Section 186 covers 3 types of specified transactions entered into by a company directly or indirectly:
- Loans to any person or other body corporate;
- Guarantee or security given in connection with a loan to any other body corporate or person; and
- Acquisition by way of subscription, purchase or otherwise, the securities of any other body corporate.
As mentioned above the section also restrict giving loan to any person, the word ‘Person’ has not been defined in the Act. Section 2(42) of General Clauses Act 1897 provides that ‘Person’ shall include any company, association or body of individuals, whether incorporated or not.
Investment in not more than two layers
Section 186 provides that without prejudice to the provisions of this Act, a company shall, unless otherwise prescribed, not make investment through more than two layers of investment companies.
The provisions of Section 186 (1) shall not have effect in the following cases:
- A Company acquires any Company which is incorporated outside India. Such Company has Investment Subsidiary beyond Two layers as per the law of such country.
- A subsidiary Company from having any investment subsidiary for the purpose of meeting of the requirement under any law framed under any law for the time being in force.
Limits on investment
The limits for Investment and Guarantee as provided under sub-section (2) of section 186 states the Limit as:
- 60% of Paid up capital + Free Reserve + Security Premium or
- 100% of Free Reserve + Security Premium (whichever is More).
However, a company may overcome such restrictions by passing a special resolution at a general meeting. Following conditions also needs to be fulfilled.
- The rate of interest cannot be less than prevailing yield on one year, three-year, five year or ten year Government security closest
- The Company is required to disclose to the members in the financial statement the full particulars of loan given, investment made or guarantee given or security provided and the purpose for which the loan or guarantee or security is proposed to be utilized by the recipient of loan or guarantee or security.
This means that the parameter of rate of interest has been shifted to Government Security yield under the section instead of RBI Bank Interest Rate which was applicable under Section 372A.
Further Approval of Board and Public Financial Institution:
- In pursuant to provisions of Section 186(5) of the Act, every Company shall take consent of all the directors present at the board meeting before making any investment, giving loan and guarantee and providing security. In case of Company has already taken loan etc., from any Public Financial Institutions, then it is mandatory to take prior approval from such Public Financial Institution.
- Provided that prior approval of Public Financial Institution shall not be required where the aggregate loan, investment, guarantee and security proposed is within the limits as specified under section 186(2) and there is no default in repayment of loan or interest thereon to the Public Financials Institution.
If a company contravenes the provisions of this section, the company shall be punishable with fine which shall not be less than twenty-five thousand rupees but which may extend to five lakh rupees and every officer of the company who is in default shall be punishable with imprisonment for a term which may extend to two years and with fine which shall not be less than twenty-five thousand rupees but which may extend to one lakh rupees. This is important to note that section has taken away the protection available against punishment by way of imprisonment – where the whole of the loan etc is repaid.