Related Party Transactions

The enactment of the Companies Act, 2013 is leading towards a new era in the Indian corporate sectors, which places more reliance on disclosure norms rather than on regulatory framework. One such area is ‘Related Party Transaction’. The whole concept of the related party transaction has been encapsulated in a single section 188 of the Companies Act 2013. In this article, we will look at Related Party Transactions under the Companies Act, 2013 in detail.

Applicability of Section 188

Section 188 of Companies Act, 2013 applies to both private and public companies and is applicable with effect from April 2014.

Related Party

The term 'Related Party' concerning a Companies Act, 2013 is explained as follows:

A Director or his/her relative.
Key managerial personnel or his/her relative.
A company where a director, manager or relative is a partner.
A public firm in which a director or manager is a director or holds, along with his relative, more than two percent of its paid-up share capital.
A private firm where a director or manager is a member or director.
Any corporate whose board of directors, managing director or manager follows the advice or directions of a director or manager.
Any person on whose advice or instructions a director or manager typically acts according to the Companies Act.
A firm which is a holding, subsidiary, or associate company of such a company.
A director or crucial managerial staff of the holding, subsidiary or associate firm of such a company or his relative.
Any company which is a subsidiary of a holding company to which it is also the subsidiary.
Personnel appointed by senior management in the company or its holding, subsidiary or associate company, excluding the Board of Directors but including all members of management one level below the executive directors, including functional heads.

Related Party Transactions

The following transactions between a company and its related party are considered related party transactions.

Sale, purchase or supply of any materials or goods.
Availing or rendering of any service.
Selling or buying property of any kind.
Leasing of the property of any kind.
Appointment of an agent for the sale or purchase of goods, materials, service, or property.
Related party’s appointment to the place of profit or office in the company, associate and subsidiary.
Company underwriting the subscription of any securities or derivatives of the firm.

Exemption

The above-mentioned conditions do not apply to transactions entered into by a company in its ordinary course of business conducted on an arm's length basis. An arm’s length transaction refers to a transaction between two related parties conducted as if they were unrelated, ensuring no conflict of interest exists. In such cases, the agreement responsibility lies with the parties entering the agreement, ensuring that the transactions come within the purview of an arm`s length basis.

Nature of Approval Required

As per the Companies Act, 2013, every company needs to seek the approval of the Board of Directors before entering into any related party transactions, regardless of its capital. Such a resolution must be obtained at a board of directors meeting. According to the Companies (Meeting of the Board and its Powers) Rules 2014, a director interested in a contract with a related party must not be present at the meeting during discussions concerning the contract or arrangement.

Need for Special Approval

For the following transactions, in addition to the Board of Directors approval, prior permission from members by special resolution is required before entering into related party transactions if the company has a paid-up share capital of ten crores or more:

Purchase, sale or supply of any materials or goods directly or through agents exceeding twenty percent of annual turnover.
Selling or disposing of any property directly or through agents exceeding ten percent of the net worth.
Leasing property of any kind exceeding ten percent of the net worth.
Availing or rendering services directly or through agents exceeding ten percent of the net worth.
Remuneration for underwriting the subscription of any securities or derivatives exceeding one percent of the net worth.
For Special Resolutions in an extraordinary general meeting, no company member who is a related party will vote on such resolutions, intended to approve any arrangement the firm may enter into. For a wholly-owned subsidiary, a special resolution passed by the holding company is adequate for transactions between the wholly-owned subsidiary and the holding company.

Disclosure Norms

Disclosure norms under the Companies Act, 2013 are detailed below:

Board Meeting

According to the Companies Act provisions, the board meeting agenda in which a resolution is to be passed should include the following information:

Name and nature of relationships with the related party.
The duration of the contract.
Material terms of the arrangement or contract.
Any advance paid or received for the arrangement.
The manner of determining the price and commercial terms, both part of the contracts.
Any other relevant or vital transaction the board may undertake.

Disclosure by Interested Directors

Every director with any direct or indirect interest involved in a contract or arrangement must disclose their concern at the board meeting discussing such contract or arrangement.

Board Disclosures

Every related party transaction must be disclosed in the board’s report, along with the justification for entering into the contract or arrangement.

Disclosures in the Register

Companies must maintain one or more registers in MBP 4 and enter the contract particulars with a related party concerning transactions specified in the Companies Act, 2013.

Audit

According to the Companies Act, 2013, the audit committee must approve or modify transactions with the related party as per the act's provisions. The committee has the authority to investigate matters within its scope and access the company’s records.

Non Compliance

If a director or employee enters into a contract without board consent or special resolution approval in the general meeting, the contract will be treated as voidable. Such directors or employees violating the Companies Act provisions will be punishable with up to one year of incarceration, a fine ranging from twenty-five thousand to five lakh rupees, or both. Other firms face a fine of twenty-five thousand to five lakh rupees.

For more information on related compliance and registration processes, you can visit our guide on company registration in Muzaffarnagar or learn about the basics of GST for compliance purposes. To ensure a comprehensive understanding, reading about the central goods and services tax amendments is also beneficial.

Companies involved in trading can explore the advantages of start-up initiatives in Muzaffarnagar, which align with our topic, as start-ups often need to navigate related party transactions.

Moreover, companies dealing in food products should consider securing a Tatkal FSSAI license for timely compliance and business operations.

Back to Learn

Frequently Asked Questions

Common questions about Related Party Transactions Compliance Under Companies Act 2013.

A related party transaction is a transaction between a company and its related parties, such as directors, key managerial personnel, or entities in which they have a significant interest. These transactions can involve the sale or purchase of goods, services, or property, leasing arrangements, or other financial dealings.

Section 188 of the Companies Act, 2013 applies to both private and public companies in India, and it has been in effect since April 2014. This section deals with the regulations and approval requirements for related party transactions.

Related party transactions can include the sale or purchase of goods, materials, or property; availing or rendering services; leasing property; appointing agents for the purchase or sale of goods or services; appointing related parties to office or places of profit in the company; and underwriting the subscription of securities or derivatives.

Yes, transactions entered into by a company in its ordinary course of business and on an arm's length basis (meaning the terms are fair and comparable to those in unrelated party transactions) are exempt from the approval requirements of Section 188.

All related party transactions require the approval of the Board of Directors, obtained through a resolution at a board meeting. Additionally, for certain transactions exceeding specified thresholds based on the company's turnover or net worth, prior approval from shareholders through a special resolution is also required.

Companies must disclose the names and relationships of related parties, the nature and duration of contracts, material terms and pricing, and any other relevant details in the agenda of the board meeting where the transaction is discussed. Directors with an interest in the transaction must also disclose their interest.

Yes, all related party transactions must be disclosed in the Board's report, along with justifications for entering into the transactions. Companies must also maintain a register containing particulars of related party contracts and transactions.

If a related party transaction is entered into without obtaining the required approvals, the contract can be deemed voidable. Additionally, the directors or employees involved may face penalties, including imprisonment for up to one year or a fine ranging from Rs. 25,000 to Rs. 5 lakh, depending on the nature of the violation.

Yes, the Audit Committee is empowered to approve or modify related party transactions and to investigate matters within its scope. The committee must also have full access to the company's records for this purpose.

Yes, the Companies Act, 2013 requires the Audit Committee to scrutinize related party transactions to ensure compliance with the provisions of the Act. This acts as an additional layer of oversight and governance for such transactions.