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July 12, 2020

Company Law prohibits Loans to Directors Know Penalty and Exemption

by Rubina Dsouza in Compliance Law, Corporate Law

Company Law prohibits Loans to Directors Know Penalty and Exemption

Introduction

White-collar crimes or corporate crimes refer to financially motivated, nonviolent crime committed by businesses and government professionals. These are the type of crimes that are committed by respectable persons, holding enviable positions, either in public or private entities. Directors are appointed to be the representatives of stakeholders and guard their interests. They are expected to, with their knowledge and expertise, guide the company. The Companies Act has provisions in place to ensure that directors who hold a fiduciary position with respect to shareholders do not utilize the funds of the company for their own benefit.  Section 185 is one such provision. Section 185 explains Provisions under Company Law related to Direct or Indirect Loan or Advances to Directors by Company.

Who are directors of a company?

The directors are the persons elected by the shareholders to direct, conduct, manage or supervise the affairs of the company.According to Section 2(13) of the Companies Act, “Director includes any person occupying the position of director by whatever name called.”

What do you mean by an independent director?

Section 2(47) of the Companies Act states that an ‘independent director’ means an independent director referred to in Section 149(6). Section 149(6) provides with a descriptive list of qualifications of an independent director.

Can an employee be appointed as an independent director of the company?

Independent director cannot be an employee, proprietor or a partner of the said company, in any of the 3 financial years immediately preceding the financial year in which he is proposed to be appointed in the said company.

What do you mean by a whole time director?

“Whole-time Director” includes a director in the whole-time employment of the company. The definition of ‘whole-time director’ is an inclusive definition, so he may not be an employee of the company too.

What do you mean by a managing director?

The Board of Di­rectors generally appoints one of its members to manage the affairs of the company as a whole time officer and calls him the Managing Director. The Managing Director occupies a position of dual authority and responsibility. As a director, he attends the Board meetings and, as a manager, he performs the managerial functions.

What restriction does Section 185 provide for?

Section 185 pertains to loan to directors. According to Section 185, 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 the director is interested or give any guarantee or provide any security in connection with any loan taken by him or such other person.

What do you mean by “persons in whom the director is interested”?

For the purposes of this section, the expression “to any other person in whom director is interested” means:-

a. any director of the lending company,

b. any director of is its holding company

c. any partner or relative of any such director

d. any firm in which any such director or relative is a partner

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

f. 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

g. 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.

Are there any exceptions to Section 185?

The restriction of Section 185 shall not apply to:-

a. 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

ii. pursuant to any scheme approved by the members by a special resolution

b. 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 loans an interest is charged at a rate not less than the bank rate declared by the RBI.

Penalty for violation

Penalty toQuantum of Punishment
CompanyMinimum Penalty = Rs 5 lakhs Maximum Penalty = Rs 25 lakhs
Director or any person to whom loan/guarantee/security is givenImprisonment upto 6 months Or Fine (Minimum Fine = Rs 5 lakhs & Maximum Fine = Rs 25 lakhs) Or
Both

Section 185 is a mechanism that has been cited by the Government which aims to safeguard the interest of shareholders by imposing some prohibition in respect of loan or guarantee or security given by Company.

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