Section 188 Related party transactions – Companies Act 2013

Amended and updated notes on section 188 of Companies Act 2013. Detail discussion on provisions and rules related to Related Party Transactions.

Chapter XII (Sections 173–195) of the Companies Act, 2013 (CA 2013) deals with the provisions related to meetings of board and its powers. Section 188 of CA 2013 provides for Related Party Transactions.

Recently, we have discussed in detail section 187 (Investments of company to be held in its own name) of CA 2013. Today, we learn the provisions of section 188 of Companies Act 2013.

The provisions of section 188 are effective from 1-April-2014. You may refer Notification No. S.O. 902(E) issued dated 27-03-2014. In this article, you will learn detail of the provisions of section 188 of the Companies Act 2013 read with the Companies (Meetings of Board and its Powers) Rules, 2014.

Name of Act	The Companies Act 2013
Enacted by	Parliament of India
Administered by	Ministry of Corporate Affairs (MCA)
Number of Chapters	29
Number of Sections	484 (470-43+57)
Number of Schedules	7
You are reading:
Chapter No.	XII
Chapter Name	Meetings of Board and its Powers
Section No.	188
Section Name	Related party transactions
Monthly Updated Edition	Company Law PDF

Section 188 (Related Party Transactions) of Companies Act 2013

Amended by the Companies (Amendment) Act, 2015, the Companies (Amendment) Act, 2017 read with the Companies (Meetings of Board and its Powers) Rules, 2014, the Companies (Meeting of Board and its Power) Second Amendment Rules, 2014, the Companies (Meeting of Board and its Powers) Second Amendment Rules, 2015, the Companies (Meeting of Board and its Power) Amendment Rules, 2017, the Companies (Meetings of Board and its Powers) Second Amendment Rules, 2019.

Related Party Transactions [Section 188(1)]:

A company may enter into related party transactions after passing BR at BM and subject to prescribed conditions. Following are the list of specified transactions (i.e. contracts or arrangements) which shall be termed as ‘related party transactions’ if a company undertakes them with a ‘related party’:

• (a) sale, purchase or supply of any goods or materials;
• (b) selling or otherwise disposing of, or buying, property of any kind;
• (c) leasing of property of any kind;
• (d) availing or rendering of any services;
• (e) appointment of any agent for purchase or sale of goods, materials, services or property;
• (f) such related party’s appointment to any office or place of profit in the company, its subsidiary company or associate company; and
• (g) underwriting the subscription of any securities or derivatives thereof, of the company.

PART-1: Watch Video Lecture for Related Party Transaction

Office or Place of Profit (OPP) [Explanation of Section 188(1)] means any office or place—

(i) In case of Director: Where such office or place is held by a director receives remuneration over and above the remuneration to which he is entitled as director, by way of salary, fee, commission, perquisites, any rent-free accommodation, or otherwise;

(ii) Other Individual: Where such office or place is held by an individual other than a director or by any firm, private company or other body corporate, if the individual, firm, private company or body corporate holding it receives anything by way of remuneration, salary, fee, commission, perquisites, any rent-free accommodation, or otherwise;

As per Clause (76) of Section 2, Related Party with reference to a company, means—

• (i) a Director or his relative;
• (ii) a Key Managerial Personnel (KMP) or his relative;
• (iii) a Firm, in which a director, manager or his relative is a partner;
• (iv) a Private Company in which a director or manager or his relative is a member or director;
• (v) a Public Company in which a director or manager is a director and holds along with his relatives, more than two per cent of its paid-up share capital;
• (vi) any Body Corporate whose Board of Directors, managing director or manager is accustomed to act in accordance with the advice, directions or instructions of a director or manager;
• (vii) any Person on whose advice, directions or instructions a director or manager is accustomed to act:

Note that nothing in sub-clauses (vi) and (vii) shall apply to the advice, directions or instructions given in a professional capacity.

• (viii) any Body Corporate which is—
  • (A) a holding, subsidiary or an associate company of such company; or
  • (B) a subsidiary of a holding company to which it is also a subsidiary [i.e. sister company]; or
  • (C) an investing company or the venturer of the company;

Explanation: For the purpose of this clause, “the investing company or the venturer of a company” means a body corporate whose investment in the company would result in the company becoming an associate company of the body corporate.

• (ix) such other person as may be prescribed;

Deemed Related Party: Such other person has been prescribed in Rule 3 of the Companies (Specification of definitions details) Rules, 2014. Accordingly, for the purposes of section 2(76)(ix), a director other than an Independent Director (ID) or Key Managerial Personnel (KMP) of the holding company or his relative with reference to a company shall be deemed to be a related party.

PART-2: Watch Video Lecture for Related Party Transaction

Relative: As per Clause (77) of Section 2 read with Rule 4 of the Companies (Specification of definitions details) Rules, 2014. Following persons are relative of another:

• Members of HUF;
• Husband and Wife;
• Father/Mother;
• Brother/Sister;
• Son/Son’s wife;
• Daughter/Daughter’s husband.

Key Managerial Personnel [Section 2(51)]: KMP means CEO or MD or Manager, CS, WTD, CFO etc.

Conditions for Related Party Transactions:

Following conditions must be satisfied before entering into the related party transactions as per Rule 15(1) of the Companies (Meetings of Board and its Powers) Rules, 2014:

1) Agenda for BR at BM: The agenda of the Board meeting shall disclose-

• (a) the name of the related party and nature of relationship;
• (b) the nature, duration of the contract and particulars of the contract or arrangement;
• (c) the material terms of the contract or arrangement including the value, if any;
• (d) any advance paid or received for the contract or arrangement, if any;
• (e) the manner of determining the pricing and other commercial terms, both included as part of contract and not considered as part of the contract;
• (f) whether all factors relevant to the contract have been considered, if not, the details of factors not considered with the rationale for not considering those factors; and
• (g) any other information relevant or important for the Board to take a decision on the proposed transaction.

2) Interested Director: In accordance with Rule 15(2), if any director is interested in any contract or arrangement with a related party, such director shall not be present at the meeting during discussions on the subject matter of the resolution relating to such contract or arrangement.

The company shall maintain register in Form MBP-4 for contracts or arrangements with a related party i.e. related party transaction.

PART-3: Watch Video Lecture for Related Party Transaction

OR in GM [First Proviso of Section 188(1)]:

Related Party transactions requires prior approval of shareholders by passing an ordinary resolution only if a company having paid-up share capital of not less than prescribed amount, or transactions not exceeding prescribed sums. In other words,

• The company have more than prescribed paid-up share capital; or
• Transaction amount not exceeding prescribed limit.

Such limit has been prescribed in the sub-rule (3) of Rule 15 of the Companies (Meetings of Board and its Powers) Rules, 2014.

i) For Clause (a) & (e) of Section 188(1): Sale, purchase or supply of any goods or materials, directly or through appointment of agent, the transaction amount is 10% or more of Turnover of company.

ii) For Clause (b) & (e) of Section 188(1): Selling or otherwise disposing of or buying property of any kind, directly or through appointment of agent, the transaction amount is 10% or more of Net Worth of company.

iii) For Clause (c) of Section 188(1): Leasing of property of any kind, the transaction amount is 10% or more of Turnover of company.

iv) For Clause (d) & (e) of Section 188(1): Availing or rendering of any services, directly or through appointment of agent, the transaction amount is 10% or more of Turnover of company.

v) For Clause (f) of Section 188(1): Transaction is for appointment to any office or place of profit in the company, its subsidiary company or associate company at a monthly remuneration exceeding ₹2,50,000.

vi) For Clause (g) of Section 188(1): Transaction is for remuneration for underwriting the subscription of any securities or derivatives thereof of the company exceeding 1% of the Net Worth.

Note:

1) For the purpose of section 188(1), the Turnover or Net Worth shall be computed on the basis of the Audited Financial Statement of the preceding Financial Year.

2) The resolution passed by the holding company of a wholly owned subsidiary company shall be sufficient for the purpose of entering into the transactions between them.

3) The explanatory statement annexed to general meeting notice [Section 101] shall contain:

• Name of related party;
• Name of related director or key managerial personnel;
• Nature of relationship;
• Nature, material terms, monetary value and particulars of transaction;
• Any other relevant information which helps members to take a decision on the proposed resolution.

Note that the First and Second proviso to sub-section (1) of section 188 shall not apply to in case of related party transactions within Government companies.

No Voting by Related Member [Second & Third Proviso of Section 188(1)]:

If any member is related party then he shall not vote on such resolution to approve any contract or arrangement. In case of Private company and specified IFSC public company, related members can vote on such resolution.

However, if 90% or more members, in number, are relatives of promoters or are related parties then they can vote in related party transactions.

Ordinary Business [Fourth Proviso of Section 188(1)]:

If transactions are entered in the ordinary course of business on an arm’s length basis then the provisions of sub-section (1) of section 188 shall not be applicable. That means there is no need to pass any resolution or fulfil any conditions for entering into related party transactions.

Arm’s Length Transaction [Explanation of Section 188(1)] means a transaction between two related parties that is conducted as if they were unrelated, so that there is no conflict of interest.

Wholly Owned Subsidiary [Fifth Proviso of Section 188(1)]:

OR in GM not required for transactions entered into between a holding company and its wholly owned subsidiary whose accounts are consolidated with such holding company and placed before the shareholders at the general meeting for approval.

Board Report [Section 188(2)]:

Every contract or arrangement u/s 188(1) i.e. related party transaction shall be referred to in the Board’s report (Form AOC-2) to the shareholders along with the justification for entering into such contract or arrangement.

Voidable Related Party Transaction [Section 188(3)]:

Related party transaction entered into by a director or any other employee shall be voidable at the option of the Board/shareholders, if:

• It is entered into without consent by BR at BM or OR in GM; and
• It is not ratified by the Board/shareholders at a meeting within 3 months from transaction date.

If the contract or arrangement is with a related party to any director, or is authorised by any other director, the directors concerned shall indemnify the company against any loss incurred by it.

Recovery of Loss in Related Party Transaction [Section 188(4)]:

The company may proceed against related director or other employee for contravention of section 188 to recover any loss sustained by it as a result of related party transactions.

Punishment for Contravention [Section 188(5)]:

Any director or any other employee of a company, who had entered into or authorised the contract or arrangement in violation of the provisions of section 188 shall, —

(i) In case of Listed Company:

1. Jail up to 1 year; or
2. Min fine of ₹25,000 and Max fine ₹5,00,000; or
3. Both.

(ii) In case of any other company minimum fine of ₹25,000 and maximum fine of ₹5,00,000.

As per Section 164(1)(g), the director convicted u/s 188 shall be disqualified for 5 years for appointment as a director of a company. Further, the disqualified directors must vacate the office in compliance with section 167 and if he not vacate the office then he shall be punishable with imprisonment up to 1 year or minimum fine of ₹1,00,000 and maximum fine of ₹5,00,000 or both.

Section 188 of Companies Act 2013: Related party transactions

Section 188 shall come into force on 1st April, 2014 vide Notification No. S.O. 902(E) issued dated 27.03.2014.

(1) Except with the consent of the Board of Directors given by a resolution at a meeting of the Board and subject to such conditions as may be prescribed, no company shall enter into any contract or arrangement with a related party with respect to—

• (a) sale, purchase or supply of any goods or materials;
• (b) selling or otherwise disposing of, or buying, property of any kind;
• (c) leasing of property of any kind;
• (d) availing or rendering of any services;
• (e) appointment of any agent for purchase or sale of goods, materials, services or property;
• (f) such related party’s appointment to any office or place of profit in the company, its subsidiary company or associate company; and
• (g) underwriting the subscription of any securities or derivatives thereof, of the company:

Provided that no contract or arrangement, in the case of a company having a paid-up share capital of not less than such amount, or transactions not exceeding such sums, as may be prescribed, shall be entered into except with the prior approval of the company by a resolution:

Provided further that no member of the company shall vote on such resolution, to approve any contract or arrangement which may be entered into by the company, if such member is a related party:

Provided also that nothing contained in the second proviso shall apply to a company in which ninety per cent. or more members, in number, are relatives of promoters or are related parties:

Provided also that nothing in this sub-section shall apply to any transactions entered into by the company in its ordinary course of business other than transactions which are not on an arm’s length basis.

Provided also that the requirement of passing the resolution under first proviso shall not be applicable for transactions entered into between a holding company and its wholly owned subsidiary whose accounts are consolidated with such holding company and placed before the shareholders at the general meeting for approval.

Explanation: In this sub-section, —

• (a) the expression “office or place of profit” means any office or place—
  • (i) where such office or place is held by a director, if the director holding it receives from the company anything by way of remuneration over and above the remuneration to which he is entitled as director, by way of salary, fee, commission, perquisites, any rent-free accommodation, or otherwise;
  • (ii) where such office or place is held by an individual other than a director or by any firm, private company or other body corporate, if the individual, firm, private company or body corporate holding it receives from the company anything by way of remuneration, salary, fee, commission, perquisites, any rent-free accommodation, or otherwise;
• (b) the expression “arm’s length transaction” means a transaction between two related parties that is conducted as if they were unrelated, so that there is no conflict of interest.

(2) Every contract or arrangement entered into under sub-section (1) shall be referred to in the Board’s report to the shareholders along with the justification for entering into such contract or arrangement.

(3) Where any contract or arrangement is entered into by a director or any other employee, without obtaining the consent of the Board or approval by a resolution in the general meeting under sub-section (1) and if it is not ratified by the Board or, as the case may be, by the shareholders at a meeting within three months from the date on which such contract or arrangement was entered into, such contract or arrangement shall be voidable at the option of the Board or, as the case may be, of the shareholders and if the contract or arrangement is with a related party to any director, or is authorised by any other director, the directors concerned shall indemnify the company against any loss incurred by it.

(4) Without prejudice to anything contained in sub-section (3), it shall be open to the company to proceed against a director or any other employee who had entered into such contract or arrangement in contravention of the provisions of this section for recovery of any loss sustained by it as a result of such contract or arrangement.

(5) Any director or any other employee of a company, who had entered into or authorised the contract or arrangement in violation of the provisions of this section shall, —

• (i) in case of listed company, be punishable with imprisonment for a term which may extend to one year or with fine which shall not be less than twenty-five thousand rupees but which may extend to five lakh rupees, or with both; and
• (ii) in case of any other company, be punishable with fine which shall not be less than twenty-five thousand rupees but which may extend to five lakh rupees.

Exception/ Modification/ Adaptation:

1) First and second proviso to sub-section (1) of section 188 shall not apply to —

• (a) a Government company in respect of contracts or arrangements entered into by it with any other Government company;
• (b) a Government company, other than a listed company, in respect of contracts or arrangements other than those referred to in clause (a), in case such company obtains approval of the Ministry or Department of the Central Government which is administratively in charge of the company, or, as the case may be, the State Government before entering into such contract or arrangement. –Notification No. G.S.R. 463(E) dated 5th June, 2015.

2) In case of Private company, second proviso to sub-section (1) of section 188 shall not apply. – Notification No. G.S.R. 464(E) dated 5th June, 2015.

3) In case of a Specified IFSC public company, second proviso to subsection (1) of section 188 shall not apply. –Notification No. G.S.R. 08(E) dated 4th January, 2017.