GST on Director’s Remuneration -The Controversy Reborn

Under GST laws, some of the common functions carried out at an organization’s Head office like, human resource, IT functions, audit and legal operations incur cost (known as “Common Cost”) as they are identified as a service to the main functions of the organization or to the branches whose share of work are being carried out by the Head Office. Recently, the Government has started questioning organizations on their practice of passing on some of the common costs like salaries of chief executives to their branch offices. This means that, if companies were to treat such services as taxable supply, then the functions of the people, like Directors or CXOs, providing the service will attract GST (whether paid under output liability or under Reverse Charge Mechanism). Let us analyze this.

Section 9(3) and Section 9(4) of the CGST Act, 2017 contains the provisions with respect to Reverse Charge Mechanism in respect of certain services which are notified from time to time. Notification 13/2017 – CT (R) dated 28-06-2017 vide entry No. 6 provides for levy of RCM on services provided by a director of the company or a body corporate to the said company or body corporate. Further, Schedule III of CGST Act, 2017 provides for certain transactions which are neither considered as supply of goods or supply of service. Reading both these provisions together raises the below questions:

• Whether Salary or Remuneration paid to Directors is liable for payment of GST under Reverse Charge Mechanism?
• In case the same is excluded under Schedule III, what is the relevance of Entry 6 in Notification No 13/2017 – CT

These questions are more relevant considering the decision of the Authority of Advance Ruling (AAR), Karnataka, where in the case of M/s Alcon Consulting Engineers (India) Pvt Ltd - AR No. KAR ADRG 83/2019 dated 25.09.2019, it held by the AAR, that the remuneration paid to the directors is subject to GST under reverse charge and is covered under entry 6 of the notification 13/2017-Central Tax dated 28-06-2017. Recently in the case of M/s. Clay Craft India Pvt. Ltd. - AR NO. RAJ/AAR/2019-20/33 Dt:-20/02/2020, the AAR, Rajasthan has also held that Director is not an employee of the Company and hence GST is payable on remuneration paid to Directors.

The above controversy had raised its head under the erstwhile Service Tax Regime also, when it was the stand taken by the Department, that Directors of Company are required to pay Service Tax on the services rendered to the Company. However, after quite long time, the Board came out with the clarification that Whole Time Directors are employees of the Company and hence there is no Service Tax Liability on remuneration paid to Whole Time Directors.

The recent Advance Rulings under the GST Law has given rebirth to the same old controversy. Though any of the rulings do not provide for a detailed reasoning for the applicability of GST on the same, lets analyze this under various scenarios/laws/acts to apply such a proposition for taxability under Reverse Charge Mechanism.

Different types of Directors & their Roles

There are different kinds of directors that a company can appoint. Broadly they can be divided into two categories – executive directors and non- executive directors. Executive directors are the ones who are involved in the day to day execution of the affairs of the Company and include whole time directors, managing directors, etc. whereas non-executive directors include independent director, nominee director etc.

The executive directors of a company receive remuneration and are in full time employment of the company The non-executive directors are generally the ones who are professionally involved merely in broad business of the Company and do not involve into the day to day activities. These non-executive directors attend the board meetings and receive sitting fees or commission for providing services to the company or body corporate.

The Companies Act, 2013 has defined the term “whole time director” under section

2(94) of the Companies Act, 2013 as follows. 

(94) “whole-time director” includes a director in the whole-time employment of the company’

It is evident from the explanation and the definition that the words used are “whole-time employment of the company” and the said words used clarifies the intention of law that the whole-time director are the persons who devote their whole time in management of the company.

Under Income Tax Act 1961

Under the Income Tax Act, 1961 the remuneration paid to directors is subjected to TDS u/s 192 of the Income Tax Act, 1961. Section 192 provides for deduction of TDS in case of payments which are Salary. The said remuneration received is in lieu of managing the affairs of the company in the capacity of employee and taxed as salary in hands of directors. The remuneration paid to the directors is assessed under the head “Income from Salary” by Department of Income Tax.

Non-Executive Directors are not entitled to remuneration but are entitled to payment of Sitting Fees which is considered as Income from Other Sources and not Salary.

Under Companies Act 2013

Under the Companies Act, a General Circular No. 24/2012 dated 09.08.2012 issued by Ministry of Corporate Affairs (MCA) clarifies that

“The Non-Whole Time Directors of the company are presently not covered under the exempted list and as such, the sitting fees/commission payable to them is liable to Service Tax. Service tax is payable on the commission/sitting fees payable to Non- Whole Time Directors of the company.”

It is evident from the above circular issued by MCA that even under the service tax regime, service tax was payable only on any commission or sitting fees paid to Non- Whole Time Directors. The exclusion of Whole-time Directors and Managing Directors in the above circular clarifies the intention of legislature that the said directors are employees of the company and activities carried out by them cannot be termed as service and made liable to service tax. Extending such arguments to the provisions of GST law, similarly the same should not be made liable for payment of GST.

The test of nature of employment is “whether the nature of employment results in Master – Servant relationship”?  The true test is to determine whether it is Contract OF Service or whether is it Contract FOR Service. In other words, in case of Contract OF Service, the employer not only orders/requires what is to be done but also directs as to how it shall be done, whereas in Contract FOR Service, the master can only require as to what is to be done. Once this is determined, the result flows that a whole-time director is an employee of the Company who is in Contract OF Service with the company and remuneration received by whole time director is nothing but salary.

The Honorable Supreme Court in the case of Indian Medical Association v. V P Shantha (1995) 6 SCC 651 = AIR 1996 SC 550 explained the distinction between Contract FOR Service and Contract OF Service. The Supreme Court held that a Contract FOR Service implies a contract whereby one party undertakes to render services e.g. professional or technical services to or for other in the performance of which he is not subject to detailed direction and control but exercises professional or technical skill and uses his own knowledge and discretion. However, a Contract OF Service implies a relationship of master and servant and involves an obligation to obey orders in the work to be performed and as to its mode and manner of performance - similar views has been taken in the following cases

Shivnandan Sharma v. Punjab National Bank Ltd. AIR 1955 SC 404

Chandi Prasad Singh v. State of Uttar Pradesh AIR 1956 SC 149

Dhrangadhra Chemical Works v. State of Saurashtra AIR 1957 SC 264.

Takeaway

On going through the rulings pronounced by the Authority of Advance Ruling of Karnataka and Rajasthan, the rulings state that directors are not employees of the company and the remuneration paid to them by company is for the services provided by the directors to the company. Thus, the same is covered under entry 6 of the Notification 13/2017 – CT dated 28-06-2017 and liable to GST under reverse charge mechanism. 

One needs to carefully consider the facts of each case to determine whether the amount paid to a director is with respect to his employment Contract OF Service) with the company or with respect to an independent professional (Contract FOR Service).

A conjoint reading of Notification No 13/2017

– CT, Schedule III and the above referred judgment of Honorable Supreme Court, we are of the opinion that any amount paid to Director which is in the nature of employment contract (Contract OF Service) is not liable for payment of GST, whereas any amount paid to Directors in the nature of professional relationship (Contract FOR Service) will be liable for GST under Reverse Charge Mechanism.

Further, the subject ruling by the Hon’ble AAR does not seem to be the true intent of the legislature and considering the impact on industry, some clarification or relaxation from GST Council is expected in the near future.

Govind Gahlot

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