the Tribunal held that CSR expenses cannot be treated as input services for providing output services, but are a consequence of such companies providing output services.

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