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We are celebrating 5 years of our Companies act 2013 this month. When the law was introduced it warranted the companies to be on a “Jet Set Go” motto with compliance and transparency being the key. Among the multifarious issues outlined in this act, Related party transactions took a turn, and this is a term that has been making all companies edgy about the complexities surrounding it for umpteen years. This article is an attempt to make the term as simple as ABC

Who is a related party?

Following are the related parties with respect to Company LMN Ltd (LMN Ltd is taken as an example for explaining purposes).

Let’s say, Mr L, M, and N are directors in this company.

The related parties for the company, in general, are as under 

Si. No Related parties Examples
1. A director or his relative (Relative means a member of the same HUF, husband, wife, father, step father, mother, step mother, son, step son, son’s wife, daughter, daughter’s husband, brother, step brother, sister, step sister) Mr L, Mr M and Mr N are directors and the relatives of these Directors are considered as related parties.
2 Key managerial personnel or his relative Say, Mr O is a Company secretary,

his relatives will be considered related parties

3 A firm in which a director, manager, or relative is a partner Mr L is a partner at RST. Pvt. Ltd, another firm. This firm will also be considered as a related party.   
4 A private company in which a director, manager, or relative is a member or director Mr. M is a director in M Pvt Ltd – In this case M Pvt. ltd becomes a related party.

Even when Mr. M’s relative is a member or director in M Pvt ltd, this company will be considered as a related party.

5 A public company in which a director or manager is a director and holds along with his relatives more than 2% of its paid-up capital Mr. N along with his relatives holds more than 2% of the paid-up capital of N ltd. In this case, N Ltd will be considered as a related party.
6 Any body corporate whose board of directors, MD or manager is required to act in accordance with the advice, directions or instructions of a director or manager (NA in cases when these directions are followed in  professional capacity) When P Ltd acts on the directions of Mr. L, P Ltd will be a related party.
7 Any person on whose advice, directions or instructions a director or manager is required to act (NA when this is done  in professional capacity) Mr A holding 51% in LMN Ltd on whose advice Mr L has to act will be considered as a related party.
8 Holding, Subsidiary or Associate of such company These all will be considered as related parties:

  • ABC Ltd holding 51% in LMN Ltd (Holding Company)
  • LMN Ltd holding 51% in XYZ Ltd (Subsidiary Company)
  • DEF Ltd holding 30% in LMN Ltd (Associate Company)
9 Any company which is subsidiary of a holding company to which it is also a subsidiary PQR & LMN are both subsidiaries of ABC ltd. Thus, PQR also becomes a related party

What are related party transactions?

Since we are acquainted with the term related party let us dive into the transactions covered. The broad categories are mentioned hereby:

Si No Transactions as per Companies Act requiring approval of the Board by resolution Transactions as per The Companies (Meetings of Board and its powers) Rules 2014 requiring approval by the company by resolution
1 Goods and Material: Sale, purchase or supply Sale/Purchase/Supply of goods/material directly or through an agent covering 10% or more of turnover OR one hundred Crores (whichever is lower).
2 Property: Selling or buying or leasing Sale/Purchase of property directly or through an agent that is 10% or more of net worth OR one hundred Crores (whichever is lower).

In case of leasing of property directly covering 10% or more of turnover OR one hundred Crores (whichever is lower).

3 Agent for (1) and (2) above Availing or rendering of services directly or through an agent which is 10% or more of turnover OR fifty Crores (whichever is lower)
(All the above limits are to be taken on all transactions done on a financial year basis)
4 Others:

  • Availing of or rendering of services
  • Underwriting of securities or derivatives
  • Related partys’ appointment to place of profit or office* in the company/subsidiary/associate
  • If the:
  • Director or
  • individual other than director/firm/private company/body corporate

receive from the company an amount over and above the remuneration (In case of directors) and  anything by way of remuneration for others will need the approval of the Board by a resolution.

  • Related party’s appointment to place of profit or office* in the company/subsidiary/associate where the remuneration exceeds two and a half lakhs
  • Underwriting of securities or derivatives when remuneration exceeds 1% of the net worth

 

How does SEBI govern related parties and related party transactions?

The SEBI Clause 49 also states certain regulatory requirements for related party transactions. It defines related party transaction as a transaction which includes transfer of resources/services/obligation. Its scope is of a wider range than the Companies Act 2013. It includes close family members of directors or key managerial personnel, private company in which directors or key managerial personnel plus their relatives have control or significant influence. Every related party transaction which is material has to be approved by the shareholders by passing a special resolution and all related parties shall not be allowed to vote on such resolutions.

Important Pointers

  1. The turnover or net worth for the purpose of calculation under Companies Rules 2014 shall be based on the audited financial statements
  2. If the transaction is in the ordinary course of business and done on an arm’s length basis it shall not require the approval of the board or the company.
  3. No member shall vote on the special resolution if such member is a related party.
  4. Details of every contract entered into shall find its reference in the Board’s report along with justification about the same
  5. Ratification of the transaction may be done by the Board or the shareholders within three months. If the same is not done, then the contract will be voidable at the option of the Board.
  6. If the contract is with anyone related to the director, or is authorized by any other director, the directors concerned shall make good to the company for losses if any caused to the company.
  7. Penalties outlined under Sec 188 are:

Listed Company: Imprisonment upto 1 year; Fine ranging from Rs. 25000 to Rs. 500000 or both

Any other company: Fine ranging from Rs. 25000 to Rs. 500000

The meaning associated with this phrase related-party-transaction will keep clouding our minds and we hope to find some way to have a one-stop solution to put our perplexed minds to rest.

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