Broadly any company issuing Compulsorily Convertible Debentures (CCD) will be required to comply following laws in India, which are as under:
1. Companies Act 2013 ,
2. Foreign Exchange Management Act ( FEMA)
3. Income Tax Act, 1961
The overview of some of the provision of above laws to be taken into consideration before choosing CCDs as instrument for raising funds by a private limited company:
As per Sec 2(30) of the Companies Act 2013 “debenture” includes debenture stock, bonds or any other instrument of a company evidencing a debt, whether constituting a charge on the assets of the company or not;
As per Sec 71(1) of the Companies Act 2013, company may issue unsecured debentures with an option to convert such debentures into shares, either wholly or partly at the time of redemption.
Provided that the issue of debentures with an option to convert such debentures into shares, wholly or partly, shall be approved by a special resolution passed at a general meeting.
If the debentures are not convertible into shares, either wholly or partly then such debentures may be issued by a company subject to such terms and conditions as prescribed in Companies (Share Capital and Debentures) Rules, 2014
As per Sec 73 of the Companies Act, 2013 read with Companies Acceptance Deposit Rules, 2014, no private company is allowed to accept deposits from public and even in the case of public companies there are certain conditions and procedures which company has to comply with in order to be eligible for acceptance of deposit.
Section 2(31) of the Act defines the term ‘deposit’ and states that ““deposit” includes any receipt of money by way of deposit or loan or in any other form by a company, but does not include such categories of amount as may be prescribed in consultation with the Reserve Bank of India. “Therefore, the definition of the term ‘deposit’ under the Act is an inclusive definition and covers all receipts except such categories of amounts as may be prescribed in consultation with the Reserve Bank of India
Accordingly, issuance of Debentures will be categories as acceptance of Deposit under the provision of Companies Act, 2013
However, there are certain categories of transactions which does not fall under the definition of Deposit and therefore will not be required to comply with provisions of above law:
♠ as per clause (ii) of Rule 2(1)(c) of the Deposit Rules, any amount received from foreign governments, foreign or international banks, multilateral financial institutions (including but not limited to, International Finance Corporation, Asian Development Bank, Commonwealth Development Corporation and International Bank for Industrial and Financial Reconstruction), foreign Governments owned development financial institutions, foreign export credit agencies, foreign collaborators, foreign bodies corporate and foreign citizens, foreign authorities or person resident outside India subject to the provisions of the Foreign Exchange Management Act, 1999 (42 of 1999) and rules and regulations made thereunder;
♠ as per clause (vi) of Rule 2(1)(c) of the Deposit Rules, any amount received by one company from another
♠ as per clause ix) of Rule 2(1)(c) of the Deposit Rules any amount raised by the issue of bonds or debentures secured by a first charge or a charge ranking paripassu with the first charge on any assets referred to in Schedule III of the Act excluding intangible assets of the Company or bonds or debentures compulsorily convertible into shares of the company within five years:
Provided that if such bonds or debentures are secured by the charge of any assets referred to in Schedule III of the Act, excluding intangible assets, the amount of such bonds or debentures shall not exceed the market value of such assets as assessed by a registered valuer;
♠ as per clause (viii) of Rule 2(1)(c) of the Deposit Rules , any amount received from a person who, at the time of the receipt of the amount, was a director of the company:
Provided that the director from whom money is received, furnishes to the company at the time of giving the money, a declaration in writing to the effect that the amount is not being given out of funds acquired from borrowing or accepting loan or deposit from other
Accordingly company is allowed to issue unsecured CCD provided it is compulsorily convertible into shares within five years.
However, there is another view for which company can take legal opinion, that CCD can be issued for period more than 5 years subject to FEMA regulation, if the same has been issued to any other company registered in or Outside India, person resident outside India or director as per clause (ii), (vi) and (viii) of Rule2 (1) © of the deposit rules as explained above.
Under the FDI regime, investment can only be made into equity, fully and fully and compulsorily convertible debentures (“CCDs”). Instruments which are not fully and convertible instruments are considered to be external commercial borrowing (“ECB”) and therefore, are governed by ECB regime. Also, any such instrument having a ‘put option’ in favour of a non-resident shall not be FDI compliant unless in consonance with the conditions laid down by RBI, wherein the valuation norms for such optionality clauses are prescribed which prohibit any assured returns to the non-resident.
Investment though subscription of CCDs will be subjected to the sectorial cap applicable ,if any, as it is essentially an equity route in as much as there is definite commitment to convert into common equity shares
Fresh issue of shares:
Price of fresh shares issued to persons resident outside India under the FDI Scheme, shall be on the basis of
o SEBI guidelines in case of listed companies ,
o Not less than fair value of shares determined by a SEBI registered Merchant Banker or a Chartered Accountant as per as per any internationally accepted pricing methodology on arm’s length basis.
The pricing of shares / convertible debentures / preference shares should be decided / determined upfront at the time of issue of the instruments. The price for the convertible instruments can also be a determined based on the conversion formula which has to be determined / fixed upfront, however the price at the time of conversion should not be less than the fair value worked out, at the time of issuance of these instruments, in 12 accordance with the extant FEMA regulations
Any interest paid on CCD issued to associated enterprise will be subject to transfer regulation of India and should not be more than acceptable benchmark of interest rate.
Any issuance of shares by private limited company shall not be at price less than the fair market value calculated as per Rule 11UA of the Income Tax rules.
We have analysed two countries for the purpose of taxability of Interest on CCD, which are as under:
♠ Australia: As per DTAA with Australia, any interest received by person resident in Australia on CCD issued by person residing in India ,say company, will be taxable @ 15 percent,
♠ Mauritius: As per existing DTAA with Mauritius, any interest received by person resident in Mauritius on CCD issued by person residing in India, say company, will be taxable @7.50 percent.
♠ Singapore: As per existing DTAA with Singapore, any interest received by person resident in Mauritius on CCD issued by person residing in India, say company, will be taxable @ 15 percent.
(Author is Partner at Gurgaon based audit, tax and advisory firm namely AARK )
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(Republished with Amendments by Team Taxguru)