Detailed Analysis of Section 185 of Companies Act 2013

The Companies Act of 2017 has completely replaced the old Section 185 of the Companies Act 2013, which covers provisions concerning loans to companies’ directors.

Section 185 of Companies Act 2017, replaces section 185 of Companies Act 2013, outlines the limitations on the company’s advance or guarantee of any loan, also those who are permitted to offer such loans, guarantees and securities subject to Act compliance.

Section 185 of the Companies Act, 2013

Section 185 of the Companies Act 2013 governs loan grants’ requirements and outlines the terms and circumstances of granting loans to directors.

Before providing loans or a guarantee or security in connection with any loan, every company must adhere to the conditions outlined in Section 185.

The Section also imposes penalties on the company, the defaulting official, and the directors who make loans in violation of its provisions.

Purpose of section 185 of Companies Act, 2013

Public companies used to grant loans, guarantees, and securities with the authority of the Central Government when the Companies Act of 1956 was in effect. Companies borrow money and distribute it to subsidiary companies. In the event of a problem, subsidiaries had to deal with it independently.

Section 185 of the Companies Act 2013 was enacted at that time, establishing some loan restrictions such as—It discusses company law provisions relating to the firm’s direct or indirect loans or advances to its directors, and Section 185(4) explains the punishment for violating its provision.

Loans to directors

According to Section 185 of the Companies Act of 2013, no company may make a loan to its directors or individuals. As a result, the law bans a company:

• From making any loan represented by book debt to any of its directors or any other person in whom the director has an interest, or
• From providing any guarantee or security in connection with such a loan

Provisions of Section 185(1)

Section 185(1) of the Act states that a company cannot:

• Give direct or indirect advance loan
• Give advance loan comprises a loan represented by a book debt
• Guarantee or offer security in connection with any loan issued.

Provisions of Section 185(2)

Section 185 (2) of the Companies Act authorises a company to make loans to anyone in which one or more of the directors has an interest subject to specified requirements. Only the following are eligible for the company to issue loans or provide security or guarantee:

• Any private company in which a director or member of the lending company is involved
• Any legal entity in which any director of the loan firm, or two or more such directors, controls or exercises at least 25% of the total voting power
• Any managing director, body corporate, board of directors, or management accustomed to acting in line with the board’s or any director’s or directors’ instructions or orders

Provisions of section 185(3)

This section provides exceptions to the company’s loan-granting regulation. A company can give a guarantee, advance loans, or security to the following:

• The full-time director or managing director, as part of the company’s service conditions, extended to all of its employees or under any scheme established by the company’s members by special resolution
• A loan was issued by the holding company to its wholly-owned subsidiary firm.
• A company that makes loans or provides securities or guarantees for loan repayment in the ordinary course of business.
• A holding company may provide any security or guarantee in exchange for a loan provided to its subsidiary company by any financial institution or bank. These loans must be used for primary business purposes by the subsidiary company.

Penalty provisions section 185(4)

• The lending company will get fined less than Rs. 5 lakhs, with a maximum amount of Rs. 25 lakhs.
• Any officer who violates the law is subject to imprisonment for up to six months or a fine of not less than Rs. 5 lakhs but not more than Rs. 25 lakhs.
• Any individual or person related to the director who receives a loan or security will get sentenced to six months in prison or a fine of not less than Rs. 5 lakhs but not less than Rs. 25 lakhs, or both.

Before amendment

The old Section 185 banned companies from providing any loan or security or guaranteeing a loan obtained by the company’s directors or any other person in whom the directors have an interest. Penalties were only authorised for companies or recipients who received such a loan, security or guarantee if they were proven to be in violation.

After amendment

Section 185 (as amended by the Companies Act, 2017):

• Limits the prohibition on loans, advances, etc., to directors of the company, holding company and any firm in which the director or relative is a partner.
• Allows the company to give a loan, guarantee or provide security in connection with any loan to any person/ entity in which any of the directors are interested, subject to passing of Special Resolution by the company in a General Meeting (Approval of at least 75% of the members is required).
• The utilisation of loans by the borrowing company shall be solely for its principal business activities.
• The penalty provisions as set out under Section 185 (4) of the Act to the Company now extend to an officer in default of the company, including any Director, Manager or KMP or any person by whose Board of Directors are accustomed to Act.

Conclusion

Section 185 of the Companies Act 2013 completely prohibits lending to directors and other individuals and organisations linked with directors. Later, it was decided to improve the Section for enhanced responsibility and governance of the Company’s business.

The changes were implemented to keep the Company’s Directors’ fiduciary character. The firm and its officers can now loan directors with sufficient protections and increased liability under Section 185 of the Companies Act 2013

About Author

Shilpa P.

I am a law final year student and an aspirant for Company Secretary (CS) who is keenly interested in Company law and other commercial laws.

I have cracked the first level of the CSEET exam & also I have written a couple of research papers, articles, and blogs few of them got published.

I have worked under a few law firms and gained practical experience in the field of company law, civil law, and criminal law. In my previous internship, I assisted different company & consumer disputes and helped the counsel in researching and drafting.

See author's posts →