This article is written by Sharat Gopal pursuing BA.LL.B from Delhi Metropolitan Education, GGSIPU. He has discussed the legal provisions that govern the corporate while giving loans, guarantees, securities or making investments.
Before discussing about inter-corporate loans, it is important to understand what ‘corporate’ means. ‘Corporate’ literally means “a large company or group”. ‘Company’ in literal term means “commercial business”. There is a difference between ‘corporate’ and ‘company’. The main difference between them is the size. ‘Corporation’ is big business or entity whereas a ‘Company’ is a small business or entity.
In the business world, both the terms are treated alike, it is just the size that draws a line between the two.
Now there are some basic characters which all corporate companies possess, that is –
- It is a legal entity and has all the rights and responsibilities that an individual has. It has to pay taxes, it can enter into contracts, it can file lawsuits and lawsuits can also be filed against it.
- It has a board of directors who decide all the actions of the companies.
- As a business entity, it has a separate existence from its owners.
- Ownership of the company is divided into share know as “corporate stocks”, and the people who own them are called shareholders.
The Indian Companies Act was amended a lot of times. The last amendment was made in 2013, and it is in current use. The Companies Amendment bill 2019 was introduced in Lok Sabha on July 25th, 2019, which brings more changes to the act. As of now, the 2013 amendment is in use.
Section (2)(20) of the Indian companies act states the definition of “company”. It states that “company” means a company which is incorporated under this Act or any previous company law.
Every company has a board of directors, who take decisions for the company. As a company doesn’t have a natural existence, but has a legal existence. Therefore all the decisions of the company are taken by this board of directors.
Inter-Corporate Loans and Investments
For the better functioning of the companies, section 186 of Companies Act, 2013 was introduced. It brought a few modifications and changes in the concept of Inter Corporate loans and Investments made by the company. This act makes it clear, which company can or cannot give loans, security, or make investments.
When a company provides loan, security or guarantee to another company, it is known as inter-corporate loans. When a company invests in another company, it is known as inter-corporate investments.
A firm can provide loans, investments, guarantees or securities to other companies only after the board of directors have given consent to it.
Section 186 of the companies act, 2013 deals with the loans and investments made by the company. Section 186(1), states that a company can make investments through not with companies more than 2 layers of investment companies.
Now “layer” is defined under section explanation (d) of section 2 (87) of the Companies Act. It states that “layer” in relation to a company means its subsidiary or subsidiaries.
Investment Company is a financial institution, whose primary activity is investing in securities. The principal business of an Investment Company is:
- buying of shares
- buying of debentures
- buying of other securities
Cases where provisions of section 186(1) won’t affect:
- When a company acquire any company which was incorporated outside India and that company had Investment subsidiary beyond 2 layers.
- A subsidiary Company from having any investment subsidiary for the purpose of meeting the requirement under any law or under any rule or regulation framed under any law for the time being in force.
Others places where section 186 (1) is not applicable-
- Section 186 (1) is not applicable to, Housing Companies, Insurance Companies, etc.
- Companies whose primary business is buying and selling of shares, or security etc.
- Companies acquiring shares on right issues basis, which is explained in section 62 (1)(a).
- Government companies that operate defence production
- Unlisted companies which are legally authorised by the govt authorities.
Amendments to the Act
Before the amendment of 2013, the Companies Act of 1956 was followed. Act of 1956 had a lot of problems, which were solved after the 2013 amendment. Section 372A, of the Companies Act 1956 dealt with the Inter Corporate Loans, Investments, Guarantee, Securities. After the 2013 amendment of the act, section 186 was introduced, this stated that there cannot be inter-corporate investments through more than 2 layers of investments. This was not required before the 2013 amendment. This restriction was used to keep a check on the misuse of multiple layers of subsidiaries for diversion of funds.
The act was amended again in 2017, which brought changes to section 185 and 186, which deals with loans to directors. With these modifications to the act, it was now more convenient for businessmen and investors to do business.
Section 186(2) talks about giving loans, securities etc. It states that no company shall directly or indirectly –
- Give any loan to any person or other body corporate.
- give any guarantee or provide security in connection with a loan to any other body corporate or person
- and acquire by way of subscription, purchase or otherwise, the securities of any other body corporate
Which would be exceeding, 60% of its paid-up capital, plus free reserve, plus security premium account or 100% of its free reserve, plus security premium account, whichever is more.
Free reserve are the reserves which are there as per the latest audited balance sheet of the company.
Body corporate means a company corporate outside India, but should not be a corporative society which is registered under any corporative societal laws or any other body corporate not being defined under Companies Act or any authority.
Individual does not include a person who is underemployment of the same company.
Requirements mentioned in Section-186, Indian Companies Act
There are some criteria’s to be followed for having inter-corporate loans and investments. These are also mentioned in section 186.
- Approval from members is mentioned in section 186(3). It states that the company can give loans beyond the restriction imposed in section 186(2), but only after prior approval by the members by special resolution passed at a general meeting.
- Section 186(5), states that no loan or guarantee or security should be given by the company, until and unless it is sanctioned by the board of directors.
- Section 186(4) states that the company has to disclose all its financial statements for loan given, an investment made, guarantee given, to all the members. Such disclosure should be in the board’s report also.
- Section 186(6) states that no company which is registered under section 12 of Securities and Exchange Board of India Act,1992 and covered under such class or classes of companies, shall take inter-corporate loan or deposit, exceeding the prescribed limit and such companies must provide its financial statement in detail of the loan.
- Section 186(10) states that every company must maintain a register which has all the details of loan given, guarantee given or security provided or investment made. This register must be open and shall be provided if demanded by the members on payment of fees prescribed.
- Section 186(7) talks about the interest rate of the loan given. It states that no loan should be given below interest rate which is lower than the prevailing yield of 1 year, 3-year, 5-year or 10-year government security closest to the tenor of the loan.
- Section 186(13) talks about the punishments imposed when there is contravenes in the provisions provided in the act. It states that if a company contravenes the provisions of the act, then the company is liable for a penalty not less than ₹25,000, which may also extend to 5 lacs. If an officer is at fault then he is liable for imprisonment for a term which may extend to 2 years and fine of ₹25,000, which may extend to 1 lac.
The above article explains the legal provisions by which inter-corporate loans are governed. It basically gives guidelines, how loans, guarantees, securities are given to other companies. This act also punishes companies and people, if they do not follow these laws.