Understanding Section 185: Prohibition on Loans to Directors in Companies Act 2013

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Section 185 of the Companies Act 2013 prohibits companies from directly or indirectly providing loans, guarantees, or securities to their directors or related persons. The rationale behind this regulation is to prevent misuse of public funds, siphoning off money, and securing personal gains. This section aims to ensure transparency and prevent potential conflicts of interest in corporate governance.

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LOANS TO DIRECTORS Section 185 of the Companies Act 2013 and Amendments proposed vide Companies Bill 2013

Need to regulate - Rationale: To prevent: - Siphoning off of Public funds lent by FIs and Banks - Public issue proceeds - Misuse businesses owned by the Director by transferring funds to private - Providing corporate guarantees and securities to financial institutions to secure personal gains for the Director

Position vis-a-vis Companies Act 1956 : Section 295 vs. Section 185 - Only applicable on Public Limited Companies and their subsidiaries under the previous Act. Exemptions were given to: - Independent Private Limited Companies - Banking Companies - Loans from a holding company to its subsidiary - Guarantee or Security provided by a holding company in respect to any loan made to its subsidiary - Government Companies

Section 185 - Prohibition on loans to directors 185. (1) Save as otherwise provided in this Act, no company shall, directly or indirectly, advance any loan, including any loan represented by a book debt, to any of its directors or to any other person in whom interested or give any guarantee or provide any security in connection with any loan taken by him or such other person: the director is

Section 185 - Prohibition on loans to directors Directly or Indirectly: - Even if such loan is routed through one or several intermediaries but the end beneficiary is the Director himself or a person in whom interested, it will be a violation of Section 185. the director is

Section 185 - Prohibition on loans to directors Loan represented by a book debt: - Includes Credit Sales - short term advances - The facility of using the Company products and paying later would also fall in this category

Section 185 - Prohibition on loans to directors Person in whom director is interested (a) any director of the lending company, or its holding company or any partner or relative of such director; (b) any firm in which director or relative is a partner; (c) any private company of which director is a director or member; (d) 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 (e) any body corporate, the Board of directors, managing director or accustomed to act in directions or instructions of the Board, or of any director or directors, of the lending company. manager, accordance whereof with is the

Section 185 - Prohibition on loans to directors Exceptions: Subsection (1) does not apply to: (a) the giving of any loan to a managing or whole- time director (i) as a part of the conditions of service extended by the company to all its employees; or (ii) pursuant to any scheme approved by the members by a special resolution; or (b) NBFCs; upon charging an interest not less than the bank rate declared by the RBI.

Section 185 - Prohibition on loans to directors Further Exemption Rule 10 of the Companies (Meetings of Board and its Powers) Rules, 2014 Any loan made by a holding company to its WOS OR any guarantee given or security provided by a holding company in respect of any loan made to its WOS is exempted; Any guarantee given or security provided by a holding company in respect of loan made by any bank or FI to its subsidiary company is exempted. Provided that such loans made are utilised by the subsidiary company for its principle business activities.

Section 185 - Prohibition on loans to directors Further exemption - For Private Limited Companies through MCA Notification dated 05.06.2015 Chapter Xll, section 185 Shall not apply to a private company - (a) in whose share capital no other body corporate has invested any money; (b) if the borrowings of such a company from banks or FIs or any body corporate is less than twice of its paid up share capital or fifty crore rupees, whichever is lower; and (c) such a company has no default in repayment of such borrowings subsisting at the time of making transactions under this section.

Section 185 - Prohibition on loans to directors Consequences of Default: - The company shall be punishable with fine - Rs. 5 lakhs to Rs. 25 lakhs - The director or the other person shall be punishable with imprisonment which may extend to six months or with fine - Rs. 5 lakhs to Rs. 25 lakhs or with both.

Section 185 - Prohibition on loans to directors Elements of Loan - An amount in cash or kind - Given to a borrower - An agreement (express or implied) to repay - Recognition of liability by the borrower to return it with/without interest. Loan includes Deposit A non exempt company can not make inter-corporate deposits in a Company in which director is interested.

Section 185 - Prohibition on loans to directors Unlawful Loans - Supply of goods or property on credit Loan by subsidiary to holding company Loans to be examined on case to case basis - Salary advance to relative of a director - Book Debt or Advance in the nature of loan

Section 185 - Prohibition on loans to directors SS-1: Annexure A (Ref. Para 1.3.8) Granting loans or giving guarantee or providing security in respect of loans Matter to be considered only at a duly convened Board Meeting. SS-2: Annexure (Ref. Para 16.1) Every company having more than 200 Members shall transact the following business only by means of postal ballot: Giving loans or extending guarantee or providing security in excess of the limit specified

Section 185 - Prohibition on loans to directors Proposed Companies Companies Bill 2016 Laid before the Lok Sabha in March 2016 and pending approval amendment Act, to through the 2013

Section 185 - Prohibition on loans to directors Section 185 (Existing) Section 185 (Proposed) 185. (1) Save as otherwise provided in company shall, directly or indirectly, advance any loan, including represented by a book debt, to any of its directors or to any other person in whom the director is interested or give any guarantee or provide any security in connection with any loan taken by him or such other person: (1) No company shall, directly or indirectly, advance any loan, including any loan represented by a book debt to, or give any guarantee or provide any security in connection with any loan taken by: (a) any director of company, or of a company which is its holding company or any partner or relative of any such director; or (b) any firm in which any such director or relative is a partner. this Act, no any loan

Section 185 - Prohibition on loans to directors Section 185 (Existing) Section 185 (Proposed) No comparable provision (2) A company may do so in connection with any loan taken by any person in whom any of the director of the interested, subject to the condition that (a) a SR is passed by the company in GM: Provided that the explanatory statement disclose the prescribed particulars; and (b) the loans are utilised by the borrowing company principal business activities. company is shall for its

Section 185 - Prohibition on loans to directors Section 185 (Existing) Section 185 (Proposed) any other person in whom director is interested - (a) any director of the lending company, its company or any partner or relative of any such director; (b) any firm in which any such director or relative is a partner; (c) any private company of which any such director is a director or member; (a) any private company of which any such director is a director or member; holding

Section 185 - Prohibition on loans to directors Section 185 (Existing) Section 185 (Proposed) Contd (d) any body corporate at a GM 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 (e) any body corporate, the Board of directors, managing director or manager, whereof is accustomed accordance with the instructions of the Board, or of any director or directors, of the lending company. No Change to act in or directions

Section 185 - Prohibition on loans to directors Section 185 (Existing) Section 185 (Proposed) Exceptions to Applicability: (a) the giving of any loan to a managing or director (i) as a part of the conditions of service extended employees; or (ii) pursuant to a scheme approved by SR; or (b) NBFCs; upon charging an interest not less than the bank rate declared by the RBI. (a) No change (b)NBFC; interest not less than the rate of prevailing yield of one year, three year, five year or ten year Government security closest to the tenor of the loan; or upon charging an whole-time to all

Section 185 - Prohibition on loans to directors Section 185 (Existing) Section 185 (Proposed) Contd . Contd . (c) any loan made by a holding company to its WOS or any guarantee given or security provided by a holding company in respect of any loan made to its WOS; or (d) any guarantee given or security provided by a holding company in respect of loan made by any bank or FIs to its subsidiary company: Provided that the loans made under clauses (c) and (d) are utilised by the subsidiary company for its principal business activities.