Companies Act 2013 provisions on loans and investments

 Section 185: Loans to directors, etc.
 Section 186:Loan and Investment by company.
By:-
Saurabh Dugar
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Copyright @ Saurabh Dugar (Personal views on loans and investment under section Companies Act, 2013)

Loans by Company to:
Directors
or
person in which director are
interested
Section 185
Any other person
Section 186
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• Corresponds to section 295 and 296 of
the Companies Act, 1956.
• Read with rule 10 of Chapter XII.
• Amendments by section 15 of
Companies (Amendment) Act, 2015.
• Proposed amendments by clause 59 of
the Companies (Amendment) Bill, 2016
• Circulars
• Companies (Amendment) Act, 2015 led
to ouster of Rule 10 of Chapter XII.
• Section wanted to prohibit directors
from engaging in self lending activities.
• Globally, no law provides for absolute
restriction on loans/guarantees/
security.
• The restriction met with catastrophic
reaction from the scholars and industry.
• However, Companies (Amendment) Bill,
2016 proposes for elimination of
complete restriction with partial
restriction and partial allowance.
Regulating Provisions Brief
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Save as otherwise provided, no company shall, directly or indirectly, extend loan (including loan
represented by book debt), provide security and/or guarantee to any director or other person in
whom the director is interested:
Interpretation of ‘save as other wise provided’:
◦ This would mean this would mean that if anywhere else, i.e. if any other section of the Act (and not of
Companies Act, 1956) allows giving of loans etc. to the persons covered in section 185 then that will be
permitted.
◦ Section 186 is a general and procedural section, whereas section 185 is a specific section, so there is no
conflict of interest and both sections can apply to a particular case.
◦ Section 67(3)(b) allows giving loans by a company for purchase of its own shares. But by virtue of ‘save as
other wise provided’, loans under Section 67(3)(b) will not be hit by Section 185(1).
Indirect loans (Dr. Fredie Arheshir Mehta v. UOI - 1991)
Under section 295 of Companies Act, 1956, loan shall not be given through an agency of one or more
intermediary. The Word "indirectly" in the section cannot be read as converting what is not a loan into a loan.
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Prohibition on loan or guarantee or security by
company to
Individual Others
Director of the Company
Director of Holding Company
Partner of Director
Relative of Director
firm in which such
director or relative is
partner
Private company in which such
director is a director or
member
Body corporate in which such
director/s have at least 25%
voting interest
A body corporate, it’s Board, Managing
Director or manager is accustomed to
act as the Board, or any director of the
lending company.
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3
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When shall ‘accustomed to act’
be assumed?
 Taking suggestions and views will
not tantamount to ‘accustomed to
act.’
 The onus to prove lies with the
party raising the allegation.
 The duties of directors is to act in
jurisprudence.
 If opinions are seeked and if the
actions, based on opinion, stand the
test of justice, it shall not be treated
as accustomed to act.

Exceptions / Exemptions
to Section 185
Loan extended to
managing director or
whole time director
Loan, guarantee, security
given by a company in
ordinary course of business
Loan, guarantee, security by a
company to its wholly owned
subsidiary
Guarantee, security by company
to its subsidiary company w.r.t
loan by banks or FIs
As a part to service to all
employees or by scheme
approved by special
resolution
Interest rate charged by
bank is not less than bank
rate declared by RBI
Provided that such loans are utilized by the subsidiary for its principal
business activities
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In case of contravention
Lender Borrower
Company:
from Rs. 5 lac
to Rs. 25 lac
Director:
Nil
Company:
Nil
Director/other person:
Imprisonment: upto 6 months
or
Fine: form Rs. 5 lac to 25 lac
or
Both
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Interpretation of ‘ordinary course of business’:
◦ As per general understanding, “ordinary course of business” will cover the usual/routine transactions, customs and
practices of a business and of a company.
◦ Reference may be drawn to the judicial interpretation of the term “ordinary course of business”, whereby the
Allahabad court in its ruling in the case of Kalapnath Singh vs. Surajpal Singh and others [AIR 1949 ALL 425] has given
interpretation to term like ‘regular course of business’; ‘common course of business’; ‘common course of business’.
Some solutions
Convert the lender as well the
borrower into an LLP
Convert the borrower into a public
limited company
(if common director hold less than 25%
of borrowing company)
Change in directorship and / or
shareholding
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Private Company:
where
 No other body corporate has invested in the share capital of the company;
 the borrowings from banks or financial institutions or any body corporate is less than twice of the
paid up share capital or fifty crore rupees whichever is lower; and
 the company has not defaulted in repayment of borrowings subsisting at the time of making
transactions under this section.
Government Company: where prior approval of the concerned ministry or department
of Central/State Government is obtained before extending such loan or providing such
guarantee or security.
Nidhi: where loan is given to director or his relative as member and the transaction is
disclosed in the Annual Accounts by way of a note.
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 Clause 59 of the Bill seeks to amend to replace the absolute
prohibition with partial prohibition and partial allowance.
 The proposed amendment also looks to bring the provision
on par with global standards, to some extent.
 This will enable ease of business to corporates in the
industry.
 The same has been depicted through the table as follows:
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Particulars Now Proposed
Loan/Guarantee/ Security to by the Company to :
Director of the Company Not allowed Not allowed
Director of the Holding Company Not allowed Not allowed
Partner of Director Not allowed Not allowed
Relative of Director Not allowed Not allowed
Firm in which director or his relative is partner Not allowed Not allowed
private company of which director is director or member Not allowed Allowed*
Body corporate in which such director/s have at least 25%
voting interest
Not allowed Allowed*
A body corporate, it’s Board, Managing Director or manager is
accustomed to act as the Board, or any director of the lending
company.
Not allowed Allowed*
*subject to:
1. Passing of special resolution passed by members
2. Loans extended are utilized for principal business activities
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• Corresponds to section 372A of the
Companies Act, 1956.
• Read with rule 11, 12 and 13 of
Chapter XII.
• Circular No. 04/2015
• Circular No. 06/2015
• Provisions are substantially similar to
the provisions of S. 372A of the
Companies Act, 1956.
• one significant addition i.e. restraint to
make investment not more than two
layer of subsidiaries.
• However, this restriction might be on
its way out as per Companies
(Amendment) Bill, 2016
• Section 372A of 1956 Act dealt with
only inter-corporate loans
Regulating Provisions Brief
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 A company shall be not make investment through not more than two layers of
investment companies.
 No prohibition if investment is made through any layer of downstream
subsidiaries if there are not more than two investment companies. (example:
manufacturing company)
 The term ‘principal business’ in definition of investment companies lacks
clarity.
 Exceptions:
◦ Acquiring any other company incorporated outside India allowing such structure by law of
such country;
◦ The restriction shall not affect a subsidiary company from having an investment subsidiary
for the purpose of meeting requirement under the law.
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A Company may
1. Give loans to person* or body corporate;
2. Give Guarantee or security in connection with loan;
3. Acquire by way of subscription, purchase or otherwise the securities of other body
corporate
Upto higher of
or
60% of
paid up capital +
Free reserves +
Securities premium account
100% of
Free reserves +
Securities Premium Account
A company may make loan or invest in securities above the aforementioned threshold if prior approval
of shareholders by way of special resolution is obtained (however, there are exemptions)
* Employees, other than MD and WTD, are not covered.
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 Previous approval of shareholders by way of special
resolution shall be obtained by way of a postal ballot
(Section 110).
 Approval will not be required incase where:
◦ Loan/Guarantee/Security is given by a company to its wholly owned
subsidiary;
◦ Loan/Guarantee/Security is given by a company to joint venture;
◦ Acquisition (by subscription, purchase, etc.) by holding company of the
securities of its wholly owned subsidiary
provided that disclosure in financial statements is given as per
subsection (4).
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 No investment shall be made or loan or guarantee/security should be given
unless the resolution is passed at board meeting with unanimous vote.
 All Directors present at the meeting must vote in favour of the resolution. This
is an exception to general provision that all decisions of Board are by simple
majority. Decisions of Board are by simple majority.
 Thus, prior and unanimous approval of board of directors is must and circular
resolution or committee’s approval is not sufficient as provided in sec. 179 (3)
(e & f).
 However, the board of directors can unanimously approve the upper limit for
investment and can delegate the powers to Committee / MD, Manager
specifying loan, nature and purpose, for making investment within that
prescribed limit.
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 Company to maintain a register in Form MBP-2.
 Each entry pertaining to loans, guarantees, securities and
investments are to be entered separately within 7 days.
 These entries are to be authenticated by the company
secretary or other person specifically authorised by the
Board.
 Register to be open for inspection at the registered office
and members are entitled to obtain the extracts.
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 No loan(s) shall be extended for interest rate lower than the
prevailing yield of one / three / five / ten year tenure of
government security closest to the tenor of loan.
 Section 185 talks about bank rate.
 The ministry clarified that incase the yield is greater than
prevailing yield of one / three / five / ten year tenure of
government security closest to the tenor of loan, there is no
violation of Section 186(7)*.
* Issued vide General Circular No. 06/2015 dt.
April 9, 2015.
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 Various intermediaries associated with securities market and
registered under Section 12 of SEBI Act and covered under
such class of companies as may be notified by the
Government cannot take inter-corporate loans or deposits in
excess of the limits specified under regulations applicable to
such companies pursuant to which certificate of registration
has been obtained from SEBI.
 Such companies are required to disclose details of loans or
deposits in their financial statements.
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 When a term loan is obtained and subsisting, prior approval of PFI is also
required, except:
◦ the aggregate amount of loans, guarantees, securities and investments does not
exceed the limits specified in 186(2);
◦ There is no default on the part of the company in repayment of loan installments and
interest payment.
 A company which is in default w.r.t. repayment/ payment of
deposit/interest shall not give loan, guarantee or security or make
investment until that default is made good.
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 The company to particulars of investments, loans, guarantees and
securities in the financial statements to members.
 The company to also mention the purpose of utilisation of loans,
guarantees, securities by the recipient company.
 The Board Report of the Company to also mention the particulars of
loans, guarantees and investments by the company [Section 134(3)(g)]
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 Except S. 186(1), this section shall not be applicable to:
◦ Loan made, guarantee given or security provided by a banking company
or an insurance company or a housing finance company in the ordinary
course of business;
◦ company engaged in the business of financing of companies or of
providing infrastructural facilities as specified in Schedule-VI to the Act;
◦ Any acquisition:
 Made by an NBFC registered under Chapter IIIB of the RBI Act and whose principal
business is acquisition of securities (exemption shall be in respect of its
investment and lending activities);
 Made by a company whose principal business is the acquisition of securities;
 of shares allotted on rights basis pursuant to Section 62(1)(a).
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Company
Fine leviable:
Rs. 25,000 upto Rs. 5,00,000
Officer in Default
Fine leviable: Rs. 25,000 upto Rs. 1,00,000, and
Imprisonment: upto 2 years,
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Copyright @ Saurabh Dugar (Personal views on loans and investment under section Companies Act, 2013)`

Section 186 will not apply to:
 Government Company engaged in defence sector;
 Non listed Government company, where such company obtains approval of
the Ministry or Department of the Central Government which is
administratively in charge of the company, or, as the case may be, the State
Government before making any loan or giving any guarantee or providing
any security or making any investment under the section.
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* Exemption to Government Companies dt. June
5, 2016

 Clause 60 of the Bill seeks to:
◦ omit restriction on layers of investment through investment companies;
◦ provide for aggregation of loan and investments so far made and guarantees so far
provided, for the purpose of calculating the limits of loans and investments;
◦ Include the exemptions, under rules and circulars, and form it as a part of the Act;
◦ provide for a clearer definition of investment company by inserting a bright-line rule
for determining an investment company;
◦ Bring clarity to the language in Section 186(11).
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Companies Act 2013 provisions on loans and investments

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