Goods and Services Tax (GST) On Director’s Remuneration

Introduction

The issue of applicability of Goods and Services Tax (“GST”) on the remuneration of directors has prevailed since the very inception of the legislation. The bone of contention that needs to be settled is whether the remuneration paid to directors by companies falls within the ambit of Schedule III of the Central Goods and Services Tax Act, 2017 (“CGST Act”) under the heading “services by an employee to the employer in the course of or to his employment”[1].

Schedule III of the CGST ACT[2] – deals with activities or transactions that shall not be treated as supply of goods or services and, hence, have been kept out of the ambit of GST.

The issue of remuneration to directors has been examined under the following two different categories:

• GST on remuneration paid by companies to the independent directors (IDs) defined in terms of Section 149(6) of the Companies Act, 2013 or those directors who are not the employees of the said Company (Non-Executive Directors (“NEDs”).
•  GST on remuneration paid by companies to the whole-time directors (WTD) including Managing Director (MDs) who are employees of the said company.

Applicability of GST on the remuneration of Independent Directors

For examination of the definition of independent directors, the CBIC referred to Section 149(6) of the Companies Act, 2013, with Rule 12 of Companies (Share Capital and Debentures) Rules, 2014 and identified that independent directors are not employee or proprietor or partner of the said company. Hence, the services provided by the independent directors to the said company do not fall under the scope of Schedule III of the CGST Act and are therefore taxable. This means the salary paid to the independent directors by the said company will attract GST under the reverse charge mechanism.

Applicability of GST on the remuneration of Whole-time Directors

In the case of whole-time directors, the activities were examined based on “service contract”. CBIC had pointed out that in case of a director employed by the company in a dual capacity, i.e., of a director as well as an employee, the employee function may be related as under a contract of service (employment) entered into with the company. Section 192 of the Income Tax Act, 1961 (IT Act) states that remuneration paid to directors are subject to a Tax Deduction at Source (TDS). However, there can also be some directors whose remuneration is paid as professional fees and not as salary, and the TDS for such directors is deductible under Section 194J of the IT Act. Therefore, the CBIC clarified that the remuneration for the directors paid in the form of salaries and whose TDS is collected under Section 192 of the IT Act is not taxable. Even so, the directors for whose remuneration are paid other than the salaries and whose TDS is collected under Section 194J of the IT Act as taxable under the reverse charge mechanism[3].

Can Directors be Treated as Employees of the Company

If directors are to be treated as employees of the company, then the work carried out by directors in their course of employment is neither supply of services nor goods and, thus, GST cannot be levied. However, if directors are not employees of the company, then services provided by them would be treated as “supply of services” under section 7 of the CGST Act and, thus, GST will be levied on companies on services provided by directors through reverse charge mechanism. Reverse charge, as defined under section 2(98) of the CGST Act, means the liability to pay tax is on the recipient of supply of goods or services instead of the supplier of such goods or services.

The answer to the issue at hand lies in the examination of the classifications of directors. The Companies Act, 2013 broadly classifies directors as executive or whole-time directors on the one hand and non-executive or independent directors on the other. The definition of a ‘whole-time director’ under section 2(94) of the Companies Act, 2013 read with rule 12 of the Companies (Share Capital and Debentures) Rules, 2014 states that “a whole-time director may or may not be an employee of the company” [emphasis added]. However, section 149(6) of the Companies Act read with rule 12 of the Companies (Share Capital and Debentures) Rules, 2014 makes it clear that independent directors are not employees of the company.

Practical Insights

This question arose and was first answered in 2019 in In Re: Alcon Consulting Engineers (India) Pvt. Ltd[4], wherein the Karnataka-AAR ruled that the remuneration paid to the directors of a company is liable to be taxed under section 9(3) of the CGST Act according to the reverse charge mechanism, as the services provided by directors are covered under entry No. 6 of Notification No. 13/2017-Central Tax (Rate), dated 28 June 2017. Similarly, in 2020, in  Clay Crafts India Pvt Ltd, the Rajasthan-AAR also ruled that GST will be levied on remuneration paid to directors by the company under the reverse charge mechanism.
However, in the year 2020, a contrasting view was taken by the Karnataka-AAR in the case of In Re: M/s Anil Kumar Agrawal, wherein it was held that there are two possible scenarios about the issue of levy of GST on remuneration paid to directors by the company. In the first scenario, where directors are executive or whole-time directors, they will be treated as employees of the company under schedule III of the CGST Act, and services provided by them would be in the course of employment. Thus, income received by them will be treated as “salary”, which is outside the purview of the CGST Act. In the second scenario, where the directors are non-executive or independent directors, the remuneration paid to such directors by the company would be taxable under section 9 of the CGST Act in the hands of the company under the reverse charge mechanism.

Consequently, the unsettled issue on account of divergent views of AARs of different states was later clarified by the CBIC through Circular No. 140/10/2020-GST dated 10 June 2020. The ruling of Karnataka-AAR in M/s Anil Kumar Agrawal, which is based on the classification of directors, has acted as a guiding standard for the CBIC[5].

CBIC Clarification

The June 2020 CBIC Circular sought to clarify the implication of GST on the remuneration paid to ‘whole-time directors’ as well as ‘independent directors. For this purpose, the reference was drawn to the Income Tax Act 1961 (“IT Act”) and the Companies Act, 2013 in the Circular.

The Circular clarifies that, for the levy of GST on independent directors, such directors should not be treated as employees or proprietors or partners of the said company in terms of section 149(6) of the Companies Act, 2013 read with rule 12 of the Companies (Share Capital and Debentures) Rules, 2014. Therefore, independent directors are ousted from the definition of an ‘employee’, and thus the services provided by such directors would not fall within Schedule III of the CGST Act and instead qualify as “supply of service” taxable under GST as reverse charge in the hands of the company.

Moreover, for the levy of GST on whole-time directors, such directors may or may not be employees of the company in terms of section 2(94) of the Companies Act read with rule 12 of Companies (Share Capital and Debentures) Rules, 2014. Therefore, in such cases, it is apposite to look into the activities provided by such directors to the company.
For whole time directors, the remuneration received by such directors can be either be treated as ‘salaries’ in the company’s account and be subjected to tax deduction at source (“TDS”) under section 192 of the IT Act or as ‘fees for professional or technical services’ in the company’s account and subject to TDS under Section 194J of the IT Act.

As a consequence of such treatment and deduction of TDS, the CBIC Circular clarifies that the former income, i.e., salary subjected to TDS under section 192 of the IT Act shall be considered as consideration received towards ‘services by an employee to the employer in the course of or to his employment’ in terms of schedule III of the CGST Act and thereby shall not be taxable under the CGST Act.  However, income subjected to TDS under section 194J shall be treated as ‘consideration for providing services’, which are outside the scope of schedule III of the CGST Act and is therefore taxable under the CGST Act. Further, according to notification No. 13/2017 –Central Tax (Rate) dated 28 June 2017, the said income would be taxable under reverse charge in the hands of the company.

Analysis

Both the advance rulings in Alcon Consulting and Clay Craft have erred and missed the basic essence concerning the implication of GST on different classes of directors under the Companies Act, 2013, which was clarified later by the CBIC Circular and the Karnataka-AAR in M/s Anil Kumar Agrawal. While, in the Circular, there was clarity about the taxability of services rendered by independent directors, the issue regarding the taxability of services rendered by a whole-time director remains problematic. The Circular has failed to bring clarity on the significant aspect as to whether the whole-time director would be considered as an employee of the company.

The Circular streamlined the prevalent issue based on the tax treatment of such remuneration under the IT Act on scaling the classifications of directors under the Companies Act, 2013. However, the Circular fails to independently analyze the role of a whole-time director as an employee. Given that section 190 of the Companies Act 2013 mandates the maintenance of a written memorandum of the contract of service setting out terms of employment of a whole-time director, perhaps the CBIC should have relied on such a contract of service instead of relying on the applicability of TDS provisions under the IT Act to determine the nature of the relationship between the company and the whole-time director.

As of now, the position on levy of GST on remuneration paid to Independent directors is settled. However, for whole time directors, companies must look at the terms of employment of such directors. If the terms are the same in all respects with that of any other employee of the company, then TDS would be deducted under section 192 of the IT Act and there shall be no GST liability on remuneration paid to ‘whole-time directors.

New Circular by the CBIC

The issue of the applicability of the Goods and Services Tax on the remuneration paid to the director at an organization, the clarification was issued after conflicting advance rulings were announced by two different benches of the Appellate Authority of Advance Ruling. The new circular by the CBIC distinguishes between directors who are also employees of the company or whole-time directors and others who serve as directors and are not employees of the company or independent directors in the circular issued by the CBIC read as follows:

• If a director is not engaged as an employee of the company, services provided by such directors are liable to GST. The company (as a recipient of such services) is required to discharge GST on a reverse charge basis in such cases as per Notification No. 13/2017- Central Tax (Rate) dated June 28, 2017.
• In case a director is a ‘whole-time director’ and is also engaged in the capacity of an employee, then such person may be entitled to remuneration in a dual capacity, that is, salary for services provided as an employee, and sitting fees for the services rendered as a director. In such cases:
• Any sum paid as salary on which Tax is Deducted at Source (‘TDS’) under Section 192 of the Income Tax Act 1961, would not be subjected to GST as that is a consideration received for service rendered by an employee to an employer in the course of employment, which falls within Schedule III of the CGST Act.
• Any sum paid as sitting fees which are subjected to TDS under Section 194J of the Income Tax Act 1961, will also be subjected to GST, as it is a consideration received for services provided by a director to the company. The company is required to discharge GST on a reverse charge basis in such cases as per Notification No. 13/2017- Central Tax (Rate) dated June 28, 2017.

Conclusion

Hence, it has finally been clarified that the services of an independent director and its subsequent remuneration are subject to GST by reverse charge mechanism. Concerning whole-time directors who also serve as employees and are receiving remuneration in a dual capacity, the sum paid as a monthly salary is liable to a TDS or tax deducted at source deduction, while the remuneration paid for sitting fees in the capacity of a director will be subject to GST as it falls under the category of consideration services.

References:

[1] Central Goods and Services Tax Act, 2017

[2] Central Goods and Services Tax Act, 2017

[3]CBIC Clarifies Applicability Of GST On Directors Remuneration available at https://www.avalara.com/in/en/blog/2020/06/cbic-clarifies-applicability-of-gst-on-directors-remuneration.html by Divita Gupta,June 15 2020.

[4] 2019 (9) TR 874

[5]GST Implication on Director’s Remuneration: CBIC’s Circular available at  https://indiacorplaw.in/2020/07/gst-implication-on-directors-remuneration-cbics-circular.html by Ashutosh Chaudhary and Anuj Jain on July 4, 2020.