Intercorporate loans, guarantees, and investments are some of the indispensable tools that facilitate funds to flow from one company to another, provide support to subsidiaries, and embark on strategic expansion. The Companies Act, 2013, thus, keeps such transactions in check under Section 186 to ensure transparency, protect stakeholder interests, and prevent misuse of corporate assets. The law has clearly set boundaries, approval requirements, and disclosure norms that ensure responsible financial behaviour. Together, these provisions help maintain accountability while allowing companies the flexibility needed for growth and collaboration.
Section 186 of the Companies Act 2013
The procedure, as laid out under Section 186, ensures that inter-company loans, guarantees, and investments are entered into with adequate supervision, shareholders’ control wherever required, and full transparency. The procedures established avoid the misutilisation of company funds and ensure that these transactions promote genuine business development with the interests of the stakeholders intact.
1. Scope and Purpose of Section 186
Section 186 includes mainly four basic corporate financial dealings:
- Lending to any individual or another corporation,
- Issuing guarantees covering loans borrowed by others.
- Providing security connected with loans,
- Investing in securities belonging to other corporate organisations.
It thus aims to ensure that companies do not overextend their financial capabilities or place shareholders at risk unnecessarily.
2. Limit on Loans and Investments
A company may not make a loan, provide a guarantee, provide security or invest more than the following thresholds without shareholder approval in advance:
- 60% of its paid-up share capital, free reserves, and securities premium, OR
- 100% of its free reserves and securities premium,
whichever amount is greater.
If the company intends to exceed these limits, it has to obtain approval through a special resolution passed by its shareholders.
3. Requirement of Board Approval
Every loan, guarantee, security, or investment shall be approved by the Board of Directors through a unanimous resolution during a board meeting. Its approval through circulation shall not be allowed to ensure proper discussion of the matters.
4. Public Financial Institutions (PFIs)
Approval An existing term loan from a Public Financial Institution in respect of a corporation would, prior to exceeding the limits as defined on borrowings or investments, require prior approval from the Public Financial Institution, unless the corporation remains within the previously defined thresholds.
5. Rate of Interest on Loans
Any loan advanced by a company shall be at an interest rate not less than the prevailing yield of:
- Government security is closest to the loan tenure.
- This will ensure loans are not provided at artificially low rates to favour certain parties.
6. Limitations and Prohibitions
- Avoiding complex and opaque structures, a company is not allowed to grant loans or guarantees to more than two levels of investment firms.
- Entities engaged in NBFC operations, banks, and insurance firms are exempted from certain prohibitions since lending forms a principal element of their activity.
7. Register of Loans, Guarantees, Security, and Investments
Every company is required to maintain the register in Form No. MBP-2, which shall contain:
- Names of entities,
- Amounts involved,
- Purpose,
- Approval and transaction dates.
This practice ensures transparency and enables clear audit trails.
8. Disclosure Requirements
The company must report within its financial statements the following:
- Full information about loans, guarantees, securities, and investments
- The purpose and nature of these transactions
- This practice enhances accountability to shareholders and regulatory bodies.
Exceptions to Section 186
Section 186 prescribes the law relating to inter-corporate loans, guarantees, and investments. It provides certain exceptions where its provisions shall not apply. The exceptions, inter alia, include the following:
- Loans, guarantees, or securities provided by a banking company, an insurance company, or a housing finance company in the usual course of its business. Such entities frequently provide these services, and they are therefore exempt.
- Companies involved in financing industrial enterprises or providing infrastructure facilities, to the extent that such activities constitute integral parts of their regular business operations.
- Any investment made by a company in rights issues or by subscription of fully paid-up securities, since these do not represent new financial exposure.
- Advances or guarantees granted at the request of the Central or State Government, especially in cases where undertakings in the public sector are involved.
- A holding company extending loans or guarantees to its wholly owned subsidiary or investing in it, provided that such transactions are solely for the purposes of the subsidiary business.
These exceptions permit various financial and group company activities to function efficiently.
Procedure of Intercorporate Loans, Guarantees and Investments under the Companies Act 2013
The Companies Act, 2013, lays down a structured process that companies must follow before sanctioning any loan, guarantee, security, or investment in any other body corporate. This structure brings in financial discipline, ensures more transparency, and provides better security to the shareholders of the company.
1. Check the Limits Under Section 186
Before proceeding, the company has to determine that the proposed loan/guarantee/security/investment is within the statutory limits.
- 60% of paid-up share capital, free reserves, and securities premium, OR
- 100% of free reserves and securities premium,
whichever is greater.
2. Board Meeting & Approval by Board Resolution
There needs to be a Board Meeting. There must be a unanimous Board Resolution to sanction the transaction. Approval through circular resolution is not allowed.
The Board shall consider:
- The purpose of the transaction
- Financial implications
- Associated risks
- The company’s repayment capabilities
3. Shareholder Approval (If Limits are Exceeded)
If the transaction in question exceeds the respective limits, then there must be approval of a Special Resolution in a General Meeting of shareholders. The notice should include:
- Comprehensive details of the transaction
- Financial justification
- Any existing outstanding loans or guarantees
- Purpose and benefits
- Special Resolution ensures shareholder checks on extraordinary financial risks.
4. Permissions by Public Financial Institutions (PFIs)
If the company has an existing term loan from a PFI, prior permission is required unless:
- The company stays within Section 186 limits, AND
- There is no default in existing loan repayments.
5. Rate of Interest on Loans
Loans shall be granted not below the current yield of Government securities with similar maturity. This prevents loans from being given at unfairly low interest rates.
6. Maintain Statutory Register (Form MBP-2)
The company must keep a Register of Loans, Guarantees, Security, and Investments that must contain:
- Names of entities
- Amounts provided
- Nature and purpose
- Dates of approval
- Terms and conditions
Such a register shall be kept at the registered office of the company and shall be open to inspection.
7. Disclosures in Financial Statements
The following must be disclosed by the company in its Balance Sheet:
- Complete details of loans, guarantees, securities, and investments
- Purpose and nature of the transaction
- The source of the funds
These disclosures further facilitate transparency to the shareholders and regulatory bodies.
8. Compliance with Restrictions and Prohibitions
The company is required to ensure that:
- It does not exceed two layers of investment companies.
- No transaction violates the charter documents of the company- MOA/AOA.
- It does not extend loans or guarantees to individuals or entities prohibited by law.
9. Filing of Necessary Forms with ROC
In case of a special resolution, file MGT-14 with the ROC within 30 days. An authenticated copy of the special resolution, the explanatory statement, and the Board resolution
10. Ensure No Default Under Sections 73–76A
The company shall not have:
- Failed to pay back deposits
- Defaulted on the payment of interest
A company already in default cannot issue loans or guarantees until the default is cured.
11. Loan/Guarantee/Security Agreements Completed
Upon approvals:
- draft and execute formal agreements
- clearly outline repayment terms, interest rate, security provided, purpose, and covenants.
12. Post-Approval Monitoring
Companies must track:
- Repayments
- Performance of invested funds
- status of guaranteed obligations
- Any change in the borrower’s financial condition
This ensures financial prudence.
The procedure laid down under Section 186, in essence, provides the required oversight, shareholder control where necessary, and full transparency regarding inter-company loans, guarantees, and investments. The structured steps prevent misuse of company funds and ensure that such transactions promote legitimate business growth while protecting stakeholders.
Consequences of Non-Compliance with Section 186
Non-compliance with Section 186 of the Companies Act, 2013, attracts severe penalties both for the company and the officers thereof. In case any company violates provisions relating to exceeding limits or failure to obtain approval, it would attract a fine in monetary terms ranging from ₹25,000 to ₹5 lakh. Any defaulting officer may be required to suffer a fine ranging between ₹25,000 and ₹1 lakh, and in grave cases, liability may extend even to imprisonment if offenses pertain to fraud. Other implications of such non-compliance may also result in voiding the transaction, damaging corporate reputation, and making the Company susceptible to regulatory scrutiny. Thus, strict adherence to Section 186 is very important to avoid both legal and financial consequences.
Conclusion
Intercorporate loans, guarantees, and investments play a major role in companies’ provision of support to group entities, their expansion, and their financial resources optimisation. These transactions are regulated by the Companies Act of 2013 according to Section 186, which makes sure that accountability, transparency, and prudent financial management are the order of the day. The law does this by setting up limits, requiring approvals, and imposing disclosures, thereby safeguarding the shareholders’ interests whilst giving companies the freedom to grow.
