Section 198 Of Companies Act, 2013: Calculation Of Net Profit

Nowadays calculations for CSR and Managerial Remunerations hold high importance in the corporate world. Section 198 lays down the manner of calculation of the Net Profit of a company in any financial year for both CSR and Managerial Remuneration. Company secretaries must assist in these calculations and ease the understanding of the section to the board and other professionals. However, it sometimes becomes complicated to calculate the exact amount of net profits earned.

What is Section 198 of the Companies Act 2013?

The section lays down the process by remuneration calculated for 16 key managerial personnel for a financial year as per Section 197. Section 198(2) enunciates the sum for credits and section 198(3) sums for which credit will not be given. And Section 198(4) and section 198(5) enunciate the sums which will not be deduced during the calculation of net profits.

As per the Companies Act, the net profit we arrive at in financial statements says the statement of financial performance (P&L statement) should not be used for calculating the remuneration payable to directors. Now the Companies Act 2013 made it mandatory to consider the net profit calculated u/s 198 of the Act for CSR also.

Requirements for Net Profit Calculation

The provisions that are needed to be taken into consideration while calculating net profit are –

· After calculating the profit as said above the limits specified in the act in respect of managerial remuneration can be applied to know the maximum allowable remuneration.

· If the actual remuneration is more than the maximum allowable remuneration then the permission of the Central Government is now not required to be obtained. A special resolution of the members will suffice

· In computing the net profits of a company in any financial year for section 197, — (a) credit shall be given for the sums specified in sub-section (2), and credit shall not be given for those specified in sub-section (3), and (b) the sums specified in sub-section (4) shall be deducted, and those specified in subsection (5) shall not be deducted.

· In making the computation aforesaid, credit shall be given for the bounties and subsidies received from any Government, or any public authority constituted or authorized on this behalf, by any Government, unless and except in so far as the Central Government otherwise directs. [Section 198(2)].

Section 198(3): Items with No Credits

In making the computation aforesaid, credit shall not be given for the following sums, namely: —

a) profits, by way of premium on shares unless the company is an investment company as referred to in clause (a) of the Explanation to section 186

b) profits on sales by the company of forfeited shares;

c) (c)profits of capital nature including profits from the sale of the undertaking or any of the undertakings of the company or any part thereof;

d) profits from the sale of any immovable property or fixed assets of a capital nature comprised in the undertaking or any of the undertakings of the company, unless the business of the company consists, whether wholly or partly, of buying and selling any such property or assets: Provided that where the amount for which any fixed asset is sold exceeds the written-down value thereof, credit shall be given for so much of the excess as is not higher than the difference between the original cost of that fixed asset and its written down value;

e) any change in carrying amount of an asset or a liability recognized in equity reserves including surplus in profit and loss account on measurement of the asset or the liability at fair value.

f) any amount representing unrealized gains, notional gains, or revaluation of assets.

Section 198(4): Items of Expenditure

In making the computation aforesaid, the following sums shall be deducted, namely: —

a) all the usual working charges;

b) directors’ remuneration;

c) bonus or commission paid or payable to any member of the company’s staff, or to any engineer, technician, or person employed or engaged by the company, whether on a whole-time or a part-time basis;

d) any tax notified by the Central Government as being like a tax on excess or abnormal profits;

e) any tax on business profits imposed for special reasons or in special circumstances and notified by the Central Government on this behalf;

f) interest on debenture issued by the company;

g) interest on mortgages executed by the company and on loans and advances secured by a charge on its fixed or floating assets;

h) (h) interest on unsecured loans and advances;

i) expenses on repairs, whether to immovable or to movable property, provided the repairs are not of a capital nature;

j) outgoings inclusive of charitable contributions made under section 181;

k) depreciation to the extent specified in section 123;

l) the excess of expenditure over income, which had arisen in computing the net profits following this section in any year which begins at or after the commencement of this Act, in so far as such excess has not been deducted in any subsequent year preceding the year in respect of which the net profits have to be ascertained;

m) any compensation or damages to be paid in virtue of any legal liability including a liability arising from a breach of contract;

n) any sum paid by way of insurance against the risk of meeting any liability such as is referred to in clause (m);

o) debts considered bad and written off or adjusted during the year of account.

Section 198(5): Items to not be Deducted

In making the computation aforesaid, the following sums shall not be deducted,

namely: —

a) income-tax and super-tax payable by the company under the Income-tax Act, 1961, or any other tax on the income of the company not falling under clauses (d) and (e) of sub-section (4);

b) any compensation, damages, or payments made voluntarily, that is to say, otherwise than in virtue of liability such as is referred to in clause (m) of sub-section (4);

c) loss of capital nature including loss on sale of the undertaking or any of the undertakings of the company or any part thereof not including any excess of the written-down value of any asset which is sold, discarded, demolished, or destroyed over its sale proceeds or its scrap value;

d) any change in the carrying amount of an asset or a liability recognized in equity reserves including surplus in profit and loss account on measurement of the asset or the liability at fair value.