CA Dhiraj A. Ramchandani
Page Contents
Introduction
Section 295 of Company Law deals with the loan given to DIRECTORS of the company. It also covers the security or guarantee provided for the same. Let us see in each detail, all the aspects of this section.
As per section 295 of Companies Act 1956, previous approval of Central Government is required, if any company directly or indirectly-
1. Gives loan to any person specified u/s 195(1).
2. Gives guarantee in connection with any loan made-
(i). By any person to any person specified u/s 195(1) OR
(ii). To any person by any person specified u/s 195(1).
3. Provides Guarantee in connection with any loan made-
(i). By any person to any person specified u/s 195(1) OR
(ii). To any person by any person specified u/s 195(1).
Specified Person
Following are the person specified under section 195 (1)-
- Any DIRECTOR of the lending company;
- Any DIRECTOR of the lending company’s holding company;
- Any partner of a DIRECTOR of the lending company;
- Any partner of a DIRECTOR of the lending company’s holding company;
- Any relative of a DIRECTOR of the lending company;
- Any relative of a DIRECTOR of the lending company’s holding company;
- Any firm in which a DIRECTOR of the lending company is partner;
- Any firm in which any relative of a DIRECTOR of the lending company is a partner;
- Any private company of which a DIRECTOR of the lending company is a DIRECTOR or member;
- Any body corporate at a general meeting of which not less than 25% or more of the total voting power is exercised or controlled by one or more DIRECTORs of the lending company;
- 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.
Loan Definition
Now, what does actually LOAN means? As there are many advances, which are lended by company to the directors, but everything cannot be considered as loan only.
Act does not define, what exactly loan means, but with the language and application of section 295, following derivation is made for LOAN-
“Delivery by one party to and receipt by another party of a sum of money upon agreement, express or implied, to repay it with or without interest”.
Hence essential requirement of a loan is the advance of money upon the understanding that it shall be returned, and it may or may not carry interest. This section also applies to any transactions represented by Book debt which was from its inception in the nature of a loan or advances vide section 296.
Approval Criteria
There are certain requirements to be followed, to obtain approval from CENTRAL GOVERNMENT. That means, before applying for the approval, company needs to make sure that these all requirements are followed. Few examples are given below, i.e. what all information a company should provide to get approval from government:
- Rate of Interest of Loan.
- Amount of Loan/Security/Guarantee.
- Terms and conditions attached with the Loan, if any.
- Certain Documents are also sent, like-
- Copy of Board Resolution
- Copy of Loan Agreement
- Copy of List of Directors and other company, if any.
- Explanation Statement, justifying the amount, interest and terms attached to Loan.
- NOC of financial institutions.
Note: The above list is not exclusive. There can be many other documents, as per the different requirements at different times.
Applicability
Various other sections application come alongwith application of section 295. In certain cases, rules of section 295 prevail, while in some cases, other section overlap section 295. Let us discuss such sections and certain cases:
A. Government Companies’ Directors
Government Companies’ directors are exempted from this section. That means, if any loan is given to such directors or security provided to/for them or guarantee given on behalf of/to them, such transaction does not attract section 295. Only prior condition is that Government Company should obtain approval for such non-applicability of section 295 from Department of Central Government.
B. Advances Given
Section 295 does not apply to all types of advances. Let say, if an employee takes advances against his own salary, it will not attract section 295.
Similarly, if wife of director is an employee of the company, and she takes an advance against her salary (in capacity of employee), such advances does not attract section 295. But, if she takes advance in capacity of wife of director, such advance would attract section 295.
C. Debt Provided
Every Debt is not a Loan. We know that providing a loan creates Debt, a contractual Debt. But, every contractual debt is not a loan, i.e. there can be other contractual debts of the company, which are not in the form of loans or advances given.
Let say for example, when goods are sold or services are provided on credit, there is a debt created on debtors. But that is not the loan given to the debtors. So, if there are any genuine sales made to any specified person u/s 195(1) on credit terms, it won’t attract section 295.
Similarly, if any flat is sold to director on installment basis or on credit terms, that is not the loan provided but just debt created, and it will not attract section 295.
D. Section 292
Any transaction falling under section 295, automatically comes under section 292 as well. As per section 292, a transaction can be exercised, only with the board resolution. Hence, when loan is to be provided or guarantee/security is to be provided to specified persons u/s 295(1), it needs a prior approval from board resolution.
However, BOD can pass on this power, i.e. delegate the power of approval to any committee of directors, managing director, manager or any other principal of the company.
E. Housing Loans to M.D. and Whole-Time Directors
Central Government has given specific exemption to the companies, while providing housing loans to the Managing Director and Whole Time Directors of the company. A company need not seek approval of Central Government, while providing loan to its MD or WTD under the housing loan scheme.
For considering housing loans, directors are considered as equal as any other regular employee of the company. Hence, if there exists any housing loan scheme in the company, and MD or WTD are provided housing loan under that scheme, such transaction does not require any approval of Central Government. Terms and agreements of such housing loan remain same for the WTD or MD of the company, as they are for any other employee of the company. No separate advantage is to be given to MD or WTD.
F. Section 372A
Application of section 295 does not attract section 292 only, but it attracts section 372A as well. Hence, we can say, all the three sections apply to certain categories of transaction. Such transactions can be:
- Any private company of which director of lending company is a director or member;
- Any Body corporate at a general meeting of which not less than 25% or more of the total voting power is exercised or controlled by one or more directors of the lending company;
- 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.
Non-Applicability
There are certain entities, to which section 295 does not apply, i.e. exceptions to the section. Exception means, certain exempted loans, guarantees and securities provided. As per section 295 (2), following transactions are completely exempted from section 295-
- Any loan made by a HOLDING COMPANY TO ITS SUBSIDIARY.
- Similarly, any security provided or guarantee given by a HOLDING COMPANY for any loan made to its subsidiary.
- Any loan provided, guarantee given and security provided by a PRIVATE COMPANY.
- Any loan provided, guarantee given and security provided by BANKING COMPANY.
Notes:
- The private company should not be the subsidiary of public company.
- And in case of HOLDING COMPANY-SUBSIDIARY COMPANY, the flow of transaction should be from HOLDING TO SUBSIDIARY. That means, any loan given, security provided or guarantee given by subsidiary for its holding company, it will not be exempted.
No Retrospective Effect
There are certain doubts or confusion regarding retrospective effect of the section 295, i.e. post application of section after the transaction has taken place. If, any loan has been given or security provided or guarantee given by company to any person in normal terms, and later, that person falls under section 295(1) [specified persons]. Now, the loan was already granted, and that person became specified person after the loan was made, so section 295 does not apply to him anymore.
Section 295 applies for the situation existing at the time of transaction. If there are any changes after the transaction has taken place, section 295 does not apply to it with retrospective effect.
For Example, if loan has been given to Mr. A in 2012 for a term of 5 years. And in 2014 A becomes director of the company, then section 295 will not apply in this case, as A has taken loan in a capacity of other than the director.
Penalties
Section 295(4) deals with the penalty section of any such transaction which falls under section 295 and require approval of Central Government. If any person, either directly or indirectly, contravenes section 295, he is penalized as per section 295(4). May it be the person granting loan or taking loan or providing security or guarantee on behalf of/for any specified persons, he will be penalized if there is any contravention to section 295.
Rules of 295(4):
- Fine of Rs. 5000, or
- With a imprisonment for a term not more than six months
Note: If the amount of loan has been repaid in full, penalty of imprisonment shall not be imposed. Similarly, if amount has been partly, imprisonment penalty can be reduced proportionately.
Section 295(5) deals with any person who is knowingly part of any contravention of the section 295(1). Such person shall be liable, jointly or severely, for repayment of the loan or making good of the sum equal to any amount attached with security/guarantee provided.
One small Correction:
In applicability section, C column, example given, it is stated that persons specified under section 295(1) but it is 195(1)