Section 188 of Companies Act, 2013 – Related party transactions

SECTION 188. RELATED PARTY TRANSACTIONS

[Effective from 1st April, 2014]

(1) Except with the consent of the Board of Directors given by a resolution at a meeting of the Board and subject to such conditions as may be prescribed, no company shall enter into any contract or arrangement with a related party with respect to—

(a) sale, purchase or supply of any goods or materials;

(b) selling or otherwise disposing of, or buying, property of any kind;

(c) leasing of property of any kind;

(d) availing or rendering of any services;

(e) appointment of any agent for purchase or sale of goods, materials, services or property;

(f) such related party’s appointment to any office or place of profit in the company, its subsidiary company or associate company; and

(g) underwriting the subscription of any securities or derivatives thereof, of the company:

Provided that no contract or arrangement, in the case of a company having a paid-up share capital of not less than such amount, or transactions not exceeding such sums, as may be prescribed, shall be entered into except with the prior approval of the company by a [1][resolution]:

Provided further that no member of the company shall vote on such [2][resolution], to approve any contract or arrangement which may be entered into by the company, if such member is a related party:

[Provided also that nothing contained in the second proviso shall apply to a company in which ninety per cent. or more members, in number, are relatives of promoters or are related parties:] [10]

EXEMPTIONS

The 2nd Proviso to Section 188 (1) shall not apply to a private company, vide Notification No. 464(E) dated 5th June, 2015.

The above mentioned exception shall be applicable to a private company which has not committed a default in filing its financial statements under section 137 of the said Act or annual return under section 92 of the said Act with the Registrar, vide amendment notification F. No. 1/1/2014- CL-V dated 13th June 2017. 

The 1st and 2nd Proviso to Section 188 (1) shall not apply to–

(a) a Government company in respect of contracts or arrangements entered into by it with any other Government company;

(b) a Government company, other than a listed company, in respect of contracts or arrangements other than those referred to in clause (a), 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 entering into such contract or arrangement; vide Notification No. GSR 463(E) dated 5th June, 2015.

The above mentioned exception shall be applicable to a government company which has not committed a default in filing its financial statements under section 137 of the said Act or annual return under section 92 of the said Act with the Registrar, vide amendment notification no. G.S.R. 582 (E) dated 13th June 2017. 

The 2nd Proviso to Section 188 (1) shall not apply to a Specified public company, vide Notification No. 08(E) dated 04th January, 2017.

Provided also that nothing in this sub-section shall apply to any transactions entered into by the company in its ordinary course of business other than transactions which are not on an arm’s length basis.

[3][Provided also that the requirement of passing the resolution under first proviso shall not be applicable for transactions entered into between a holding company and its wholly owned subsidiary whose accounts are consolidated with such holding company and placed before the shareholders at the general meeting for approval.]

Explanation.—In this sub-section,—

(a) the expression “office or place of profit” means any office or place—

(i) where such office or place is held by a director, if the director holding it receives from the company anything by way of remuneration over and above the remuneration to which he is entitled as director, by way of salary, fee, commission, perquisites, any rent-free accommodation, or otherwise;

(ii) where such office or place is held by an individual other than a director or by any firm, private company or other body corporate, if the individual, firm, private company or body corporate holding it receives from the company anything by way of remuneration, salary, fee, commission, perquisites, any rent-free accommodation, or otherwise;

(b) the expression “arm’s length transaction” means a transaction between two related parties that is conducted as if they were unrelated, so that there is no conflict of interest.

(2) Every contract or arrangement entered into under sub-section (1) shall be referred to in the Board’s report to the shareholders along with the justification for entering into such contract or arrangement.

(3) Where any contract or arrangement is entered into by a director or any other employee, without obtaining the consent of the Board or approval by a [4][resolution] in the general meeting under sub-section (1) and if it is not ratified by the Board or, as the case may be, by the shareholders at a meeting within three months from the date on which such contract or arrangement was entered into, such contract or arrangement [shall be voidable at the option of the Board or, as the case may be, of the shareholders] [11]  and if the contract or arrangement is with a related party to any director, or is authorised by any other director, the directors concerned shall indemnify the company against any loss incurred by it.

(4) Without prejudice to anything contained in sub-section (3), it shall be open to the company to proceed against a director or any other employee who had entered into such contract or arrangement in contravention of the provisions of this section for recovery of any loss sustained by it as a result of such contract or arrangement.

(5) Any director or any other employee of a company, who had entered into or authorised the contract or arrangement in violation of the provisions of this section shall,—

(i) in case of listed company, be punishable with imprisonment for a term which may extend to one year or with fine which shall not be less than twenty-five thousand rupees but which may extend to five lakh rupees, or with both; and

(ii) in case of any other company, be punishable with fine which shall not be less than twenty-five thousand rupees but which may extend to five lakh rupees.

Applicable Rules

Companies (Meetings of Board and its Powers) Rules, 2014

[Effective from 1st April, 2014]

 

Rule 15. Contract or arrangement with a related party.—A company shall enter into any contract or arrangement with a related party subject to the following conditions, namely:—

(1) The agenda of the Board meeting at which the resolution is proposed to be moved shall disclose—

(a) the name of the related party and nature of relationship;

(b) the nature, duration of the contract and particulars of the contract or arrangement;

(c) the material terms of the contract or arrangement including the value, if any;

(d) any advance paid or received for the contract or arrangement, if any;

(e) the manner of determining the pricing and other commercial terms, both included as part of contract and not considered as part of the contract;

(f) whether all factors relevant to the contract have been considered, if not, the details of factors not considered with the rationale for not considering those factors; and

(g) any other information relevant or important for the Board to take a decision on the proposed transaction.

(2) Where any director is interested in any contract or arrangement with a related party, such director shall not be present at the meeting during discussions on the subject matter of the resolution relating to such contract or arrangement.

[[5](3) For the purposes of first proviso to sub-section (1) of section 188, except with the prior approval of the company by a [6] [resolution], a company shall not enter into a transaction or transactions, where the transaction or transactions to be entered into,

— (a) as contracts or arrangements with respect to clauses (a) to (e) of sub-section (1) of section 188, with criteria as mentioned below –

(i) sale, purchase or supply of any goods or materials, directly or through appointment of agent, [8][amounting to ten per cent. or more] of the turnover of the company [12] [***], as mentioned in clause (a) and clause (e) respectively of sub-section (1) of section 188;

(ii) selling or otherwise disposing of or buying property of any kind, directly or through appointment of agent,  [8][amounting to ten per cent. or more] of net worth of the company[12] [***], as mentioned in clause (b) and clause (e) respectively of sub-section (1) of section 188;

(iii) leasing of property of any kind  [13] [amounting to ten per cent or more of the turnover of the company], as mentioned in clause (c) of sub-section (1) of section 188;

(iv) availing or rendering of any services, directly or through appointment of agent,  [8][amounting to ten per cent. or more] of the turnover of the company [14] [***], as mentioned in clause (d) and clause (e) respectively of sub-section (1) of section 188:

Explanation.—It is hereby clarified that the limits specified in sub-clauses (i) to (iv) shall apply for transaction or transactions to be entered into either individually or taken together with the previous transactions during a financial year.

(b) is for appointment to any office or place of profit in the company, its subsidiary company or associate company at a monthly remuneration exceeding two and half lakh rupees as mentioned in clause (f) of subsection (1) of section 188; or

(c) is for remuneration for underwriting the subscription of any securities or derivatives thereof, of the company exceeding one per cent. of the net worth as mentioned in clause (g) of sub-section (1) of section 188.

Explanation.- (1) The Turnover or Net Worth referred in the above sub-rules shall be computed on the basis of the Audited Financial Statement of the preceding Financial year.

(2) In case of a wholly owned subsidiary, the special resolution passed by the holding company shall be sufficient for the purpose of entering into the transactions between the wholly owned subsidiary and the holding company.

(3) The explanatory statement to be annexed to the notice of a general meeting convened pursuant to section 101 shall contain the following particulars, namely:—

(a) name of the related party;

(b) name of the director or key managerial personnel who is related, if any;

(c) nature of relationship;

(d) nature, material terms, monetary value and particulars of the contract or arrangement;

(e) any other information relevant or important for the members to take a decision on the proposed resolution.]

[7] [6A. Omnibus approval for related party transactions on annual basis.- All related party transactions shall require approval of the Audit Committee and the Audit Committee may make omnibus approval for related party transactions proposed to be entered into by the company subject to the following conditions, namely:-

(1)The Audit Committee shall, after obtaining approval of the Board of Directors, specify the criteria for making the omnibus approval which shall include the following, namely:-

(a) maximum value of the transactions, in aggregate, which can be allowed under the omnibus route in a year;

(b) The maximum value per transaction which can be allowed;

(c) Extent and manner of disclosures to be made to the Audit Committee at the time of seeking omnibus approval;

(d) Review, at such intervals as the Audit Committee may deem fit, related party transaction entered into by the company pursuant to each of the omnibus approval made;

(e) Transactions which cannot be subject to the omnibus approval by the Audit Committee.

(2) The Audit Committee shall consider the following factors while specifying the criteria for making omnibus approval, namely: –

(a) repetitiveness of the transactions (in past or in future);

(b) justification for the need of omnibus approval.

(3) The Audit Committee shall satisfy itself on the need for omnibus approval for transactions of repetitive nature and that such approval is in the interest of the company.

(4) The omnibus approval shall contain or indicate the following: –

(a) name of the related parties;

(b) nature and duration of the transaction;

(c) maximum amount of transaction that can be entered into;

(d) the indicative base price or current contracted price and the formula for variation in the price, if any; and

(e) any other information relevant or important for the Audit Committee to take a decision on the proposed transaction:

Provided that where the need for related party transaction cannot be foreseen and aforesaid details are not available, audit committee may make omnibus approval for such transactions subject to their value not exceeding rupees one crore per transaction.

(5) Omnibus approval shall be valid for a period not exceeding one financial year and shall require fresh approval after the expiry of such financial year.

(6) Omnibus approval shall not be made for transactions in respect of selling or disposing of the undertaking of the company.

(7) Any other conditions as the Audit Committee may deem fit.]

Applicable Circulars

Clarification with regard to Section 180 of the Companies Act, 2013.

Circular No. 4/2014 dated 25-3-2014

This Ministry has received many representations regarding various difficulties arising out of implementation of section 180 of the Companies Act, 2013 with reference to borrowings and/ or creation of security, based on the basis of ordinary resolution. The matter has been examined in the Ministry and it is hereby clarified that the resolution passed under section 293 of the Companies Act, 1956 prior to 12.09.2013 with reference to borrowings (subject to the limits prescribed) and / or creation of security on assets of the company will be regarded as sufficient compliance of the requirements of section 180 of the Companies Act, 2013 for a period of one year from the date of notification of section 180 of the Act.

Clarification with regard to Section 185 of the Companies Act, 2013.

Circular No. 3/2014 dated 14-2-2014

1. This Ministry has received number of representations on the applicability of Section 185 of the companies Act, 2013 with reference to loans made, guarantee given or security provided under Section 372A of the Companies Act, 1956. The issue has been examined with reference to applicability of Section 372A of the Companies Act, 1956 vis-a-vis Section 185 of the Companies Act. 2013. Section 372A of the Companies Act, 1956, specifically exempts any loans made, any guarantee given or security provided or any investment made by a holding company to its wholly owned subsidiary.

Whereas.

Section 185 of the companies Act, 2013 prohibits guarantee given or any security provided by a holding company respect of any loan taken by its subsidiary company except in the ordinary course of business.

2. In order to maintain harmony with regard to applicability of Section 372A of the companies Act, 1956 till the same is repealed and Section 185 of the Companies Act, 2013 is notified, it is hereby clarified that any guarantee given or security provided by a holding company in respect of loans made by a bank or financial institution to its subsidiary company, exemption as provided in clause (d) of sub-section (8) of section 372A of the companies Act, 1956 shall be applicable till section 186 of the Companies Act, 2013 is notified. This clarification will, however, be applicable to cases where loans so obtained are exclusively utilized by the subsidiary for its principal business activities,

Clarifications on matters relating to Related Party Transactions

Circular No. 30/2014 dated 17-7-2014

Government has received representations from stakeholders seeking certain clarifications on related party transactions covered under section 188 of the Companies Act, 2013. These representations have been examined and the following clarifications are given:-

1. Scope of second proviso to Section 188(1):-Second proviso to subsection (1) of section 188 requires that no member of the company shall vote on a special resolution to approve the contract or arrangement (referred to in the first proviso), if such a member is a related party. It is clarified that ‘related party’ referred to in the second proviso has to be construed with reference only to the contract or arrangement for which the said special resolution is being passed. Thus, the term ‘related party’ in the above context refers only to such related party as may be a related party in the context of the contract or arrangement for which the said special resolution is being passed.

2. Applicability to section 188 to in case of corporate restructuring, amalgamations etc.

It is clarified that transactions arising out of Compromises, Arrangements and Amalgamations dealt with under specific provisions of the Companies Act, 1956/Companies Act, 2013, will not attract the requirements of section 188 of the Companies Act, 2013.

3. Requirement of fresh approvals for past contracts under Section 188:—

Contracts entered into by companies, after making necessary compliances under Section 297 of the Companies Act, 1956, which already came into effect before the commencement of Section 188 of the Companies Act, 2013, will not require fresh approval under the said section 188 till the expiry of the original term of such contracts. Thus, if any modification in such contract is made on or after 1st April, 2014, the requirements under section 188 will have to be complied with.

[1] Substituted for “special resolution” by the Companies (Amendment) Act, 2015 vide Notification No S.O. 1440(E) dated 29th May 2015.

[2] Substituted for “special resolution” by the Companies (Amendment) Act, 2015 vide Notification No. S.O. 1440(E) dated 29th May 2015.

[3] Inserted by the Companies (Amendment) Act, 2015 vide Notification No. S.O. 1440(E) dated 29th May 2015.

[4] Substituted for “special resolution” by the Companies (Amendment) Act, 2015 vide Notification No. S.O. 1440(E) dated 29th May 2015.

[5] Substituted by the Companies (Meetings of Board & its Powers) Second Amendment Rules, 2014 vide Notification No. G.S.R.590(E) dated 14th August, 2014. Prior to the substitution it read as under:

(3) For the purposes of first proviso to sub-section (1) of section 188, except with the prior approval of the company by a special resolution—

(i) a company having a paid-up share capital of ten crore rupees or more shall not enter into a contract or arrangement with any related party; or

(ii) a company shall not enter into a transaction or transactions, where the transaction or transactions to be entered into—

(a) as contracts or arrangements with respect to clauses (a) to (e) of sub-section (1) of section 188 with criteria, as mentioned below—

(i) sale, purchase or supply of any goods or materials directly or through appointment of agents exceeding ten per cent. of the turnover of the company or rupees one hundred crore, whichever is lower as mentioned in clause (a) and clause (e) respectively of sub-section (1) of section 188;

(ii) selling or otherwise disposing of, or buying, property of any kind directly or through appointment of agents [exceeding ten per cent. of net worth of the company or rupees one hundred crore, whichever is lower]21 as mentioned in clause (b) and clause (e) respectively of sub-section (1) of section 188;

(iii) leasing of property of any kind exceeding ten per cent. of the net worth of the company or ten per cent. of turnover of the company or rupees one hundred crore, whichever is lower as mentioned in clause (c) of sub-section (1) of section 188;

(iv) availing or rendering of any services directly or through appointment of agents exceeding ten per cent of the turnover of the company or rupees fifty crore, whichever is lower as mentioned in clause (d) and clause (e) of sub-section (1) of section 188;

Explanation.—It is hereby clarified that the limits specified in sub-clauses (i) to (iv) shall apply for transaction or transactions to be entered into either individually or taken together with the previous transactions during a financial year.

(1.) appointment to any office or place of profit in the company, its subsidiary company or associate company at a monthly remuneration exceeding two and half lakh rupees as mentioned in clause (f ) of sub-section (1) of section 188; or

(2.) remuneration for underwriting the subscription of any securities or derivatives thereof of the company exceeding one percent. of the net worth as mentioned in clause (g) of sub-section (1) of section 188.

Explanation.—(1) The Turnover or Net Worth referred in the above sub-rules shall be on the basis of the Audited Financial Statement of the preceding Financial year.

(2) In case of wholly owned subsidiary, the special resolution passed by the holding company shall be sufficient for the purpose of entering into the transactions between wholly owned subsidiary and holding company.

(3) The explanatory statement to be annexed to the notice of a general meeting convened pursuant to section 101 shall contain the following particulars namely:—

(a) name of the related party;

(b) name of the director or key managerial personnel who is related, if any;

(c) nature of relationship;

(d) nature, material terms, monetary value and particulars of the contract or arrangement;

(e) any other information relevant or important for the members to take a decision on the proposed resolution.

[6] Substituted for “special resolution” by the Companies (Meetings of Board and its Powers) Second Amendment Rules, 2015 vide Notification No. G.S.R. 971(E)-Cl-V-Part dated 14th December, 2015.

[7] Inserted by the Companies (Meetings of Board and its Powers) Second Amendment Rules, 2015 vide Notification No. G.S.R. 971(E)-Cl-V-Part dated 14th December, 2015.

[8] Substituted for the words “exceeding ten per cent.” by Companies (Meetings of Board and its Powers) Amendment Rules, 2017 vide Notification No. G.S.R. 309(E) dated 30th March, 2017

[9] Substituted for the words “ten per cent. of turnover” by Companies (Meetings of Board and its Powers) Amendment Rules, 2017 vide Notification No. G.S.R. 309(E) dated 30th March, 2017

[10] Inserted by the Companies (Amendment) Act 2017 vide Notification No. File No. 1/1/2018-CL.I dated 9th February, 2018.

[11] Substituted for the words “shall be voidable at the option of the Board”by the Companies (Amendment) Act 2017 vide Notification No. File No. 1/1/2018-CL.I dated 9^th February, 2018.

[12] Omitted the words “or rupees one hundred crore, whichever is lower” vide Notification No. F. No. 1/32/2013-CL-V-Part dated 18th November, 2019.

[13] Substituted for the words “amounting to ten per cent or more of the net worth of the company or ten per cent or more of turnover of the company or rupees one hundred crore, whichever is lower” by the Companies (Meetings of Board and its Powers) Second Amendment Rules, 2019. vide Notification No. F. No. 1/32/2013-CL-V-Part dated 18th November, 2019

[14] Omitted the words “or rupees fifty crore, whichever is lower” vide Notification No. F. No. 1/32/2013-CL-V-Part dated 18th November, 2019.