Loans to Directors under Section 185 Companies Act, 2013

No Comments

Loans to Directors under Section 185 Companies Act 2013

Public firms have permission to provide loans, guarantees, and securities under the Companies Act, 1956. They can do so as long as they acquired prior clearance from the Central Government. Section 185 (as changed by the Companies (Amendment) Act, 2017): Limits the restriction on loans, advances, and other financial transactions to Directors of the company or its holding company, any partner of such Director, or any firm in which such Director or relative is a partner. Let us discuss in brief Loans to Directors under Section 185 Companies Act 2013.

Table of Content

Loans to Directors under Section 185 Companies Act 2013- Need of Section 185

Public firms have permission to provide loans, guarantees, and securities under the Companies Act, 1956 as long as they acquired prior clearance from the Central Government. Borrowing cash and transferring them to subsidiaries and other affiliated corporations through inter-corporate loans was a common practice at the time. When it came to complying with the loan agreement’s provisions, however, the parent company used to back out, leaving the subsidiaries in the lurch. Section 185 of the Companies Act, 2013 went into effect to prevent subsidiaries from being exploited.

Hence, the Ministry of Corporate Affairs felts the need to incorporate this Section.

Loans to Directors under Section 185 Companies Act 2013- Section 185

Section 185 of Companies Act 2013 deals with restrictions, relaxations, and exemptions on the part of companies towards lending of loans, giving security & guarantee to the directors of such a company or any other person in whom directors find their interest. It also addresses the penalty in the event of a violation of the section’s requirements.

Prior to the Amendment

The old Section 185 banned corporations from extending any loan and/or providing any security or guarantee in connection with a loan obtained by the company’s directors or any other person in whom the directors have an interest. Penalties were only authorized for corporations or recipients who received such a loan, security or guarantee if they were proven to be in violation.

After the Amendment

Section 185 (as changed by the Companies (Amendment) Act, 2017) now reads as follows:

  • Limits the restriction on loans, advances, and other financial transactions to Directors of the company or its holding company. Further, or any partner of such Director, or any firm in which such Director or relative is a partner.
  • Allows the business to make a loan, guarantee a loan, or provide security in connection with a loan to any person/entity in whom any of the Directors has an interest, subject to the following conditions:
    • The company passes a Special Resolution in a General Meeting (Approval of minimum 75 % of the members).
    •  The borrowing company’s use of loans must limits to its primary business activity.
  • Further, the penalty requirements of Section-185(4) of the Act now apply to an officer who is in default. 

Loans to Directors under Section 185 Companies Act 2013 – Loans to Directors are exempt from taxation

There are a few exceptions to the rule when it comes to director loans:

  • Loans to the Managing Director or Whole-Time Director:  The MD or WTD will only receive loan if:
    • It is part of the company’s policy of service to issue loans to all workers. 
    • It is in accordance with any strategy that has been officially authorised by the members through a Special Resolution.
  •  Loans to Subsidiary Companies: When a holding company gives a loan, a guarantee, or a security to a wholly-owned subsidiary firm that exclusively utilises it for its primary business activity.
  •  Loans to Firms in the Regular Course of Business: Loans to companies in the regular course of business may be issued if the rate of interest charged on such loans is not less than the rate set by RBI at the time.
  •  Subsidiary loans from banks and financial institutions: The grant of a loan is permissible if the holding company offers security or guarantees in connection when a bank or other financial institution provides loan to subsidiary firm. The Firm must utilize this fund for subsidiary’s primary business activity.

The Type of Offence

The offense committed in violation of Section 185 of the Companies Act, 2013, if any, is of a compoundable nature.

Provisions for Penalties

If the company does not follow Section 185, the Lending Company shall be subject to a punishment of not less than Rs. 5 lakh, and up to Rs. 25 lakh (maximum).

  • Any officer who fails to comply would be liable for punishment in form of imprisonment for a period of; up to 6 months or a fine of not less than Rs.5 lakh but not more than Rs.25 lakh.
  •  The loan beneficiary will receive punishment of 6 months in prison or a fine of not less than Rs.5 lakhs; but not more than Rs.25 lakhs, or both.

Points to Ponder

The things to keep in mind while extending loans or providing security/guarantee: 

  • Loans to directors, family, or partners are not permissible. They are also not eligible for any type of security or guarantee in connection with the loan.
  •  A corporation cannot lend money to a company when one of the directors is a family or a partner. They will not receive any guarantee or security in connection with any loan.
  •  After approving a resolution at the general meeting, loans, guarantees, or security may be offer to the individual. Further it is offered to whom the company’s director is interested.
  • Only the individuals and businesses under Section-185(2) are consider to be a people in whom the company’s director has an interest. As a result, the corporation must examine to see if the people to whom they intents to give a loan are in list of section 185-(3).

Appoint a Director in any Company starting from ₹ 3000/

Takeaway

In conclusion, we can say that Section 185 of the Companies Act 2013 provides protection to the interests of shareholders. By forbidding the business from providing a loan, guarantee, or security, exemptions and relaxations find their place in the convenience of doing business.

For more information about this topic kindly connect to our experts.

CS Urvashi Jain is an associate member of the Institute of Company Secretaries of India. Her expertise, inter-alia, is in regulatory approvals, licenses, registrations for any organization set up in India. She posse’s good exposure to compliance management system, legal due diligence, drafting and vetting of various legal agreements. She has good command in drafting manuals, blogs, guides, interpretations and providing opinions on the different core areas of companies act, intellectual properties and taxation.

About us

LegalWindow.in is a professional technology driven platform of multidisciplined experts like CA/CS/Lawyers spanning with an aim to provide concrete solution to individuals, start-ups and other business organisation by maximising their growth at an affordable cost.

Ask an Expert

More from our blog