Related Party Transactions

A company enters into various contracts, transactions, and deals on a regular basis. The larger the size of a company, the greater is the volume of contracts and transactions entered by it. Every contract entered attracts certain legal provisions to be complied with by the parties to such a contract. In the case of corporate contracts, primarily the provisions of Indian Contract law and the Indian Company law have to be complied with for bringing such contracts to effect.

There might be instances, where the parties to the company’s contracts or transactions may also have personal interests in the company or hold key positions in that company itself. If such contracts are not sufficiently regulated by law, it might encourage a lot of unfair practices on the part of the company thereby affecting both the company’s and shareholders’ interests. Transactions with such persons are termed as related party transactions.

One must remember that the related party transactions are not disallowed in their entirety. It is only that such transactions have to be in conformity with the provisions of the Indian Company Law.    

We shall now understand the legal definition of a related party, the relevant legal provisions, and the penalty for non-compliance.

Related party:

Of the following persons, all or any of them shall be considered as a related party to a company:

(a) the company’s director or his relative.

(b) A key managerial personnel (KMP) of such company or his relative.

(c) A firm in which the company’s director or manager is a partner.

(d) A private company in which the company’s director or manager or his relative is a member or director.

(e) A public company in which the company’s director holds more than 2% of paid-up share capital of such public company along with his relatives.

(f) Any body corporate whose Board of Directors acts on the basis of advice, instructions, and directions, not being in a professional capacity, given by the director or manager of the said company.

(g) Any person on whose advice, directions, or instructions, not being in a professional capacity, the director or manager of the company shall act.

(h) Any body corporate which is a holding, subsidiary, further subsidiary, or associate company of the said company or if the said company is an associate of such body corporate.

Legal provisions applicable to related party transactions:

A company can enter into the following contracts or arrangements with its related parties only with the prior consent of the Board of Directors. The Board shall give approval to the following transactions by passing a resolution to that effect in the Board meeting. These transactions are:

(i) to sell, purchase, or supply any goods or materials;

(ii) to buy, sell or dispose of any kind of property;

(iii) to lease any kind of property;

(iv) to render or avail any services;

(v) to appoint any agent for any of the above activities;

(vi) to appoint any related party to any office or place of profit either in the company or its holding company, subsidiary, or associate company;

(vii) to underwrite the subscription of any securities of the company.

If any of the above contracts or arrangements exceeding the prescribed amounts are entered, then the prior approval shall be obtained by passing a resolution in the company’s general meeting.

If any member who is a related party to a contract or arrangement of the company and if such a transaction is presented for approval at the company’s meeting, then the member who is a related party for such transaction shall not have the right to vote for passing the resolution.

The above rule shall not apply to a private limited company.

If 90% or more of the members of a company are relatives of promoters or are related parties, then also the above rule shall not apply.

None of the above provisions shall apply if the transactions with related parties are on an arm’s length basis.

Every related party transaction entered by the company shall be disclosed in the company’s Board’s Report addressing the shareholder along with a valid justification for entering into such transactions.

Any of the above-related party transactions entered without the prior consent of the Board or the shareholders and if they are not ratified by the Board or the shareholders within 3 months from the transaction date such contract shall be considered voidable. If the related party is related to a company’s director, then such a director shall indemnify the company in case of any losses incurred due to such a transaction.

Penalty for contravening the above provisions:

In the case of a listed company, its directors or employees who had authorized or entered into such transaction in violation of the law shall be liable to a penalty of 25 lakhs.

In case of any other company, the directors or employees authorizing the transactions in violation of the law shall be liable for a penalty of 5 lakhs.

Exemptions from the above provisions are also available to Government companies in the manner provided by the company law.    

This Article Does Not Intend To Hurt The Sentiments Of Any Individual Community, Sect, Or Religion Etcetera. This Article Is Based Purely On The Authors Personal Views And Opinions In The Exercise Of The Fundamental Right Guaranteed Under Article 19(1)(A) And Other Related Laws Being Force In India, For The Time Being. Further, despite all efforts that have been made to ensure the accuracy and correctness of the information published, White Code Legal and Tax shall not be responsible for any errors caused due to human error or otherwise.