Loan by a Private Limited Company to its Director or Guarantee by Private Limited Company for the loan taken by its directors or other company

The issue is dealt with by section 185 of the Companies Act.

Under Section 185(1) a company cannot advance any loan, including any loan represented by a book debt to, or give any guarantee or provide any security in connection with any loan taken by any director of company.

However, there is a relaxation provided by Notification dated G.S.R 464(E) 5th June, 2015 which provides that Section 185 is not applicable to Private Companies if the below mentioned conditions are satisfied:

1. Any Body Corporate has not invested in the share capital of such company
2. Private company’s borrowings from banks/Public Financial Institutions/Bodies Corporate is less than twice of its Paid up Share capital or 50 crores whichever is lower
3. That Private company has not defaulted in Repayment of such outstanding borrowings as at the time of making the transaction u/s 185(1) by that Private company

As a result of above beneficial notification, a Private Company satisfying above conditions can advance loan or give Guarantee to the Bank in respect of loan taken by Director of such Private Company.

However, there is another provision, section 186 which also need to be read with section 185 for better understanding of the provisions.

Section 186- Loan and Investment by Company

Under Section 186 a company cannot give any loan or guarantee or provide security in connection with a loan to any other body corporate or person exceeding 60% of its paid-up share capital, free reserves and securities premium account or 100% of its free reserves and securities premium account, whichever is more

There is a Legal Requirements if the limit exceeds above, as under:

  1. Approval of Board
  2. Approval of the members by passing Special Resolution
  3. Approval of PFI [Provided that prior approval of a public financial institution shall not be required where the aggregate of the loans and investments so far made, the amount for which guarantee or security so far provided to or in all other bodies corporate, along with the investments, loans, guarantee or security proposed to be made or given does not exceed the limit as specified in sub-section (2), and there is no default in repayment of loan installments or payment of interest thereon as per the terms and conditions of such loan to the public financial institution.]
  4. Rate of interest (In case of Loans interest shall not be less than prevailing yield of Government Security at that point)
  5. Disclosures to be given in financial statements.
  6. Keep a Register of Loan/ Guarantee/Security.

In short, after complying with stipulated terms and conditions, company can advance loan to Director or give Guarantee to the Bank in respect of loan taken by Director of such Private Company.

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