Can an Executive Director also provide Consultancy/Professional Services to the Company?
If we try highlighting a significant trend that has emerged in corporate governance, it is the composition of the Board which shows the shift from family-oriented boards to more professional and diverse boards. The composition of corporate boards has evolved over time to reflect the changing dynamics of the business landscape, economic globalization, and the need for effective oversight and strategic decision-making.
It is also quite common these days to notice that companies are seeking services from its directors in their professional capacity or as a consultant for which they may be paid for, apart from their regular remuneration. In some cases, directors concerned may also get engaged as a retainer thereby receiving a fixed payment as a consultancy fee apart from their regular remuneration i.e. salary as a director of the Company.
The question of whether an Executive Director, who is fully engaged in the day-to-day business of a company, can also provide consultancy services to the same company raises several important considerations. While it’s not uncommon for directors to offer their expertise in various capacities, there are potential conflicts of interest and legal implications that need to be carefully addressed.
Conflict of Interest: The primary concern with an Executive Director providing consultancy services to the same company is the potential for conflicts of interest. An Executive Director’s fiduciary duty is to act in the best interests of the company and its shareholders. Engaging in consultancy work might create conflicts between their personal interests and those of the company.
Time and Focus: Executive Directors are usually deeply involved in the company’s strategic decisions, management, and operations. Adding consultancy responsibilities could potentially divert their attention and focus away from their primary role, which could impact the company’s performance and decision-making.
Fair Compensation: Any additional compensation for consultancy services must be fair and reasonable, taking into account the market rates for similar services. Excessive compensation could be seen as a way to unduly benefit the Executive Director at the expense of the company.
Corporate Governance and Disclosure: Companies are expected to maintain good corporate governance practices, which often involve transparency and proper disclosure of director’s interests and activities. Any consultancy arrangement should be appropriately disclosed to shareholders and stakeholders to ensure transparency and avoid potential conflicts.
Legal and Regulatory Compliance: Different jurisdictions have varying regulations and laws governing the roles and responsibilities of directors. Engaging in consultancy work might trigger legal or regulatory compliance issues that need to be carefully reviewed and addressed.
Approval and Oversight: It’s important for such arrangements to be approved and monitored by the board of directors, particularly the non-executive or independent directors. Independent oversight can help ensure that the arrangement is in the best interests of the company.
Scenario under the Companies Act, 2013
Let us first check out what Companies Act, 2013 says about the Executive Director. As per clause2(k)of Companies (Specification of definitions details) Rules, 2014, “Executive Director” means a whole-time director as defined in clause (94) of section 2 of the Act. That means a director who is employed for a whole time in a Company and can be designated as Managing Director or Whole-Time Director. He is usually performing the executive functions in the management and administration of the Company. Let us understand the scenario from two main sections of the Companies Act which us Section 197(4) and Section 188 of the Companies Act, 2013.
Section 197(4) – As per the provisions of the section 197(4) of the Companies Act, the remuneration paid to any Managing director, Whole-Time Director or Manager in any other capacity shall not form part of the remuneration in case the services rendered are of professional nature and as per the opinion of the Nomination and Remuneration Committee, the director possesses the requisite qualification for the practice of the profession. Section 200 of the Companies Act, 2013 has a reference to the professional qualification in relation to managerial remuneration.
Therefore, an Executive Director can render the professional services possessing the requisite qualifications and the Company can also pay for such services to the Directors of the Company including Managing, Whole Time Director or Manager of the Company subject to the condition then it should be in accordance with the provisions of the Section 197(4) of the Companies Act, 2013, either by the articles of the company or by a resolution or if the articles deem it necessary, by a special resolution of the members passed in general meeting.
The previous approval of the members is not necessary for such payments, and it would be in order if the payment as approved by the Board, is subject to approval of members either by ordinary resolution or special resolution as necessary depending upon the provisions in the Articles.
Section 188 – Consultancy fees to an Executive Director may lead to be a Related Party Transaction (RPT)
Where a director receives from the Company any remuneration over and above what he is entitled to as director for rendering some services which are of a professional nature, and if the payment made for such services is not in the ordinary course of business and also not on arm’ length basis, he is most definitely holding an office or place of office in the Company. In such cases, the approval of the Board has to be obtained under Section 188 as it gives rise to a Related Party Transaction. Further if the threshold limits laid down for such payment under Rule 15 of the Companies (Meetings of Board and it Powers) Rules, 2014 are exceeded, approval of the shareholders under Section 188 will also be needed for the related party transaction, in addition to seeking their approval under Section 197(4).
Scenario under the Income Tax Act
The remuneration received as Director of the Company is treated as salary under the Income Tax Act and the same is taxed under the head salary and the tax is deducted by the company under section 192 of the Income-tax Act.
Whereas the professional income earned by the director is taxed under the head Income from Business and Profession and the TDS is deducted under section 194J1(ba). The tax in this section is deducted if any sum is paid in the form of any remuneration or fees other than those on which tax is deductible under section 192, to a director of a company.
The income chargeable under the head Business and profession could be declared u/s 44ADA. As per section 44ADA of the Income Tax Act, the following two conditions must be met in order to choose the Presumptive Taxation Scheme under Section 44ADA of the Income Tax Act:
The profession’s gross receipts should be less than or equivalent to INR 50 lakh.
In the ITR, the taxpayer must record 50% or more of the gross receipts as income.
Scenario under the GST Act
The remuneration paid to the executive director of the company is not liable for GST. However, the consultancy fees paid to the executive director and the remuneration paid to non-executive director is covered under the ambit of GST.
The above-mentioned provisions of the Companies Act, Income Tax Act, and GST Law clearly make an Executive Director having requisite qualifications eligible to provide consultancy services to the Company and draw consultancy fees.
However, in summary, while it is possible for an Executive Director to provide consultancy services to the same company, it must be approached with caution and careful consideration of potential conflicts of interest, legal compliance, and corporate governance standards. Seeking legal counsel and ensuring proper disclosure and oversight are key steps to manage potential risks and maintain the integrity of the company’s operations and decision-making processes.
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