The Shocking Revelation of Section 185 Of The Companies Act, 2013

Through the Companies (Amendment) Act, 2017 the existing Section 185 of the Companies Act 2013, the old Section 295 of the Companies Act, 1956, Section 86 D of the Indian Companies Act, 1913 and Section190 of the English Companies Act, 1948 which provides for loans to directors have been replaced.

The substituted Section 185 deals with the restrictions on the part of the Companies in advancing any type of loan or providing any security or giving any guarantee and to those whom a Company can provide such loan or security or guarantee subject to compliances under the Companies Act. Also, the section provides relaxation for Individuals and Entities subject to certain conditions. It also provides a penalty for its contravention.

This article aims to bring a clear vision of the newly substituted provisions of Section 185 and the practical issues prevailing thereon.

Read Also: Contents of Articles of Association

What is the term ‘Loan’?

The term ‘Loan’ is not defined anywhere in the Companies Act, 2013. A loan as defined by the Oxford English Dictionary is ” a thing lent; something the use of which is allowed for a time, on the understanding that it shall be returned or an equivalent given, a sum of money lent on these conditions and usually with interest.

The rationale behind the substitution of Section 185

Section 185 was substituted with the new provision through the Amendment Act, 2017. The Amendment Act was based on the suggestions of the Companies Law Committee, which was constituted by the Ministry of Corporate Affairs (MCA).  In its report dated 1st February 2016, with the aim to strengthen corporate governance and ease doing business in the country recommendations for the amendment along with the reasons, were clearly reported.

Provisions as per the Companies Amendment Act, 2017

Section 185 of the Amendment Act is divided into four parts:

S. 185 (1) states that a Company whether it is Private or Public shall not directly or indirectly, advance any loan which includes loan represented by a Book debt or provide any security or give any guarantee in connection with any loan taken by:

Any director of its holding company; or

Any director of the company; or

Any partner of any such director; or

Any relative of any such director;

Any firm in which any such director is a partner; or

Any firm in which the relative of any such director is a partner.

Here, it is pertinent to note that the term “any Such”  mean in reference to the director of the lending company and/ or in relation to the director of its holding company.

This subsection strictly prohibits providing Loan or Security or Guarantee to the aforesaid Individuals and firms.

S.185 (2) talks about a situation in which a Company can advance any loan which will include Book debt or provide any security or give any guarantee in connection with any loan taken by:

any private company of which any such director is a director or member;

any body corporate at a general meeting of which not less than 25% of the total voting power may be exercised or controlled by

any such director, or

by two or more such directors, together; or

anybody 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

any director or directors, of the lending company.

However, the above provisions are subject to certain conditions, which are:

Special resolution- passed by the Company in general meeting; and

Loans- utilized by the borrowing company for its principal business activities.

Subsection 2 earlier prohibited companies to provide loan/ security/ guarantee to other Companies/body corporates, but now it is relaxed, subject to certain conditions.

As per Section 185 (3), the following entities and individuals are exempted from complying with subsection 1 & 2 again, which are subject to certain conditions:

giving of any loan to a managing or whole-time director –

as a part of the conditions of service extended by the company to all its employees; or

pursuant to any scheme approved by way of a special resolution;

A company which in the ordinary course of its business provides loans or securities or gives guarantees for the due repayment of any loan.

E.g. Banking Companies and Loan NBFCs.

In respect of such loans, interest shall be charged at a rate not less than the rate of prevailing yield of 1 year, 3 years, 5 years or 10 years Government security closest to the tenor of the loan;

any loan made by a holding company to its wholly-owned subsidiary company or security or any guarantee given provided by a holding company in respect of any loan made to its wholly-owned subsidiary company, in case of WOS there is complete relaxation from S. 185:

any security provided or guarantee given by a holding company in respect of a loan made by any bank or financial institution to its subsidiary company. Unlike class ‘C’ which includes WOS only securities and guarantee provided for a loan made by any bank or financial institution are allowed for a subsidiary company.

Provided that the loans made under clauses (c) and (d) are utilized by the subsidiary company for its principal business activities.

In order to ensure that the companies or the body corporates do not take advantage of the relief, the provision ensure that there is no siphoning of funds received by the companies, as the amount received under this section should be utilized by the borrower for its principal business activities and not for further investment or grant of loan.

‘Principal business activity’ has not been defined under the Act, but it generally includes all those activities which are provided as the main objects of the MOA.

Section185 (4) is a penalty provision. It states that where any loan advanced or a guarantee or security given or provided or utilized in contravention of this provision.

Lending Company: In the case of the lending company, any contravention is punishable with fine which shall not be less than Rs. 5 lakh but which may extend to Rs. 25 lakh.

Officer in default: In case of Officer in default, any contravention is punishable with imprisonment for a term which may extend to 6 months or with fine which shall not be less than Rs. 5 lakh but which may extend to Rs. 25 lakh.

Recipient Director/ Entity: In case of Recipient Director/ Entity any contravention is punishable with imprisonment which may extend to 6 months or with fine which shall not be less than Rs. 5 lakh but which may extend to Rs. 25 lakh, or with both.

Conclusion

The amended Section 185 of the Companies Act is somewhat a middle way between section 185 of the 2013 Act and section 295 of the earlier 1956 Act. The amendment mandates a final approval from the shareholders and also makes it compulsory to disclose all the related documents to them, before sanctioning the loan. The amendment is beneficial to the private sector as it is less restrictive than the previous norms. The current section 185 is legislated
according to the guidelines of the Companies Law Committee and is in accordance with the rules of ease of doing business in India.

5 Easy Ways To Facilitate All About Corporate Governance In India

WHAT IS CORPORATE GOVERNANCE IN INDIA?

The Institute of Company Secretaries of India defines corporate governance as follows:

“Corporate Governance is the application of the best management practices, compliance of law in true, letter and spirit of adherence to ethical standards for effective management  and distribution of wealth and discharge of social responsibility for the sustainable development of all stakeholders.”

Corporate Governance refers to an established framework of rules, values, morals, and principles based on which a company is governed. A company is a commercial or industrial enterprise constituting an association of people. The stakeholders of a corporation would include shareholders, employees, suppliers, customers and the whole society in general.

HISTORY OF CORPORATE GOVERNANCE IN INDIA

The concept of corporate governance emerged in the 1990s after the economy of India opened up to the foreign markets; in the era of Economic Liberalization, Privatization and Globalization. Industry Association Confederation of Indian Industry (CII) publicly introduced the code of Corporate Governance in 1998 that was to be followed by Indian Companies (listed), whether they belonged to the private or public sector including Banks and Financial Institutions.

Committee Recommendations

In 2000, The Securities and Exchange Board of India (SEBI) which is the body responsible for market regulation in India introduced Clause 49 in “the Listing Agreement of the Stock Exchanges”. The Clause was added after the recommendations from various committees.

The Birla Committee was set up in 1999. Some of the key Birla Committee recommendations which were adopted by the SEBI:

1. The Board of Directors should have a reasonable combination of Executive and Non-Executive Directors.
2. There should be Audit Committees with at least 3 independent directors. One of them should have knowledge of accounting and finance.
3. The company has to prepare an analysis report covering industry structure, the risks and threats, outlook, and internal control system for external review. Similarly, the Board has to conduct meetings in the gap of four months for the internal review of the Company.

The Department of Company Affairs (DCA) appointed the Naresh Chandra Committee in August 2002 to analyze various corporate governance issues. The recommendations touched on independent auditing and board oversight of management as well as financial and non-financial disclosures. It gave suggestions regarding the grounds of disqualifying auditors, and the compulsory rotation of audit partners.

SEBI set up the Narayana Murthy Committee in 2003 to review Clause 49  and to suggest ways to improve it. The Murthy Committee focused on the responsibilities of the audit committee, codes of conduct and financial disclosures and risk management.

Clause 49

SEBI announced the clause on 29th October 2004 after further recommendations. Clause 49  placed all the Listed Companies with a net worth of Rs 25 crore or more or paid-up capital of 3 crores or more as of 31st March 2003 under the Clause.  The Clause contains eight sections; concerning the Board of Directors, the Audit Committee, Remuneration Committees, Management, Shareholders, Board Procedure, Report on Corporate Governance and Compliance. It was ratified by the SEBI and acquired a mandatory status and was to be complied with by 31st December 2005.

In 2009, The Ministry of Corporate Affairs released a set of voluntary guidelines for corporate governance issues like the independence of the board of directors, mechanisms to protect whistleblowing, the audit committee, and secretarial audits. However, there was a shift to a more voluntary approach instead of the earlier mandatory approach.

Companies Bill (2008-2012)

In order to bring corporate governance in the fold of legislation instead of leaving it under the Listing Agreement, there was an effort to redraft the Companies Act, 1956. The government established an Expert Committee on Company Law on 2nd December 2004 to review the earlier Act. The Companies Act, 2008 was introduced in the Parliament based on the recommendations of the Expert Committee. However, the bill lapsed because of the dissolution of the Fourteenth Session of Lok Sabha. The same bill was introduced as Companies Bill, 2009 in the next session. The bill received many recommendations from the Parliamentary Standing Committee on Finance, as a result, the bill was withdrawn. The Bill met the same fate when it was introduced in the 2011 session.

Companies Act, 2013

After many rounds of redrafting, the Companies Bill was finally signed as Companies Act 2013 on 29th August 2013 by the Parliament. The Ministry of Corporate Affairs (MCA) administers the Act.  Some of the key features of the Companies Act, 2013 are as follows:

1. National Company Law Tribunal (NCLT), a tribunal to listen to cases related to Indian companies was introduced.
2.  Companies not engaging in business for consecutive two years can be declared dormant.
3. Companies are required to maintain documents electronically.
4. The Act empowered single entrepreneurs to start a company with limited liability protection as a One Person Company (OPC)
5. The company should have at least one woman director if it is a listed company with its securities listed on any stock exchange and/or if it is a company with a paid-up capital of 100 crores or more and a turnover for 300 crores or more.
6. The company must appoint an independent director, i.e someone who is not a promoter of the company or any of its subsidiaries and is not related to the directors or promoters of the company or any of its subsidiaries.
7. A Company must take an initiative to form a Corporate Social Responsibility (CSR) Committee and Policy and invest at least 2% of the average net profits of the three preceding financial years.
8.  A search and seizure order can be implemented against any company under investigation without an order form the Magistrate.
9. The Act also proposed to establish a National Financial Reporting Authority (NFRA) to assess the work of auditors and enforce accounting and auditing standards.
   Read Also: The 2018 Amendment to The Companies Act, 2013

PRINCIPLES AND OBJECTIVES OF CORPORATE GOVERNANCE

Corporate Governance tries to uphold a set of ideas and principles which are important for the health of any company as well as society:

All the corporate reforms and recommendations always try to increase transparency between the Corporation and its shareholders, investors and the society at large. It ensures the disclosure of financial information and management decisions especially in relation to the shareholders.

Corporate Governance upholds Independence of the Board of Directors who can make independent decisions for the good of the company as well as the investor. At the same time, it also holds them accountable to its investors.

Corporate Governance allows the Company to self-evaluate their practices in their internal board meetings to rectify their mistakes to avoid regulatory fines. An Independent Board is able to point out any potential dangers in the Company’s Management.

It is a known fact that the companies which follow the code of corporate governance are more successful in increasing premiums attached to their shares. It leads to an increase in the shareholder’s wealth as well as the Company’s positive presence in the market.

WHY IS CORPORATE GOVERNANCE IMPORTANT IN INDIA

There are many factors which make corporate governance a necessary tool for the economic growth of society as a whole.

In today’s era of globalization, a company might have shareholders spread over the whole country or the world. The unorganized nature of the shareholders calls for protecting their interests through a standard legal framework.

Mutual funds, as well as institutional investors (national as well as international), have become the largest shareholders in the present day. This change in the pattern of corporate ownership has also forced the hand of the corporate management to adhere to code to uphold their image.

Read Also: 5 Common Types of Business Disputes That Can Be Easily Avoided

In the eyes of the investors and the public, there is a lack of confidence in corporate regimes because of the ever-growing corporate scams. Some of the biggest names involved are Shara group’s chairman Subrata Roy who failed to pay over 20,000 crores to its more than 30 million small investors.  Diamond Jewellery designer Nirav Modi, who is currently an international fugitive is charged with committing 1.8 billion dollar fraud.

The monetary compensation of the Top Level Corporate Executives has increased a lot. The huge amount of compensation comes out of corporate funds which belong to the shareholders. This makes a code of corporate governance important to contain the indulgence of top-level management. Finally, the desire for companies for recognition in the international market makes the need for corporate governance greater.

Read Also: Know these legal requirements before starting an online business

Corporate Governance is not only a standard for a healthy society but also the very foundation of economic growth by keeping a check on an excess of wealth with a few. The society expects more from the corporate sector and to meet those social expectations, corporate governance is necessary.

Original blog is published at LEGODESK  please read the blog for more content and for legal help

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Learn The Truth About Overview To Indian Contract Act 1872 In The Next 60 Seconds

The Law of Contract is a very important part of the mercantile or commercial law in India. It mostly affects people from trade and commerce and industry.

Introduction To Indian Contract Act, 1872

The Indian Contract Act, 1872 is the law which governs contracts in India. It entered into force in the year 1872. It is enforceable in all the states except the State of Jammu and Kashmir. It determines the situations in which the promises made by the parties to a contract shall be legally binding on them.

Provisions

• General Principles of Law and Contract  —– Section 1 – 75
• Contracts relating to the Sale of Goods ——– Section 76 to 129
• Special Contracts ——- Section 125 to 238
• Contracts relating to Partnership —— Section 239 to 266

Previously, the Indian Contract Act, 1872 contained provisions relating to Sale of Goods (Movable Property) and Partnership. But now these two provisions have been removed from the Act and are placed in two separate acts known as the Sale of Goods Act, 1930 and the Indian Partnership Act, 1932. So at present, the Indian Contract Act includes the General Principles of Contract and Special Contracts only.

The Rights are available under the Indian Contract Act –

There are two kinds of rights, one is Right in rem, and the other is Right in personam.

The Indian Contract Act, 1872 provides right in personam to the parties who have bound their promises in a contract. Thus, the parties in such a situation can only enforce their contractual rights against each other only and not against the world at large.

Example – X and Y enter into a contract for delivering ten books on a specified date. If Y fails to deliver the same to X, then X can sue only Y and not anybody else. The rest of the world is concerned with this contract.

Read Also: Validity of Stamp Papers

Definition of a Contract –

Section 2(h) of the Indian Contract Act defines the term contract as “an agreement enforceable by law is a contract.” So, a contract is an agreement plus legal enforceability.

Important Terminologies –

• Agreement – Section 2(e) defines agreement. An agreement results when two minds meet upon a common purpose. They agree to the same thing in the same sense. Section 2(e) defines the term agreement as “every promise and every set of promise, forming the consideration for each other.” An agreement only happens when there is an offer by one party and acceptance by the other party. Therefore, offer + acceptance = agreement.
• Offer – Section 2(a) defines the term offer or proposal as, “When one party signifies to another his willingness to do or to abstain from doing anything, to obtain the assent of that other to such act or abstinence, he is said to propose.” Offer is the first step for agreeing. An offer can be made to a person or the public at large, known as general offers.
• Acceptance – When the person to whom the offer is made signifies his assent for the same, then the offer is said to be accepted. Section 2(b) defines the same.
• Promise –  Offer + Acceptance = Promise. So, when the offer is accepted, it becomes a promise. Section 2(b) defines the same.
• Consideration – Consideration refers to getting “something in return.” In India, consideration can be past, present or future. A contract without consideration is void. The consideration must be lawful and real, and it need not be adequate.
• Free Consent – A contract can only be made when there is free consent between the parties. A contract without free consent is voidable, and a contract without consent is void. A contract has to be free of coercion, undue influence, fraud, misrepresentation or mistake.
• Contract of Indemnity – A contract of indemnity is a contract wherein, one party promises to protect the other party from causing loss to him by the conduct of the promisor himself, or by the conduct of any other person.
• Bailment –  Bailment refers to transactions whereby one person delivers goods to the other for some purpose based upon a contract that they are when the purpose is accomplished to be returned or otherwise disposed of according to the directions of the person delivering them.

Read Also: Non-Compete Clause in Employment Agreement

Classification of Contracts –

Contracts can be classified into three broad branches –

1. Based on Enforceability –

•  Contract
• Voidable agreement
• Void Agreement
• Agreement
• Illegal agreement
• Voidable contract

2. Based on formation –

• Express contract
• Tacit contract
• Implied/Quasi contract

3. Based on performance –

• Executed contract
• Executory contract  —- a) Unilateral contract             b) Bilateral contract

Remedies for Breach of Contract –

In case of a breach of contract, the injured party has the option to –

• Rescind the contract and refuse further performance of the same
• Sue for damages
• Sue for specific performance
• Sue for an injunction
• Sue on quantum meruit

CONCLUSION –

Every man in his day to day life makes contracts. Man’s contract making ability increases with increasing trade, commerce and industry in modern society. The conferment and protection of the law enable people to strike the best bargain for the contract making purpose. People are permitted to regulate and define their relations in the best possible manner they choose. In India, these general principles are statutorily presented in the Indian Contract Act, 1872. This helps contracts to function legitimately and also provide remedies to the ones affected by it. Therefore, the Indian Contract Act, 1872, is undoubtedly one of the most important statutes in India.

Concept Of Lifting Of Corporate Veil Has The Answer To Everything

WHAT ARE ARTICLES OF ASSOCIATION

Articles of Association (AOA) is the Company’s essential Rule Book which contains the set of guidelines and regulations necessary for every Company to function. The document is set to define the Company’s purpose as an organization and the tasks it is supposed to accomplish internally; ie. handling official financial records; handling company meetings along with defining the role and the powers of the Directors of the Company. The Articles also manage and maintain the rights of the shareholders as well as their relationship with the Directors. Companies who need mandatory Articles of Association are Unlimited Companies, Companies Limited by Guarantee and Private Companies Limited by Shares.

CONTENTS OF ARTICLES OF ASSOCIATION

It is important to pay extra attention to the Contents of the Articles of Association (AOA) at the initial phase since they are important for the ability of the Company to make profits and keep their shareholders satisfied. It is also important to make sure that they are as per the Company’s interests because amending the Articles later require a two-thirds majority of the votes at the general meeting of shareholders.

The following are the contents that a Company’s Articles of Association (AOA) usually possesses:

DIRECTORS

The AOA defines the guidelines of the Directors’ appointment; their qualifications for appointment; their remuneration once appointed and the powers of the Board of Directors in the Company meetings.

GENERAL MEETINGS

The AOA provides the basic framework of all the General Meetings to be conducted as well as all the provisions that are related to the functioning of the General Meetings in any manner.

ACCOUNTING AND AUDITING

The provisions in AOA will define the guidelines subjected to the Auditing of the accounting of the Company.

SHAREHOLDERS

The AOA streamlines the sub-division of the Share capital of the Company including the rights of the Shareholders and the relationship of these rights with other elements of the Company. The shareholders have to pay the whole or part of the remaining unpaid amount on each share purchased on the Company’s demand; i.e Call on Shares.

LIEN OF SHARES

The Company is eligible to retain the Shares of any member of the Company in case they fail to pay the debt to the Company. The member will not be allowed to transfer their shares unless they pay their debt.

TRANSFER AND TRANSMISSION OF SHARES

The AOA defines the procedure during the process of transfer of shares between the transferee and the shareholders. Transmission of shares comes into effect with death, insolvency, marriage, succession, etc. It is also a part of AOA despite being involuntary.

FORFEITURE AND SURRENDER OF SHARES

The AOA provides for the rules of forfeiture of shares if the member is not able to meet the purchase payments like paying call money or any allotment on the Shares. Shareholders may choose to surrender or voluntary return their shares to the Company pertaining to the guidelines of the AOA.

CONVERSION OF SHARES IN STOCK

The Company can pass an ordinary resolution in a General Meeting to convert their shares into stock. The management of the decision and resolution passed should be in accordance with the AOA.

ISSUING SHARE WARRANT

Public Limited Companies are eligible to issue a share warrant staying within the provisions mentioned in AOA. A share warrant is a bearer document which is related to the title of shares issued by the Company.

ALTERATION OF CAPITAL

Similar to the conversion of Shares into Stock, AOA provides the rules of the procedure to alter capital as per the Company’s interests. The Company can decide to increase, decrease or rearrange the Capital.

VOTING RIGHTS

The AOA notes down the specific Company matters which calls for voting by members as well as the procedure of voting whether by a poll or through proxies.

DIVIDENDS AND RESERVES

The AOA also provides the distribution of dividends among the Shareholders of the Company.

WINDING UP

Winding up of the Company means the liquidation of all the assets of the Company to pay its debt. The remaining monies left after the payment of all debt and expenses are distributed among the shareholders of the Company. The AOA also provides the provisions and procedure related to the Winding Up of the Company and has to proceed in accordance with the AOA.

ALTERING ARTICLES OF ASSOCIATION

SPECIAL RESOLUTION AND IT’S PROVISIONS

A Company can alter its Association of Articles if the need arises. The Company has to pass a Special Resolution (a 2/3rd majority of members present in the General Meeting) in order to alter its provisions. It is also important to remember that the Court does not have the power to alter the AOA. These are the specific guidelines that a company has to adhere to achieve a successful alteration:

1. The copy of Special Resolution has to be filed with the Registrar within 30 Days of its Passing.
2. The proposed should not go against the provisions of the Companies Act or the established Memorandum of Association (MOA).i.e. a document that is prepared during the formation of a Company and defines the Company’s relationships with the shareholders.
3. The Company should not propose any illegal activity.
4. The alteration proposed cannot be bonafide for the benefit of the Company.
5. The alteration should not increase the liability of the existing members in any manner.

ENTRENCHMENT CLAUSE

The Company can choose to include Entrenchment Provisions in their Articles of Association under Section 5(3) Of Companies Act, 2013.  An Entrenchment Clause refers to the effect that a Company may choose to apply to its certain provisions. These provisions, then, can be altered only after meeting specified conditions that are more restrictive than the normal passing of a 2/3rd majority special resolution. The Entrenchment Clause renders the provision difficult or impossible to alter.

Under Section 5(4) and Section (5), Companies Act,2013, the Company can choose to include the Entrenchment Clause in the AOA during the incorporation of the Company, or through an amendment to the AOA of the Company later.

DIFFERENCE BETWEEN MEMORANDUM OF ASSOCIATION (MOA) AND ARTICLES OF ASSOCIATION (AOA)

Memorandum of Association is a document that consists of all the data essential for the incorporation of the Company. On the contrary, the Articles of Association are provisions and rules set up the regulate and govern the Company. The Company has to register the MOA at the time of the incorporation of the Company.  The Company is not bound to register the AOA during the time of incorporation.

The Memorandum of Association restraints the powers of the organization while the Articles of Association only demonstrate the rights, obligations that the members of the organization are responsible to follow and adhere.

The Articles of Association is subordinate to the Memorandum which holds the Supreme status in the hierarchy of the documents of the Company while

The Memorandum of Association must contain six clauses in total but the Articles of Association can have clauses according to the decision of the Company, given it does not go against the Companies Act, 2013.

The Memorandum specifies the objectives of the Company while the Articles of Association specifies the rules through which the objectives are to be fulfilled by the Company.

Any provisions of the AOA that goes against the Memorandum is rendered invalid and the Memorandum of Association controls the Articles. 

IMPORTANCE OF THE ARTICLES OF ASSOCIATION

The Articles of Association is one of the most important documents in the organization.

The importance of the AOA rests in the important guidelines it provides for handling financial affairs of the Company, managing the powers and responsibilities of the Directors and their relationship with the Shareholders of the Company.

The Articles details the voting rights of the members as well as the procedure of the voting. The Articles of Association protects the interests of the investors and the Shareholders. It keeps the interests of the Directors in any competing business and prevents from any conflict of interest if the Articles specifies that in its provisions.

In conclusion, the Articles of Association are important for the welfare of the Company as an organization and for its smooth functioning in fulfilling its objectives as an organization.

Original blog is published at LEGODESK  please read the blog for more content and for legal help

Legodesk is a legal practice management tool using which lawyers can manage their matters, win new clients and do their legal research all in one platform. Legodesk’s unique case management features helps to keep your legal practice organized and accessible everywhere.