A company can give loans and guarantees, acquire securities or make investments in another company or body corporate with the consent of the board or shareholders. Such loans given by a company to other companies or body corporates are known as inter-corporate loans. When a company invests in another company, it is known as inter-corporate investment.
Section 186 of the Companies Act, 2013 (‘Act’) regulates inter-corporate loans and investments. A company can give loans and guarantees, acquire securities or make investments only according to the provisions laid down in Section 186 of the Act.
With the approval of the board of directors or shareholders, a corporation can provide loans and guarantees, purchase securities, or invest in another company or body corporate. Inter-corporate loans are loans made by one company to another company or body corporate. Inter-corporate investment occurs when one firm invests in another.
A corporation may lend, invest, guarantee, and sell securities to another company or body corporate with the approval of the board or the shareholders.
Meaning of Inter Corporate Loans and Investments
The maximum inter-corporate loan and the investment amount is limited and capped for each company. If a company’s paid-up share capital, free reserves, and security premium account total more than 60% of that amount or 100% of that amount, the firm should not guarantee loans, buy securities from other bodies corporate, or offer loans to them.
Inter-corporate loans and investments may be processed by board resolution with the approval of all directors present at the board meeting if the total amount of such loans, investments, guarantees, and securities in connection with loans already made and proposed to be made together does not exceed the established limit. If the same exceeds the designated limit, a previous special resolution must be enacted and the financial institution’s prior consent must be sought, the latter if there is an active term loan.
Inter-Corporate Loans and Investments Under Companies Act, 2013
Section 186(2) of the Act states how a company can give loans and guarantees to other companies and body corporates. It states a company can directly or indirectly:
- Give loan to any other body corporate.
- Provide security or give a guarantee in connection with a loan given to any other body corporate.
- Acquire securities of other body corporates by way of purchase, subscription or otherwise.
However, a company can give loans, guarantee and acquire securities of up to 60% of its paid-up share capital, securities premium account and free reserves or 100% its securities premium account and free reserves, whichever is more.
Section 186(1) of the Act provides that a company can make investments only through more than two layers of investment companies, except for the following:
- For acquiring any other company incorporated outside India when such other company has investment subsidiaries beyond two layers according to the laws of such country.
- Subsidiary company from obtaining any investment subsidiary for meeting the requirements under law or under a regulation or rule framed under the law for the time being in force.
Exceptions to Inter-Corporate Loans
The provisions of inter-corporate loans provided under the Act will not apply to the following:
- A banking company, housing finance company or an insurance company in its normal business operations.
- A company established to provide infrastructure facilities or finance industrial enterprises.
- A registered Non-Banking Finance Company (NBFC) concentrates primarily on acquiring securities.
Restrictions on Inter-Corporate Loans
A company that has fallen behind on interest payments is not permitted to offer any inter-corporate loans, guarantees, or security. This ban will be in place until the company has fully resolved the default. Additionally, with a few exceptions, a company is not allowed to invest through two layers of investment companies.
Loans shouldn’t be granted at an interest rate that is less than the current yield of the ten-year, one-year, three-year, five-year, or three-year government security that is closest to the loan’s term. This rule does not apply when a loan is given for industrial research and development projects when the government owns 26% or more of the paid-up capital.
Rate of Interest on Inter-Corporate Loans
A company cannot give an inter-corporate loan at a rate of interest lower than the prevailing yield of one, three, five or ten years of government security closest to the loan term.
Disclosure to be Made for Issuance of Inter-Corporate Loan
The company should disclose the following to its members in the financial statement:
- Full particulars of the loans granted.
- Full particulars of the investments made.
- Full particulars of the guarantee or security provided.
- Purpose for which the loan, guarantee or security is proposed to be utilised by the recipient of the loan, guarantee or security.
Non- Application of Section 186: Inter-Corporate Loans and Investments under Companies Act, 2013
Lending money and investing money are two things that some companies do. In light of this, Section 186 will not apply to any loans or guarantees provided by:
- During the course of their regular business activities, a bank, an insurance company, or a mortgage lender.
- A company established with the goal of supplying infrastructure or funding an industrial company.
- A licensed Non-Banking Finance Company that prioritizes the purchase of equities.
- An organization that buys share rights.
- A company whose main activity is the purchase of shares.
- Government-owned businesses that produce weapons.
- Unlisted Businesses that the State or Federal Government’s Ministry or Department has granted legal authorization to operate.
The procedure under Section 186: Inter-Corporate Loans and Investments under the Companies Act, 2013
- Step 1: Through a Board decision, a company may issue any loan, give any guarantee or security, and purchase securities of a body corporate up to 60% of its paid-up capital, security premium account, and free reserves, or 100% of its free reserves and security premium, whichever is greater.
- Step 2: After giving notice and taking into consideration the aforementioned criteria and requirements of the company, the Board of Directors will meet to examine proposals for approving a loan, guarantee, security, etc.
- Step 3: Unless the resolution sanctioning is passed at a Board meeting with the assent of all the directors present at the meeting, no investment, loan, guarantee, or security will be issued by the company.
- Step 4: If there is an existing loan from any public financial institution, that public financial institution’s prior permission is also necessary for any future loan from any other source. However, prior permission of the Public Financial Institution is not required if the aggregate loan, investment, guarantee, and security requested are within the limitations specified in section 186(2) and there is no default in the repayment of the loan or interest to the Public Financial Institution.
- Step 5: After determining the source of funds and the amount required, the Board will designate one of the directors or another individual to request for permission from public financial institutions.
- Step 6: Organize a general meeting of shareholders after providing proper notice, and pass the special resolution therein, where the granting of any loan or guarantee, or providing any security, or the acquisition that exceeds the specified limits of 60% of its paid-up capital, security premium account, and free reserves, or 100% of its reserves and security premium, whichever is greater.
- Step 7: Within 30 days after passing the resolution, file a copy of the special resolution in Form MGT-14 with the Registrar, together with the fee specified in the Companies Rules, 2014.
- Step 8: Attach all essential documents in accordance with the form’s specifications.
- Step 9: Every business that makes a loan, gives a guarantee, grants security, or makes an acquisition must keep a register in Form MBP-2 starting from the date of its registration, and the documentation for the loan, guarantee, securities, and purchase must be put therein.
- Step 10: Entries would be made in the register for each such transaction of obtaining such a loan, offering a guarantee, providing security, or completing a purchase.
- Step 11: It must be assured that no loan is granted at a rate of interest lower than the current yield of the Government securities closest to the loan’s duration for one year, three years, five years, or ten years.
- Step 12: The company must disclose in its financial statements the full details of the loans made to members, the investment made or guarantee provided or security provided, and the purpose for which the loan, guarantee, or security is proposed to be used by the recipient of the loan, guarantee, or security.
- Step 13: Examine the company’s repayment history in terms of payback of any deposits or interest thereon.
Penalty for Contravention of Companies Act, 2013
The company will have to pay a penalty of not less than Rs.25,000 that may exceed up to Rs.5 lakhs for the contravention of the provisions of Section 186 of the Act. Every director of the company in default is punishable with imprisonment for a term that may exceed up to 2 years and a penalty not less than Rs.25,000 that may extend up to Rs.1 lakh for the contravention of the provisions Section 186 of the Act.
FAQs
What is an inter-corporate loan?
An inter-corporate loan refers to a financial arrangement where one company lends money to another company within the same corporate group.
How are inter-corporate loans different from traditional bank loans?
Inter-corporate loans involve lending between companies within the same corporate group, while traditional bank loans involve borrowing from external financial institutions. Inter-corporate loans may offer more flexibility and favorable terms compared to external financing.
Why do companies engage in inter-corporate loans?
Companies engage in inter-corporate loans to facilitate cash flow management, provide financial support to subsidiaries, optimize capital structure, and take advantage of tax planning opportunities.
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