SECTION 185 AND INTER-CORPORATE LOANS

Since introduction of Section 185 under the Companies Act, 2013 ‘Inter-corporate loans’ is the biggest concern of India Inc. Let’s examine this section in detail:

Section 295, the erstwhile ‘headache’ of public companies is now transferred to private companies as well, in the form of Section 185 which is not only restrictive but also punitive. A detailed study of Section 185 clears following questions:

Q. What is not allowed?

Directly or Indirectly, giving of any loan, including a loan represented by book debt or giving of guarantee or providing any security in connection with loan taken by Directors or ‘any other person in whom the Director is interested’.

Q. Who are ‘other persons in whom the Director is interested’?

Cl. No.	Definition	Clarification
a)	Any Director of the lending company, or of a company which is its holding company or any partner or relative of any such Director;	Director of Company A     Director of Company B (holding Company of A)      Partner or relative of any Director in Company A or B
b)	Any firm in which any such Director or relative is a partner;	Firm in which Director of Company A or B or relative of either of them is a Partner.
c)	Any private company of which any such Director is a Director or Member;	Private Company in which Director of Company A or B or relative of either of them is a Director of member. It is to be noted that relatives of such Director is excluded from this clause.
d)	Any Body corporate at a general meeting of which not less than twenty five percent of the total voting power may be exercised or controlled by any such Director, or by two or more such Directors, together; or	Body Corporate (which includes private and public co’s incorporated in or outside India) in which any Director of Company A  or B holds 25% or more ‘voting power’ exercised or controlled, either individually or collectively comes under radar of this clause.
e)	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.	Body Corporate (which includes private and public co’s incorporated in or outside India) or Board of Directors or MD or Manager of such Body Corporate under the Direct influence of lending Company’s Board or any Director or Directors. In simple words, includes Subsidiaries and Associate Companies.

Q. Any exemptions?

1. Yes, any loan to a Managing Director or Whole-Time Director, as a part of the conditions of service extended by the Company to all of its employees or pursuant to any scheme approved by the members by a special resolution is exempt.

It is to be noted that only loan is exempt and not the security and guarantee provided by the Company.

2. ‘A company, which in the ordinary course of its business provides loans or gives guarantees or securities for the due repayment of any loan and in respect of such Loan loans an interest is charged at a rate not less than the bank rate declared by the Reserve Bank of India’

Is your question, what is ordinary course of business?  Well, no explanation is provided for this very important part of section. But, we have to read the same from the lawmaker’s point of view, if ultimately the regulator had to exempt all the companies who gives loans or guarantees or securities in their ‘respective’ ordinary course of business, then what was the intention behind formulating this section at all?

I am of the opinion that second exemption goes in favour of Banking and NBFC Companies, further, the reference of RBI for controlling the interest rates makes it very clear.

Q. Penalties?

Below is the table depicting the penalties for contravening provisions of Section 185:

Sl. No.	Offence	Penalty
1.	If any loan is advanced or a guarantee or security is given or provided in contravention of the provisions of sub-section (1) by any Company. AND	Minimum fine of INR 5 lakh which may extend to INR 25 lakh
2.	the director or the other person to whom any loan is advanced or guarantee or security is given or provided in connection with any loan taken by him or the other person	Imprisonment which may extend to six months or with minimum fine of INR 5 lakh but which may extend to INR 25 lakh, or with both fine and imprisonment.

In India, most of the businesses are operating under the form of group of private companies having common Directors and shareholders, where giving and taking of inter-corporate loan is a common practice. After introduction of Section 185 it has literally become difficult for these companies to operate as section 185 has taken away all the privileges earlier available to private companies.

It has left no option for such group of Companies but to reshuffle the Board of Directors and initiate transfer of shares to unrelated person to avoid the heat of Section 185.

To conclude, section 185 has brought unnecessary hardship on private Companies where public at large is not involved. In my opinion, this wonderful piece of legislature, meant to curb down the diversion of funds of investors and stakeholders to promoter groups be made applicable only to listed companies and companies which have borrowed funds from Banks and Financial Institution exceeding certain limits.

Your views, comments and suggestions are most welcome.

About author

Dhanaji Shinde is Practicing Company Secretary at Bangalore who can be reached @ 98444 94678 / 96638 11124 or pcs.dhanaji.shinde@gmail.com