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Loan to Director – A Trick or Trap to rotate Funds….By Surabhi Srivastava

Home / Loan to Director – A Trick or Trap to rotate Funds….By Surabhi Srivastava

Loan to Director – A Trick or Trap to rotate Funds….By Surabhi Srivastava

INTRODUCTION

Financial  transaction with related to like Loan, Guarantees, Securities, Book Debts e.t.c  are common  among every corporate entities and it requires well decisive efforts from the Board of the Company to ensure that transactions related to these loan, guarantee e.t.c falls within the ambit of statutory compliances.

It is very common practice by Companies to provide and avail financial support to and from Individuals, Firms, Body Corporate and these practices gained attention of regulators as Companies were taking undue advantages and getting indulged into malicious transactions keeping stakeholder’s interest at risk. Section 185 of Companies Act 2013 is one such section which creates check over the decision of the Board with respect to these transactions and arrangements.

In simple terms, Section 185 of Companies Act 2013 basically stipulates terms and conditions when Company is willing to provide Loan, Guarantee or security with respect to loan to its Directors or anyone be it Individual, Firm or Body Corporate in whom Director’s interest is involved.

Section 61 of Companies Amendment Act, 2017 which came into effect from 7th May 2018 has amended altogether Section 185 of Companies Act 2013 and brought significant changes which provide relaxation to carry financial affairs of the Company in smooth manner along with ensuring check over corporate affair’s in the interest of Stakeholder.

SECTION 185 OF COMPANIES ACT, 2013

Section 185 of Companies Act, 2013 can be easily understood by bifurcating the entire section into four major headings as follows:

  • 185(1): Prohibitory Provisions
  • 185(2): Restrictive Provisions
  • 185(3): Exempted Provisions
  • 185(4): Penal Provisions

Contents of these provisions are summarized in simple terms as below:

Section 185 (1)

Prohibitory Provisions

COMPANY SHALL NOT

  • Advance Any Loan (Including Book Debt)
  • Give Any Guarantee
  • Provide Any Security In Connection With Any Loan

TO

  • Any Director of Company
  • Any Director of its Holding Company
  • Any Partner OR Relative of any such Director
  • Any Firm in which any such Director or Relative is a Partner

Section 185 (2)

Restrictive Provisions

COMPANY MAY

  • Advance Any  Loan (Including Book Debt)
  • Give Any Guarantee
  • Provide Any Security In Connection With Any Loan

TO

  • Any Person in whom any of the Director of the Company is interested *

PROVIDED

  • Special Resolution is passed in General Meeting
  • Disclosure of Details of Loan, Guarantee or security in Explanatory Statement
  • Borrowing Company to utilize funds for its Principal Business Activities.

* Any Person includes:

  • Any Private Company of which any such director is a Director
  • Any Private Company of which any such director is a Member
  • Any Body Corporate.
    • In which such Director or Two or more Directors control 25% of total Voting Power
    • In which Director of lending Company control Board of Directors/Managing Directors through Directions/Instructions.

Section 185 (3)

Exempted Provisions

Below given Persons are Exempted:

  • Managing Director/Whole Time Director
    • If loan is given as conditions of service at par to all employees
    • If such scheme is passed by Special Resolution

Below given Entities are Exempted:

  • Companies providing Loan/Guarantee/Security in Ordinary Course of Business

At a rate not less than the rate of prevailing yield of 1,3,5 or10 years Government security closest to the tenor of the loan

  • Holding Companies giving Loan to Wholly Owned Subsidiary*
  • Holding Companies giving guarantee/security of loan made to Wholly-owned Subsidiary*
  • Holding Companies giving guarantee/security for loan taken by Wholly-owned Subsidiary*

*Loan provided to Subsidiary Company to be utilized only for Principal Business Activity

Section 185 (4)

Penal Provisions

Penalty for Contravention of Provisions

  • Company
    • Fine : Not less than Rs. 5 Lakh to maximum Rs. 25 Lakh
  • Officer of the Company
    • Imprisonment: 6 month
    • Fine : Not less than Rs. 5 Lakh to maximum Rs. 25 Lakh
  • Director to whom service provided
    • Imprisonment: 6 month
    • Fine : Not less than Rs. 5 Lakh to maximum Rs. 25 Lakh
  • Person to whom services provided
    • Imprisonment: 6 month
    • Fine : Not less than Rs. 5 Lakh to maximum Rs. 25 Lakh

POINTS TO CONSIDER

  1. Companies Act, 2013 has not defined Book Debt however as a general concept, book debt refers to the amount that is receivable from people including debtors and others against goods sold and services rendered.  Thus Director cannot avail Loan from Company in capacity of debtor to pay money back on later stage.
  2. Prohibitory provisions is related with loan/guarantee/security provided to INDIVIDUAL [Director, Relative of Director, Partner of Firm] AND to PARNTERSHIP FIRM.
  3. Restrictive provisions is related with loan/guarantee/security provided to PRIVATE COMPANY AND BODY CORPORATE
  4. As per MCA Notification dated 5th June 2015, Section 185 of Companies Act,2013 will not be applicable to Private Companies –
  • If Share Capital of such Company is not subscribed by any other Body Corporate.
  • If Company’s Borrowing < 2* Paid up Capital
Or

          Company’s Borrowing <  Rs.50 Crore, Whichever is Lesser

 Borrowing from any Bank, Financial Institutions or Body Corporate

  • No default in repayment of such borrowing.

COMPARATIVE DETAILS

Companies Act 2013 The Companies (Meeting of Board and its Powers) Rules, 2014 Companies Amendment Act 2017 The Companies (Meeting of Board and its Powers) Rules, 2014

Loan to Interested Parties

Not allowed

Allowed if Special Resolution is passed in General Meeting Disclosure of Details of Loan, Guarantee or security in Explanatory Statement Borrowing Company to utilize funds for its Principal Business Activities
 

Interest Rate for Company lending in ordinary course of Business

At a rate not less than the bank rate declared by the Reserve Bank of India

At a rate not less than the rate  of prevailing yield of 1,3,5 or10 years Government security closest to the tenor of the loan

Penalty on Officer of the Company

No such provisions

Imprisonment: 6 month Fine : Not less than Rs. 5 Lakh to maximum Rs. 25 Lakh
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Amrita Bhatnagar
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Amrita Bhatnagar

Very nicely analysed…self explanatory

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