Should Social Enterprises Be Regulated Under New And Separate Laws?

There is no legal definition of a
Social Enterprise. There are myths and ambiguities surrounding these
entities. They are currently popular, but, not quite positioned
within either the business or the social sector. They continue to
hover between for-profit and non-profit, but, at the same time,
clinging resolutely on to the ‘social’ tag! We spoke to a few
social enterprises to understand their views. 

To begin with how would you distinguish
a Social Enterprise (SE) from a non-government organisation (NGO)?

Nisha Bora, is Director at Elrhino Eco
Industries Pvt Ltd. They manufacture tree free hand crafted paper and
paper products from forest waste and use it as a platform to generate
support for the conservation of the One Horned Rhino and Asian
Elephant. Nisha says “I think there is none at all, except that I
can sell my company, and an NGO cannot be sold for personal profit. I
think an SE is more or less an NGO, with greater restrictions in
terms of compliances – for e.g. minimum labour laws, no possibility
to raise non sales funds. In fact, as an NGO I would have been better
placed to receive funds.”

Tilisa Gupta Kaul is Director at The
Artisan Foundation (TAF). This SE was founded with the belief that
there is a need to bring rural artisans into the mainstream market.
Their focus is to preserve and promote traditional art & craft
through sustainable livelihood initiatives. Tilisa feels, “While
both social enterprises and NGOs are part of the social sector, the
distinction really lies in the philosophy, and it shows up
prominently in the organization’s social value creation objectives
and its revenue model.”

Anukriti Goyal is Co-founder of Apni
Shala Foundation. They deliver life skills education programmes
to schools and non-profit organisations that wish to focus on social,
emotional and cognitive development of children. Anukriti tells us
that the distinguishing factors between both are continuously
evolving. “Both Social Enterprises and NGOs are for social
good. The commonly discussed differentiating factors are based on
their revenue model, their orientation to bring the long term
systemic changes etc. NGO itself is not a legal term, commonly
grouping trusts, societies and Section 8 companies under the NGO
umbrella. There is a need to assign legal terms on basis of revenue
models – donation based models and social business based
not-for-profit (Section 8) and for-profit companies. The latter
coming under the umbrella of Social Enterprises.”

The law, particularly the Income Tax
Act does not accommodate a hybrid. The SE must decide whether it
desires to be for-profit or non-profit. As of the moment, the only
possible ‘hybrid model’ is to have two distinct and separate
entities (one for-profit and the other a non-profit) work parallel to
each other within a common social space. One entity functions as the
commercial business arm and the other as the platform for receiving
grants and donations and implement activities at the grassroots
level.

What are the legal challenges faced by
Social Enterprises?

Tilisa reinforces what most SEs feel.
“There is a lack of standardized legal structure (regulations
concerning incorporation and compliance) for social enterprises in
our country. Further, due to limited use of e-government platforms
and lack of communication between various government ministries the
entrepreneurs struggle to obtain simple clearances and exemptions. A
social enterprise has to deal with central, state and local
government departments to obtain various clearances. Moreover
taxation is often a major issue as all non-profit organizations are
registered as tax exempt but, tax authorities have not come to terms
with social enterprises with profit motive yet.”

Anukriti‘s challenge is around funding,
“Since there is no separate considerations for Social Enterprises
 especially the ones registered as for-profit companies, huge
challenges are faced in raising funds from CSR (law itself does not
allow), foreign funds etc. There are no special tax exemptions given
for carrying out the activities.”

Nisha similarly agrees, “Compliances
with receiving and disbursing funds are a big issue. As a for-profit
entity, my hands are tied and it is impossible for me to receive any
money for philanthropic disbursal; everything has to show up as
sales! Besides, overall compliances are too many, opaque and complex
for small enterprises who cannot afford a Company Secretary to take
care of all this.”

Many feel that laws in the country are
not friendly for the social sector in general. For the longest time,
non-government organisations that so far were dominant in this space
have been struggling to not only understand the plethora of laws but
also keep up with the demanding compliance. We asked if SEs find
working within the current legal and regulatory framework inhibiting?
Why?

Anukriti agrees, “Yes, it is
inhibiting for companies registered under companies act but
completely working for social good. They work at low margins,
operations costs but need to adhere to all commercial company laws.
Additionally, at times it becomes confusing on what is applicable and
what is not. And proper legal advice/services are generally
expensive.”

Nisha concurs, “If the law does not
differentiate between me and any profit oriented enterprise without a
social mission, then why label me ‘social’ at all? It is very complex
to traverse the line between profit and mission without muddying
both, and one is constantly torn in two directions depending on who
is asking the questions. Funders say they want to see returns, but
also with big impact. It is a double burden, and an unrealistic one.

Tilisa views it this way, “There are
many factors, which may potentially inhibit the smoother operations
and development of a SE in India. These include social attitudes,
religious beliefs and prevailing cultural factors. In addition,
legal, regulatory and taxation rules will also play an important
role. The primary reason is the lack of standardized, identifiable
and widely agreed definition for the term social enterprise.”

Is there a need to legally define a SE
and what sort of legal and regulatory reliefs would SEs be looking
out for under the current circumstances?

Tilisa has her list ready – “Social
enterprises are categorized as part of the development/social sector.
Which leads to a lot of disadvantages for business operations. A
mega-regulatory body must be created that acts as a single window for
incorporation, approval, monitoring and compliance. This body should
have state-level centers to reach out to remote parts of the country.
Also, there is a need for a robust policy environment to enable
social entrepreneurship, especially a policy that grants concessions
or incentives to create positive social outcomes. This is necessary,
as it will become hard to legitimize concessions, provisions for SEs
verses other businesses. Important interventions that social
enterprises need: Structured financial space, regulatory operating
guidelines, CSR funding and self-regulation.”

Nisha wants, “Allow me a special
income class that is not sales, not taxable, but goes straight into
impact delivery. Let it not show in the balance sheet against profit,
but against fund raising or something. Allow foreign remittance for
this. The FCRA constraints are not the friendliest!

Anukriti agrees there is definitely a
need. “If we want to create the maximum social and environmental
value out of the money being pumped currently in social sector
through CSR, foreign foundations etc, we need to have institutions
(SEs) which have well defined legal structure and are aiming to
provide impact and scale. We also need smooth process for accessing
foreign funds. Tax exemptions (benefits can be passed on to
beneficiaries). Relaxation under Labour law, minimum wages act, PF
act, for people being employed from informal/unorganised sectors, so
that in addition to benefits under the act, they can also have more
in hand salary.”

All around the world, social businesses
with a mission to improve the lives of the poor and generate a profit
are capturing increasing attention. One of the key decisions to be
made is whether to be an NGO or SE. Once that is resolved key is to
decide is the choice of legal structure for the SE.

Do more SEs choose the non-profit model
over the for-profit model or vice versa? Why?

Anukriti’s experience says, “Not
necessarily. The choice of model depends mostly on the kind of
activities, inherent revenue generating capacity and the intent of
the people behind the SE. But there are increasing number of support
entities which are supporting only for-profit model as it can scale
and thereby have a larger impact. This might indirectly give boost
for more for-profit models.  Since it is linked to the social
sector making profit is not considered good, however the talks should
be focused on how the SE is utilizing the profit.”

Tilisa sees a shift in the last decade,
in the landscape of the not-for-profit and for-profit sectors due to
the increased momentum of the social enterprise movement. “We have
seen reshaping in both the not-for-profit and for-profit sectors –
with many not-for-profit charitable organizations looking more and
more like for-profit entities and vice versa. This has given birth to
a new structure known as a hybrid model, which has joint ventures
between the charitable and for-profit entities. Hybrid model based
social enterprise has often been hyped as the model to embrace and
practice as it provides an opportunity to serve two bottom lines
simultaneously, reaping both financial and societal rewards.
Moreover, it helps the organization self-sustain itself.”

Which model is preferred most by
funders and why?

“I think there is greater acceptance
of for-profits; even grant making organisations want to see a revenue
model in place. Except government schemes, I have seldom come across
funds that exclude private companies.” says Nisha.

Tilisa is positive with advent of
social entrepreneurs, fund generation has not remained a major
challenge anymore. “The lack of funding opportunities was one of
the major disadvantages social enterprises faced in the past but that
is changing. The funding was lopsided; it was either focused on
for-profit business to generate higher returns or for non-profit
charitable organization for social impact.

Investors are coming to realize that
social enterprises of all sorts can also generate financial returns
that will make them attractive to the right investors. Therefore, we
see for-profit social enterprises being preferred organization for
funders.”

Anukriti is certain there are both
types of funders. “The purpose behind the funding differs. 
For non-profit, the funders might have to keep changing as they will
keep needing funds to run the regular operations and have a good part
of the team dedicated to reach out to funders. Funders will be
looking at impact.  For-profits will have the revenues taking
care of the operational cost (partially or fully), but they might
need funds for scaling. Here the funders look at impact, increase in
impact with scale and also to get returns on investment (might not be
as high as a commercial business).”

Ultimately, both SEs and NGOs exist for
social good. Hence, do they need to be mutually exclusive?

Tilisa concludes, “Both social
enterprises and NGOs are categorized as part of the
development/social sector. A blended approach is the best strategy to
succeed and to create social value that transforms the lives of those
who lack the capacity to change the social and economic ecosystem.”

Nisha adds, “I firmly believe, not.
All we need to do is build in legislation to tackle some key issues,
such allowing some form of private ownership of assets and
discretionary powers to allocate incoming funds as income vs fund
raised for impact work. If we can demonstrate that the funds have
indeed been used for development work, then why should it be treated
as taxable sales income?”

We all have to agree with Anukriti’s
closing statement, “There is need for both to exist. But a stronger
legal and tax framework can bring in more transparency and
efficiency.”

Do you have any views on social enterprises? Write in to us at connect@capindia.in