Loans by Company to Director(s) under Section 185 of the Companies Act, 2013 by CS Yash Pareek (www.csyashpareek.in)

 

||Om Shri Ganeshay Namah||

Loans by Company to Director(s)

 

In-depth Analysis of Restrictive, Prohibitive  & Exempted Provisions

TEAM YPA

Prepared by CS Yash Pareek

Valuable inputs by CS Neha Jain & CS Gajab Maheshwari

 

 

 

YASH PAREEK & ASSOCIATES

Company Secretaries

BHOPAL | INDORE | NAGPUR | AHMEDABAD

 

Reach us at:

Address: T-3, 3rd Floor, 207, M.P Nagar, Zone-II, Bhopal-462011, M.P

Mobile No: 9111575222

Email id: pcsyashpareek@gmail.com

Website: www.csyashpareek.in

 

 

LOANS BY COMPANY TO DIRECTOR(S)

 

1.     Applicable Statutory Provisions of the Law:

 

Following Statutory Sections of the Companies Act (including Amendments therein) have been covered as follows:

 

·        Section 185 of the Companies Act, 2013 (Notified on September 12^th, 2013) and

 

·        Companies (Amendment) Act, 2017 (Effective from May 07^th, 2018).

 

 

2.     Loan:

 

Loan is not defined under the Companies Act, 2013. However in normal parlance any transaction in which money is given with the intention to be returned, with or without interest is loan.

 

We have listed some parameters to identify and to recognize a transaction as loan or not:

 

·        An amount – in cash or kind

 

·        Given to a borrower

 

·        An agreement (express or implied) to repay

 

·        Recognition of liability by the borrower to return it with/without interest.

 

 

3.     Definitions:

 

Definitions of key terms as defined under the Companies Act, 2013 have been illustrated for reference as under:

 

3.1       Director & Board of Director:

Pursuant to Section 2(34) of the Companies Act, 2013, "director" means a director appointed to the Board of a company.

Pursuant to Section 2(10), "Board of Directors" or "Board", in relation to a company, means the collective body of the directors of the company

 

 

3.2       Person in whom Director is Interested:

Person in whom Director is interested means the following:

(a)          Any private company of which any such director (Director of reporting company) is a director or member;

 

(b)          Any body corporate at a general meeting of which not less than twenty-five percent of the total voting power may be exercised or controlled by any such director, or by two or more such directors, together; or

 

(c)           Any body corporate, the Board of directors, managing director or manager, whereof is accustomed to act in accordance with the directions or instructions of the Board, or of any director or directors, of the lending company.

 

 

3.3       Relative:

 

Pursuant to Section 2 (77) of the Companies Act, 2013, relative with reference to any person, means any one who is related to another, if—

 

·        Members of HUF

·                                                                                                 

·        Husband/wife

 

·        Father

 

·        Mother

 

·        Brother

 

·        Sister

 

·        Son

 

·        Son’s wife

 

·        Daughter

 

·        Daughter’s husband

 

 

 

4.     Purpose/Intent of Section 185:

 

Provisions of Section 185 of the Companies Act, 2013 has been enforced to:

 

·        Prevent the company from Siphoning off of Public funds lent by FIs and Banks.

 

·        Prevent the company from Misuse by transferring funds to Private businesses owned by the Director.

 

·        Prevent the company from Providing Corporate Guarantees and securities to financial institutions to secure personal gains for the Director.

 

·        Ensure that directors do not surpass their fiduciary duty towards the company for their own benefit.

 

 

 

5.     Erstwhile Section under Companies Act, 1956 vis-à-vis under the Companies Act, 2013:

 

Section 295 of the Companies Act, 1956 was only applicable on Public Limited Companies and their subsidiaries under the previous Act.

 

However, Section 185 of the companies Act, 2013 is applicable to both Private companies (unless exempted subject to certain conditions) as well as Public companies to ensure that funds of the company are not diverted to directors, their relatives or to firms in which they are interested.

 

 

 

 

 

 

6.     Various Stages under Section 185:

Section 185 of the Act can be illustrated in following different stages of statutory provisions for the better understanding of the Law:

·        Prohibitive Provisions (no possibility of granting loans or providing Security or guarantee Director or indirectly)

 

·        Restrictive Provisions (Possibility but subject to certain conditions)

 

·        Exemption Provisions (Non-applicability of whole Section subject to meeting certain conditions by private companies) or non applicability of Section 185 (1) and 185 (2) to certain transactions subject to certain conditions as mentioned in Section 185 (3) of the Act.

 

 

7.     Prohibitive Provisions of Section 185:

 

Section 185 (1) of the Companies Act, 2013 restricts or prohibits the companies to grant loan or to give any guarantee or provide any security to certain persons expressly without any exemptions or relaxations.

 

Provisions of Section 185 (1) has been illustrated under for your reference and reading:

 

Pursuant to Section 185 (1) of the Act:

 

No company shall, directly or indirectly, advance any loan, including any loan represented by a book debt to, or give any guarantee or provide any security in connection with any loan taken by,—

 

7.1   Any director of the company,

 

7.2   Director of holding company of the reporting company

 

7.3   Any Partner or Relative of any such Director (Director of reporting company or Director of holding company of the reporting company

 

7.4   Any firm in which any such Director of Reporting Company or his Relative is a Partner.

 

‘Directly or indirectly means routing of loan through intermediaries for beneficial interest of Director’.

 

‘Represented by book debt means credit sales or short term advances’.

 

Therefore a company cannot grant loan or give guarantee or provide security in connection with loan to its own Director(s) including to any Director of its holding company or to any partner or relative of any such director(s) or at last to any firm in which director of company or his relative is partner.

 

 

8.     Restrictive Provisions of Section 185:

 

Section 185(2) of the Companies Act, 2013 restricts the companies to grant loans or give any guarantee or provide any security in connection with loan to some category (person in whom Director in interested as defined in point 3.2 above) without meeting compliance of certain conditions as mentioned hereunder, Thus permissions is given to companies to give loans or guarantee or security only after ensuring the necessary compliance with the specified conditions.

 

Provisions of Section 185 (2) has been illustrated under for your reference and reading:

 

Pursuant to Section 185 (2) of the Act:

 

‘A company may advance any loan including any loan represented by a book debt, or give any guarantee or provide any security in connection with any loan taken by any person in whom any of the director of the company is interested, subject to the condition that

 

(a)    A special resolution is passed by the company in General Meeting:

 

Provided that the explanatory statement to the notice for the relevant general meeting shall disclose the full particulars of the loans given, or guarantee given or security provided and the purpose for which the loan or guarantee or security is proposed to be utilized by the recipient of the loan or guarantee or security and any other relevant fact; AND

 

 

(b) The loans are utilized by the borrowing company for its principal business activities.

 

Also, loans extended to persons, including subsidiaries, falling within the restrictive purview of Section 185 should be used by the subsidiary for its principal business activity only, and not for further investment or grant of loan.

Therefore a company can grant loan or give guarantee or provide security in connection with loan to person in whom director is interested only after meeting both the conditions as mentioned in Section 185 (2 of the Act.

 

 

9.     Exceptions:

 

Section 185 (3) exempts the Companies from compliance with Section 185 (1) and Section 185 (2) regarding prohibition and restriction on granting loan or providing guarantee or security in connection with loan subject to meeting of certain conditions illustrated as under:

 

Pursuant to Section 185 (3) of the Act

 

Nothing contained in sub-sections (1) and (2) shall apply to—

 

(a)    the giving of any loan to a managing or whole-time director—

 

·        as a part of the conditions of service extended by the company to all its employees;

or

·        pursuant to any scheme approved by the members by a special resolution; or

 

(b)   a company which in the ordinary course of its business provides loans or gives guarantees or securities for the due repayment of any loan and in respect of such loans an interest is charged at a rate not less than the rate of prevailing yield of one year, three year, five year or ten year Government security closest to the tenor of the loan; or

(c)   any loan made by a holding company to its wholly-owned subsidiary company or any guarantee given or security provided by a holding company in respect of any loan made to its wholly owned subsidiary company; or

(d)   any guarantee given or security provided by a holding company in respect of loan made by any bank or financial institution to its subsidiary company:

Provided that the loans made under clauses (c) and (d) are utilised by the subsidiary company for its principal business activities.

 

 

10.  Exemption to Private Company:

 

Section 185 is not applicable to Private Company

 

9.1.        In whose share capital, no body corporate has invested any money (i.e. no body corporate is the shareholders of the company); and

 

9.2.        If the borrowings from any Banks, Financial Institutions or body corporate is less than twice of its paid up share capital or 50 Crore, whichever is lower; and

 

9.3.        Such company has not defaulted in repayments of such borrowings subsisting at the time of making transactions; and

 

 

11.  Provisions in Secretarial Standards:

 

11.1       Secretarial Standards (SS-1):

 

Matters of Granting loans or giving guarantee or providing security in respect of loans to be considered only at a duly convened Board Meeting.

 

11.2       Secretarial Standards SS-2:

 

Every company having more than 200 Members shall transact the following business of Giving loans or extending guarantee or providing security in excess of the limit specified only by means of postal ballot.

 

 

12.  Government Companies:

 

Section 185 is Not Applicable on Government companies which satisfies both conditions: -

 

·        obtains approval from ministry administratively in charge of the company/ SG before making any LGS

and

 

·        Which has not defaulted in filing financial statements and annual return with the registrar

 

13.  Nidhi Companies:

 

Section 185 is Not Applicable on Nidhi companies

 

·        While granting loan to director/ relative in their capacity as members

 

AND

 

·        Such transaction is disclosed in the annual accounts

 

 

14.  Penalty Provisions:

 

If any loan is advanced or a guarantee or security is given or provided or utilised in contravention of the provisions of this section, the company shall be punishable with fine which shall not be less than five lakh rupees but which may extend to twenty-five lakh rupees, and the director or the other person to whom any loan is advanced or guarantee or security is given or provided in connection with any loan taken by him or the other person, shall be punishable with imprisonment which may extend to six months or with fine which shall not be less than five lakh rupees but which may extend to twenty-five lakh rupees, or with both.

 

Conclusion:

 

Section 185 has to be complied by corporate in true letter and spirit. Also Auditors needs to check the compliance of Section 185 while issuing CARO 2020 report to enable the stakeholders to ascertain the intention of management in utilization the funds of the company in such a manner which is not prejudicial to the interest of the company and its stakeholders.

 

Happy reading.

 

Regards,

CS Yash Pareek   [ICSI Silver Medalist]

Company Secretary  I     Yash Pareek & Associates {www.csyashpareek.in/Professional}

Entrepreneur             I     Manomay Innovations Private Limited {www.manomay.co.in}

Social Worker            I     Rukmani Devi Pareek Charitable Foundation {www.csyashpareek.in/socialwork}

Contact No.:  9111575222       Website: www.csyashpareek.in

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