Loan, Investment, Guarantee by Corporates

Inter Corporate Loan,Investment and Guarantee (Sec 186 of Companies Act 2013)

This Article will discuss about the provisions of Section 186 Loan and Investment made by the companies (like layer of investment, limits, exception, approvals) and applicable rules thereof.

INTRODUCTION

Applicable Section and Rules

• Section 186 of the Companies Act, 2013
• Rule 13 of Companies (Meetings of Board and its Powers) Rules, 2014

Meaning of the term 'Investment' and 'Investment Company'

The word 'Investment' in everyday discourse would include any property or right in which money or capital is invested, like an investment of money in equity shares, debentures, mutual funds or other securities (except the making of loans or advances or any other financial transactions such as lease, purchase of receivables, or other credit facilities).

An 'Investment Company' means a company whose primary business is acquisition of shares, debenture and other securities_ "and a company will be deemed to be principally engaged in the business of acquisition of share, debenture or other securities, if its assets in the form of investment in the share, debenture or other securities constitute not less than fifty per cent of its total assets or if its income derived from investment business constitutes not less than fifty per cent as a proportion of its gross income.

SCOPE OF SECTION 186

Sec. 186 is attracted in the following cases;

• Give any loan to any person or other body corporate
• Give any guarantee, or provide security, in connection with a loan to any other person body corporate or person
• Acquire by way of subscription, purchase or otherwise the securities of any other body corporate

ANALYSIS ON SECTION 186

What is the meaning of the word 'Person' used in the section?

The word 'Person' has not been defined in the Act. Section 2(42) of General Clauses Act 1897 provides that 'Person' shall include any company, association or body of individuals, whether incorporated or not.

Whether Various advances and deposits will also be covered under the section?

There is difference between advance and loan. Loan is lending of money with absolute promise to repay whereas advances is to be adjusted against supply of goods and services.

Genuine trade advances given to suppliers against orders for supply of goods will not be considered as loan and hence will be out of purview of Section 186.

Similarly, advances given to employees against current month's salary will also not be in the nature of loans.

Sale on Credit is also not a loan. [Bombay High Court in Fredie Ardeshir Mehta v. Union of India (1991)].

Whether book debts will also be considered as loans?

Courts have held in various judgments that credit extended beyond normal credit period may be considered in the nature of loans and hence provisions of the section may get attracted to such book debts also.

Whether investment in mutual funds are also covered under the section?

As per SEBI regulations, most of the mutual funds are managed by trusts which are not body corporates. Hence investment in mutual funds are not covered under the Section. However, Unit Trust of India is an exception since it has been constituted under UTI ACT and is a body corporate.

REQUIREMENT OF MAKING INTER CORPORATE LOAN AND INVESTMENT BY COMPANY

• Approval of Board
• Approval of Members
• Approval of P.F.I

Approval of Board

Approval of all the directors at the Board Meeting [Sec 186(5)]

The approval of Board is required for making intercorporate loan, Investment, Guarantee or Security of any Amount.

Conditions for Board Approval

• The approval of Board must be obtained prior to making any Intercorporate Loan, Investment, guarantee or security
• Unanimous Resolution is Required under this section

The Unanimous resolution shall be passed in Board Meeting only, (which means resolution by circulation is not allowed for this )

(All Directors present at meeting must vote in favor of resolution)

FOR EXAMPLE:

ABC ltd has 9 Directors in its Board and 6 directors are Present in the Board Meeting which is held for approval of Intercorporate Loan, investment, guarantee or security so approval of Board must be obtained by passing a Unanimous resolution i.e. all 6 Directors present at meeting must vote in favour of resolution.

If any 1 Director from 6 Directors vote against the resolution, Resolution will be considered not passed.

Restriction on Inter-Corporate Transactions Sec 186(2)

No company shall, directly or indirectly:

1 Give any loan to any person or other body corporate;

2. Give any guarantee, or provide security, in connection with a loan to any other person body corporate or person; and

3. Acquire, by way of subscription, purchase or otherwise the securities of any other body corporate;

• Exceeding 60% of its paid-up share capital, free reserves and securities premium account OR
• 100% of its free reserves and securities premium account,

Whichever is more.

Explanation: - for the purpose of this sub section the word 'person' does not include any individual who is in the employment of the company.

APPROVAL OF SHAREHOLDERS [sec 186(3)]

Where the aggregate of the loan and investment so far made, the amount for which guarantee or security so far provided to or in all other bodies corporate along with the investment, loan, guarantee or security proposed to be made or given by the Board, EXCEED the limit specified under sub section (2) i.e.

[60% of its paid up share capital and free reserve and Securities premium account OR 100% of its free reserve and securities premium account, whichever is higher. ]

No investment or loan shall be made or guarantee shall be given or security shall be provided unless previously authorised by a SPECIAL RESOLUTION passed in a general meeting.

For example:

ABC LTD has PSC - 40 LAC, F/R - 10 LAC, S/P - NIL

Company proposed to give loan of 35 lac rs to Y Ltd. What company needed?

Company will pass Unanimous Board Resolution and For shareholders approval we will check limit

• 60% of its PSC, FR, SP i.e. 60%(40L + 10L+0) = 30Lac OR
• 100% of its FR, SP i.e. 100% (10Lac + 0) = 10lac

Higher is 30LAC

IN THIS CASE COMPANY WILL PASS SPECIAL RESOLUTION ALSO, AS COMPANY PROPOSED TO GIVE LOAN OF RS 35LAC WHICH CROSS THE LIMIT.

Exception of sec 186 (3)

Exemption to Non - Government Company

• Where a loan or guarantee is given or where a security has been provided by a company to its WHOLLY OWNED SUBSIDIARY COMPANY OR JOINT VENTURE company , or
• acquisition is made by a holding company, by way of subscription, purchase or otherwise of, the securities of its wholly owned subsidiary company, the requirement of this sub section shall not apply.

Exemption to Government Company

• The requirement of seeking members approval has been relaxed for Government company engaged in defense production and,
• Other unlisted government companies which seek prior approval of their administrative Ministry or Department for the proposed transaction.

Special Point

A resolution passed at General Meeting under sub section (3) of section 186 shall specify the total amount up to which the board of directors are authorized to give such loan or guarantee, to provide such security or make such acquisition.

The company shall disclose the details of such loans or guarantee or security or acquisition in the financial statement as provided under sub section (4) of section 186.

No Blanket S/R is allowed, Board shall specify the exact Amount.

Disclosure in financial statement Sec 186(4)

The company shall disclose to the members in the financial statements the full particulars of the loan, investment, guarantee or security provided and the purpose for which the loan or guarantee or security is proposed to be utilised by the Recipient of the loan or guarantee or security.

APPROVAL OF PUBLIC FINANCIAL INSTITUTION

SEC 186 ( 5) PROVISO

If any term loan from Public Financial institutions is subsisting, then

• No prior approval of PFI is required if the Inter corporate loan, investment and other loans is only up to 60% OR 100%, as the case may be ; Provided there is no default in repayment of loan installments or payment of interest thereon ( If company makes any default then prior approval of PFI is required irrespective of loan amount )

• If the Inter - Corporate loans, investments and the other loan is beyond 60% OR 100% as the case may be, then Prior approval of the PFI is required in all cases.

For Example:

There is a Company ABC LTD its

• PSC - 50Lac
• F/R - 10 lac
• ABC LTD has taken loan of RS 10 lac from PFI- 1, 20 lac from PFI-2, and 30 lac from MR. SONU . Company has made default in payment of installment with PFI - 2 and with Mr. SONU .
• Company is proposed to give loan of RS. 20LAC to Y LTD.

In the above example

• 60% of its PSC and FR is 60%(50lac +10lac) = 30lac
• 100% of its free reserve is 10 lac

Higher is 30 LAC

So In this company will

1. Pass Unanimous Board Resolution
2. No requirement of Special Resolution as company is not crossing the limit .
3. Approval of PFI -1 is not required as Loan taken is within limit and there is no default with PFI-1.
4. Approval of PFI-2 IS REQUIRED, Because company has made default with PFI-2
5. Approval of Mr. SONU is NOT REQUIRED , because he is individual not PFI.

RESTRICTION ON TAKING LOAN SEC 186(6)

No company, which is registered under section 12 of the SEBI Act, 1992 and covered under such class or classes of companies as may be prescribed ( Capital Market Intermediaries like: Merchant Banker, Debenture Trustee, Stock Broker in the form of company) shall take inter- corporate loan or deposits exceeding the prescribed limit and such company shall furnish in its financial statement the details of the loan or deposits.

INTEREST RATE SEC186(7)

No loan shall be given under this section at a rate of interest lower than the prevailing yield of one year, three year, five year or ten year Government Security closest to the tenor of the loan.

Exception

Nothing in this sub section shall apply to a company in which 26% or more of the Paid up share capital is held by the CG or one or more SG or both, in respect of loans provided by such company for funding Industrial Research and Development projects in furtherance of its objects as stated in its memorandum of association.

Restriction on providing loan, guarantee or security in case of default Sec 186 (8)

Section 186(8) provides that no company which is in default in the repayment of any deposits accepted before or after the commencement of this Act or in payment of interest thereon, shall give any loan or give any guarantee or provide any security or make an acquisition till such default is subsisting.

Register of Loan, Investment, guarantee or security Sec 186(9) (10)

Every Company giving loan or giving a guarantee or providing security or making an acquisition of securities shall, from the date of its incorporation, maintain a register in the FORM MBP-2 and enter therein separately, the particulars of loans and guarantees given, securities provided and acquisitions made as aforesaid.

Entries to be made in the register within 7 days

Entries in the register shall be made chronologically in respect of each such transaction within seven days of making such loan or giving guarantee or providing security or making acquisition.

Place of keeping and preservation of the Register

The Register shall be kept at the registered office of the company. The register shall be preserved permanently and shall be kept in the custody of the secretary of the company or any other person authorised by the Board for the purpose.

Inspection of the Register

The register referred in section 186(9) shall be kept at the registered office of the company and

• Shall be open to inspection at such office ; and
• Extracts may be taken there from by any member, and copies thereof may be furnished to any member of the company on payment of such fees as may be prescribed.

Non-Applicability of Sec 186 Sec 186(11)

1. This section 186 ( Except sub - section 1) does not apply to loans made or guarantee or security provided or investment by

• ·A Banking Company
• ·An Insurance Company
• ·A Housing Finance Company
• ·A company engaged in the business of Financing of companies or of providing infrastructural facilities.

2. This Section 186 (except sub - section 1) does not apply to any Investment Made by

• ·A Company whose principal business is the acquisition of shares, stock Debentures or other securities (Investment Company)
• ·A Non - Banking Financial Company (NBFC)
• ·While making investment in the 'Right shares' under sec 62(1)(a) of the companies Act 2013, However, at the time of further Investment, Investment already made in Right shares will be taken into account (Investment in Right issue always beneficial for companies, as shares under right issue is always in less price so it is beneficial for company)

RESTRICTION ON MAKING INVESTMENT THROUGH NOT MORE THAN 2 LAYERS SEC 186(1)

Sec 186(1) A company shall, unless otherwise prescribed, make investment through not more than two layers of investment companies.

The provisions of this sub-section shall not affect

• A company from Acquiring any other company incorporated in a country outside India if such other company has investment subsidiaries beyond two Layers as per the laws of such country.(COMPANY CAN TAKEOVER ANOTHER COMPANY OUTSIDE INDIA)
• A Subsidiary company from having any investment subsidiary for the purpose of meeting the requirements under any law or under any rule or regulation framed under any Law for the time being in force. (IF ANY OTHER LAW PROVIDES)

For Example:

If a company XLTD is the holding company of 'S' and 'S' is the holding company of 'SS' means company 'SS' is the subsidiary of 'S' .

Then the Investment layers will be as follows:-

From company XLTD to company 'S' (Layer 1) and from company 'S' to company 'SS' (layer 2). There is an indirect investment of company XLTD in company 'SS' .

So, In the above example 2 layer is exist and it is allowed.

Sec 186(12)

The Central Government may make rules for the purpose of this section .

PENALTY SEC 186(13)

• Company: If company Contravene the provisions of this section, The company shall be punishable with fine not less than 25000 but which may extend to 5 lakh.
• Officer in default: Shall be punishable with Imprisonment for a term which may extend to 2 years and with fine which shall not be less than 25000 but which may extend to 1 lakh.