Introduction:

-Section 185 of CA, 2013 was notified on September 12, 2013 and came into force on the same date replacing the old section 295 of the Companies Act, 1956 which provides for loans to directors.

-With the recommendation of the Company Law Committee (CLC) the said section got substituted via Companies (Amendment) Act, 2017 effective from May 07, 2018 aiming to encourage genuine transactions and ease of doing Business.

-Section 185 of the Companies Act 2013, prescribes the provisions related to advance of any loan, including any loan represented by a book debt to, or giving any guarantee or providing any security to director and to any person in whom any of the director of the company is interested.

Synopsis of CLC Report, 2016 on 185:

  • The Committee acknowledged that there are difficulties being faced in genuine transactions due to the complete embargo on providing loans to subsidiaries with common directors, but at the same time there is no doubt that the route has been misused in the past for siphoning of funds by controlling shareholders.
  • The Committee noted that limited relaxation has already been provided to private companies not having other body corporates invested in them and therefore any further relaxation should be subject to greater safeguards.
  • The Committee, therefore, recommended, that it may be considered to allow companies to advance a loan to any other person in whom director is interested subject to prior approval of the company by a special resolution.
  • Further, 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.

DETAILED ANALYSIS:

185(1): Prohibition

Section 185 (1) strictly prohibits the company to directly or indirectly, advance any loan (including any loan represented by a book debt), or give any guarantee or provide any security to —

a) any director of company;

b) any director of its holding company;

c) any partner or relative of any such director;

d) any firm in which any such director or relative is a partner.

185(2): Loan to person in whom director is interested – Allowed subject to fulfilment of conditions

A company may advance any loan (including book debt) or give any guarantee or provide any security to any person in whom any of the director of the company is interested subject to the following conditions:

a) a special resolution is passed by the company in general meeting

b) the loans are utilised by the borrowing company for its principal business activities

Points to be noted

1.While passing Special Resolution, explanatory statement to the concerned notice shall disclose:

  • the full particulars of the loans or guarantee given or security provided;
  • the purpose for which the loan or guarantee or security is proposed to be utilised by the recipient of the loan or guarantee or security;
  • any other relevant fact;

2. Expression “any person in whom any of the director of the company is interested” means—

a) any private company of which any such director is a director or member;

b) any body corporate at a general meeting of which not less than 25% of the total voting power may be exercised or controlled by any such director, or by 2 or more such directors, together; or

c) any body corporate, the BOD, MD 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.

185(3): Exemption

Section 185(3) exempts the following individuals and entity from compliance of section 185(1) & (2) with certain conditions —

1. giving of any loan to a managing or whole-time director subject to 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

2. 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 years, five years or ten years Government security closest to the tenor of the loan; or

3. 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

4. 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:

The loans made under clauses (c) and (d) shall be utilised by the subsidiary company for its principal business activities only, this provision intends to avoid diversion and siphoning of funds by the companies.

185(4): Punishment

If any loan is advanced or a guarantee or security is given in contravention of section 185:

Punishment to Fine Imprisonment
Company Minimum: 5 lac

Maximum: 25 lac

every officer of the company who is in default Minimum: 5 lac

Maximum: 25 lac

Term which may extend to 6 months
director or the other person to whom any loan/guarantee/security is given in connection with any loan taken by him or the other person Minimum: 5 lac

Maximum: 25 lac

Term which may extend to 6 months
Or with both

Disclaimer: The entire contents of this article are solely for information purpose and have been prepared on the basis of relevant provisions and as per the information existing at the time of the preparation by the Author. Author of this Article do not constitute any sort of professional advice or a formal recommendation. The author has undertaken utmost care to disseminate the true and correct view and doesn’t accept liability for any errors or omissions. You are kindly requested to verify and confirm the updates from the genuine sources before acting on any of the information’s provided herein above. Author shall not be responsible for any loss or damage in any circumstances whatsoever.

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