Loans between related Companies: Provisions under the Companies Act, 2013

Subject to the conditions specified under Section 186(2) of the Companies Act, 2013 ( the “Act“), there are no other restrictions upon lending between two unrelated companies as section 185 of the Act is not applicable on such transactions.

However, in case of a lending between related companies a company can give loan to another company if:

  1. A director of the lending company is also a director or member of the borrowing company being a private company; or
  2. If the director of the lending company is also the director in the borrowing company and such director or two or more directors together, exercise or control 25% or more of the total voting power at a general meeting of the borrowing company; or
  3. If the board of directors, managing director, or manager of the borrowing company is accustomed to act with the directions or instructions of the Board of directors or any of the directors of the lending company.

[see explanation to Section 185(2)]

The conditions as as specified under Clause (b) and (c) of Section 185(2) are not required to be met if the lending is done by any company to a private limited company where the Director in the lending company is also a director or member in the borrowing company.

In case of lending to any other body corporate either of the Clause (b) and (c) of section 185(2) shall be fulfilled in such lending transaction.

Therefore, a company can even give loan to an third-party company if the board, MD or manager of the third-party (borrowing) company is accustomed to act as per the directions or instructions of the board or any of the director of the lending company.

Since there is no specific bar in the Act, a subsidiary can give loan to its holding company if the director or the directors of the subsidiary (lending) company are also the directors in the holding (borrowing) company and they are exercising or having control of 25% or more of the voting power in the general meeting of the board of directors of the holding (borrowing) company. [Section 185(2)]

A holding company can lend to its wholly owned subsidiary or a subsidiary not being a wholly owned subsidiary, however the lending can be done only with a condition that the loan shall be utilized by the wholly owned subsidiary (borrowing) company only for its principal business activities. However, in case of lending to a subsidiary not being a wholly owned subsidiary, the holding company has to pass a special resolution in its general meeting. [Section 185(3)(c) r/w proviso to section 185(3)]

A company which has been earlier providing loans in the ordinary course of its business and in respect of such loans it is charges an interest at a rate not less than the rate prevailing for the Government security, such lending company is not required to pass a special resolution in its general meeting and such amount lent can be utilized by the borrowing company for the activities other than its principal business activities. [Section 185(3)(b)]

Exemptions to Private companies:

On 5th June 2015, the Ministry of Corporate Affairs in exercise of its powers conferred under clause (a) and (b) of sub-section (1) and (2) of section 462 of Companies Act, 2013, passed a notification in the official Gazette, carving out exceptions in the application of section 185 of the Act, thereby in effect exempting the following private companies (lending company) :

  1. A private company  in the share capital of which no other body corporate has invested any money;
  2. A private company (lending company) whose borrowings from banks or financial institutions or a body-corporate is less than twice of its paid-up share capital or fifty crore rupees, whichever is lower; and
  3. A private company which has no default in repayment of such borrowings subsisting at the time of making transactions under this section.

Therefore, presence of any one such factor would attract the applicability of Section 185 of the Companies Act, 2013.

The first condition as per the notification therefore implies that any subsidiary of a holding company is not exempted from the applicability of section 185 of the Companies Act, 2013.

Irrespective of any anything, a company cannot lend an amount exceeding 60% of the amount which is the sum total of paid-up share capital, free reserves and securities premium account, of the lending company; and cannot exceed 100% of the amount which is the sum total of the free reserves and securities premium account of the lending company, whichever is more. [Section 186(2), CA 13’]

Exemptions to Government Companies

As per a separate circular by MCA dated 5th June 2015:

  1. section 185 of the Act shall not apply to Government company in case such company obtains approval of the Ministry or Department of the Central Government which is administratively in charge of the company, or, as the case may be, the State Government before making any loan or giving any guarantee or providing any security under the section.

Therefore, in effect, such a Government company need not pass a special resolution in its general meeting, before granting a loan to another company. Also, such a company can grant a loan to another company without the condition that the same be utilized by the borrowing company for its principal business activities.

  1. Section 186 of the Act shall not apply to (a) a Government company engaged in defence production; (b) a Government company, other than a listed company, in case such company obtains approval of the Ministry or Department of the Central Government which is administratively in charge of the company, or, as the case may be, the State Government before making any loan or giving any guarantee or providing any security or making any investment under the section.

Therefore, in effect, such a Government company can grant a loan amount which is more than 60% of the amount which is the sum total of paid-up share capital, free reserves and securities premium account, of the lending company; and can exceed 100% of the amount which is the sum total of the free reserves and securities premium account of the lending company, whichever is more.

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