A director in a company is an elected individual who represents the shareholders and oversees the management of the company. Director carries a lot of responsibilities in managing the activities of the company and meeting the company’s financial needs is also an important part of it. Every director shall act in accordance with the Articles of Association (“AoA”) of the company.
Why would a company want to source finance from a third party if there is an option of receiving loans from their directors? Loans from directors are more cost-effective than receiving loans from other financial institutions. These loans may either be secured or unsecured. Unsecured loans from directors may have a zero rate of interest.
Difference between loans and deposits
- Loan – The Companies Act, 2013 has not defined loans. However, in common usage, any transaction in which money is given with the aim to be returned either with or without interest is termed as a loan.
- Deposits – As per Section 2(31) of the Companies (Acceptance of Deposits) Rules 2014 (“Rules, 2014”), deposit includes any receipt of money by way of deposit or loan but does not include categories of amounts as prescribed in consultation with the Reserve Bank of India (“RBI”).
Deposits are paid on demand, subject to certain conditions whereas loans are paid according to the terms of the two-party. Nonetheless, the responsibility to pay money arises as soon as the loan is accepted.
Directors can lend money in two ways:
- Amounts received out of director’s own funds –
- If a company receives money from its directors out of their own funds, it will be treated as a loan and will not be subject to the provisions of Section 73 or Section 76 of the Companies Act, 2013.
- To avail this relief, the director must provide a written declaration to the company at the time of giving the money, that the money is not collected by borrowing or accepting loans or deposits from others. Information regarding the loan should be mentioned in the Director’s Report.
- Section 180 (Restrictions on power of board of directors) will be applicable to public companies.
- Amounts received from a director who is also a shareholder –
The amount received from such directors will be treated as Deposits from Members. Such deposit will be subject to Section 73 of the Companies Act, 2013 read with the Rules 2014, as well as Section 180 of the Companies Act, 2013.
- Amounts received from a director who is not a shareholder –
- The money received from such directors shall be recognized as Deposits from Public. Such deposits will attract the provisions of Section 76 of the Companies Act, 2013 read with Rules 2014 and Section 180 of the Companies Act, 2013.
- In this case, only an Eligible Public Company (“EPC” ) can accept the deposits and it will have to obtain credit rating every year. An EPCis a public company having a prescribed net worth of not less than one hundred crore rupees of turnover of not less than five hundred crore rupees and which has obtained a prior consent in general meeting, along with a resolution filed with Registrar of Companies (“RoC”).
In the event of making such deposits, failure to comply with the provisions of Section 73 or Section 76 of the Companies Act, 2013 may result in a penalty of one crore rupees that may extend to ten crore rupees as per section 76A of this Act. Every officer who is in default is subject to imprisonment for up to seven years or a fine of not less than twenty-five lakh rupees but not more than two crore rupees, or both.
If any eligible company inviting deposits or any other person contravenes any provision of the Rules, 2014 the company and every officer of the company who is in default shall be punishable with fine which may extend to five thousand rupees and where the contravention is a continuing one, with a further fine which may extend to five hundred rupees for every day after the first day during which the contravention continues as per Section 21 of the said Rules 2014.
The content of this article is intended to provide general guidance on the subject matter. Specialist advice should be sought about your specific circumstances.
The Companies Act, 2013, Ministry of Corporate Affairs, available at https://www.mca.gov.in/Ministry/pdf/CompaniesAct2013.pdf last seen on 14/07/2021.