This article provides an in-depth explanation of related party transactions, including their definition and significance according to Section 188 of the Companies Act, 2013, and IND AS 24. It explores the concept of related parties, their classification, and the disclosure and approval requirements for such transactions.
Meaning of Related Party Transactions:
“Related Party Transaction” means Transactions / Contracts /Arrangement which falls within the purview of:
a) Section 188 of the Companies Act, 2013; or
b) lndian Accounting Standard (lND AS) 24 as notified by the Central Government.
In common parlance: Related party transactions refer to transactions that occur between two parties who have a pre-existing relationship or connection. These parties could include individuals, companies, or entities that are somehow linked, such as through common ownership, control, or influence.
It’s important to disclose and properly account for related party transactions to ensure transparency and prevent potential conflicts of interest.
Regulations and accounting standards often require companies to disclose the nature and extent of related party transactions in their financial statements.
Section 188 of the Companies Act 2013 in India deals with related party transactions. It provides guidelines and regulations regarding transactions between a company and its related parties.
What is Related Party?
Section 2(76) of Companies Act, 2013 defines the related party. Related Party with reference to a company means-
1. A director or his relative;
2. A key managerial personnel or his relative;
3. A firm in which a director, manager or his relative is a partner;
4. A private company in which a director or manager or his relative is a member or director;
5. A public company in which a director or manager is a director and holds along with his relative, more than two percent of paid-up share capital;
6. Any body corporate whose Board of Directors, managing Director or manager is accustomed to act on the directions of director or manager;
7. Any person on whose directions a director or manager is accustomed to act;
Provided if any person is giving advice or directions in professional capacity then such provision shall not apply on him.
8. Any company which is:
-
- A holding, subsidiary or an associate company of such company;
- A subsidiary of a holding company to which it is also a subsidiary;
- An investing company or a venture company
9. Such other person as may be prescribed
Who is Relative?
Section 2(77) of the Companies Act, 2013 explain that who shall be treated as relative. Relative with reference to any person, means anyone who is a related to another, if
i. They are members of a Hindu Undivided Family:
ii. They are husband and wife; or
iii. The one person is related to the other in such manner indicated in Rule 4 of companies (Specifications of definitions details) Rules, 2014.
As per aforesaid Rule 4, a person shall be deemed to be the relative of another, if he or she is related to another in the following manner, namely:
(1) Father: Provided that the term “Father” includes step-father.
(2) Mother: Provided that the term “Mother” includes the step-mother.
(3) Son: Provided that the term “Son” includes the step-son.
(4) Son’s wife.
(5) Daughter.
(6) Daughter’s husband.
(7) Brother: Provided that the term “Brother” includes the step-brother;
(8) Sister: Provided that the term “Sister” includes the step-sister.
Meaning of Related Party Transactions
Section 188 of the Companies Act 2013 pertains to related party transactions in India. It sets out the legal framework and guidelines for conducting such transactions in companies incorporated under Indian law.
Prior approval of the board of directors is required for any related party transaction. If the value of the transaction exceeds prescribed thresholds mentioned below, approval from shareholders by way of ordinary resolution is also necessary. The details of the transaction, including its value, terms, and any other relevant information, must be disclosed in the financial statements of the company.
Table
| S. No | Transactions as per Companies Act requiring Board Resolution | Transactions where prior approval is required by passing Ordinary Resolution for related party transactions (Rule 15 of companies Meeting of Board and its Powers Rules, 2014) |
| 1. | sale, purchase or supply of any goods or material, directly or through appointment of agent | amounting to ten percent or more of the turnover of the company |
| 2. | selling or otherwise disposing of or buying property of any kind, directly or through appointment of agent | amounting to ten percent or more of net worth of the company |
| 3. | leasing of property any kind | amounting to ten percent or more of the turnover of the company |
| 4. | availing or rendering of any services, directly or through appointment of agent | amounting to ten percent or more of the turnover of the company |
| 5. | is for appointment to any office or place of profit in the company, its subsidiary company or associate company | at a monthly remuneration exceeding two and a half lakh rupees |
| 6. | is for remuneration for underwriting the subscription of any securities or derivatives thereof, of the company | exceeding one percent. of the net worth |
Important Points to be notes:
- The Turnover or Net worth above mention shall be computed on the basis of the Audited Financial Statement of the proceeding financial year.
- If the transaction is in the ordinary course of business and done on an arm’s length basis it shall not require the approval of the board or the company.
- Not required to pass resolution if the transaction is between holding company and its wholly owned subsidiary.
- No member shall vote on the resolution if such member is a related party. But if ninety percent or more members are interested then such provision shall not apply.
- Details of every contract entered into shall find its reference in the Board’s report along with justification about the same.
In this sub-section,—
(a) the expression “office or place of profit” means any office or place—
(i) where such office or place is held by a director, if the director holding it receives from the company anything by way of remuneration over and above the remuneration to which he is entitled as director, by way of salary, fee, commission, perquisites, any rent-free accommodation, or otherwise;
(ii) where such office or place is held by an individual other than a director or by any firm, private company or other body corporate, if the individual, firm, private company or body corporate holding it receives from the company anything by way of remuneration, salary, fee, commission, perquisites, any rent-free accommodation, or otherwise;
(b) the expression “arm’s length transaction” means a transaction between two related parties that is conducted as if they were unrelated, so that there is no conflict of interest.
Checklist for Companies entering into related party transactions where prior approval of shareholders is required:
- Calling of Board meeting for taking Prior approval of the Board of Directors to the related party transactions and for passing the resolution for approval of notice to call Extra Ordinary General Meeting. Provided that such consent of the Board of Directors cannot be obtained by passing a circular resolution or by any other mode (as prescribed in Section 175 of the Act). Rule 15 of the Companies (Meetings of Board and its Powers) Rules, 2014 provides for the requisite disclosures to the Board of Directors in agenda of the meeting at which the resolution is proposed to be moved. The director interested in any contract or arrangement shall not be present at the meeting during discussion on such subject- matter of the resolution relating to such contract or arrangement.
- Calling of EGM: Prior approval of the shareholders by ordinary resolution shall be required if the company is entering into a contract or arrangement with a related party if the transaction(s) exceeds the prescribed limits [i.e. as prescribed in Rule 15(3) of the Companies (Meetings of Board and its Powers) Rules, 2014].
- Filing of e-form MGT-14: Consent of the Board of Directors and the shareholders approving the related party transactions needs to be filed in e-form MGT-14 with the ROC within 30 days from the date of passing of respective resolutions.
Consequences of irregularities of compliance:
1. Ratification of the transaction may be done by the Board or the shareholders within three months. If the same is not done, then the contract will be voidable at the option of the Board. Non-compliance with the requirements stated in the Companies Act can render the transactions void.
2. If any director authorised the contract, the director must indemnify the company for any losses.
3. The company can proceed against the director or the employee for recovery of loss, if any, due to RPTs.
4. Any director or any other employee of company who had entered into or authorised the contract or arrangement in violation of the provisions of this section in case of a Private Company shall be liable to a penalty of five lakh rupees.
Conclusion: Understanding related party transactions is crucial for companies to ensure transparency and prevent conflicts of interest. Complying with the Companies Act, 2013, and IND AS 24 guidelines regarding related party transactions helps maintain good corporate governance. By providing the necessary information and obtaining the required approvals, companies can accurately disclose these transactions in their financial statements.
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