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What Is a Related-Party Transaction?
Related party transactions, as defined by the Companies Act 2013, involve business dealings between a company and its affiliated entities or individuals. These transactions can raise worries about conflicts of interest and have significant financial implications for the company. To ensure transparency and avoid legal issues, understanding and complying with the regulations governing related party transactions is essential.
What is Related-Party Transaction?
A related party transaction is any transaction, contract, or arrangement that falls under the scope of:
- Section 188 of the Companies Act, 2013
- Indian Accounting Standard (IND AS) 24 as notified by the Central Government
In simpler terms, these are transactions that occur between two parties who are connected to each other. This connection can be through common ownership, control, or influence. Examples of related parties include individuals, companies, or entities.
To maintain transparency and accountability, regulations and accounting standards typically mandate that companies disclose the nature and extent in detail of related party transactions in their financial statements. In India, Section 188 of the Companies Act 2013 provides specific guidelines and regulations for such transactions.
What is Related Party U/S Section 2(76) of Companies Act, 2013)?
A "related party" of a company refers to:
- A director or their relative
- A key managerial personnel or their relative
- A firm where a director, manager, or their relative is a partner
- A private company where a director, manager, or their relative is a member or director
- A public company where a director or manager is a director and, together with their relative, holds more than 2% of the paid-up share capital.
- Any corporate entity whose board of directors, managing director, or manager routinely acts on the directions of a director or manager
- Any person whose directions a director or manager is accustomed to act on (unless the person is giving advice or directions in a professional capacity)
- Any company that is a holding, subsidiary, or associate company of the company, or a subsidiary of a holding company to which it is also a subsidiary, or an investing company or a venture company
- Any other person as may be prescribed.
Table Summarizing Categories of Related Parties
| Category | Description |
|---|---|
| Family Relationships | |
| Director or their relative | A person who is directly or indirectly related by blood, marriage, or adoption to a director. |
| Key managerial personnel or their relative | A person who is directly or indirectly related by blood, marriage, or adoption to a key managerial personnel. |
| Business Associations | |
| Firm where a director, manager, or their relative is a partner | A partnership firm in which a director, manager, or their relative has a stake. |
| Private company where a director, manager, or their relative is a member or director | A private company in which a director, manager, or their relative has a significant ownership interest. |
| Public company where a director or manager is a director and, together with their relative, holds more than 2% of the paid-up share capital | A public company in which a director or manager, along with their relative, has a significant ownership interest. |
| Influence and Control | |
| Any corporate body whose board of directors, managing director, or manager habitually follows the directions of a specific director or manager | An entity that is effectively controlled by a company's directors or managers. |
| Any person whose directions a director or manager is accustomed to act on | An individual who has significant influence over a company's directors or managers. |
| Corporate Relationships | |
| Any company that is a holding, subsidiary, or an associate company of such company | Companies that are directly or indirectly connected through ownership or control. |
| Any other person as may be prescribed | Other individuals or entities that may be designated as related parties by the government or regulatory authorities. |
What transactions are included under related party transactions?
Before entering into any related party transaction, it is mandatory to get prior approval from the board of directors. If the value of the transactions exceeds a specific threshold (mentioned in the table below), the shareholder’s approval is also needed. Details of the transactions should also be disclosed in the company’s financial statement.
Summary of transactions requiring Board Resolution and prior approval for related party transactions
| S. No. | Transactions as per Companies Act | Prior approval through an Ordinary Resolution is required for related party transactions, as per Rule 15 of the Companies (Meeting of Board and its Powers) Rules, 2014. |
|---|---|---|
| 1. | Sale, purchase or supply of any goods or material, directly or through appointment of agent | Equal to or exceeding ten percent of the company’s turnover |
| 2. | Directly selling, purchasing, or disposing of property of any kind, either personally or through the appointment of an agent. | Equal to or exceeding ten percent of the company’s turnover |
| 3. | Leasing of property of any kind | Equal to or exceeding ten percent of the company's turnover. |
| 4. | Directly availing or providing services, either personally or through an appointed agent. | Equal to or exceeding ten percent of the company's turnover. |
| 5. | Appointment to any position or office of profit within the company, its subsidiary, or its associate company. | With a monthly remuneration surpassing two and a half lakh rupees. |
| 6. | Compensation for underwriting the subscription of any securities or their derivatives issued by the company | Exceeding one percent of the net worth |
Regulatory Framework for Related Party Transactions under SEBI Clause 49
SEBI Clause 49 establishes specific regulatory requirements for related party transactions. It defines a related party transaction as any transfer of services, resources, or obligations between a company and a related party. This definition extends beyond the scope of the Companies Act 2013, including close family members of directors or key managerial personnel and private companies where directors or key managerial personnel, along with their relatives, have significant influence.
All material-related party transactions require shareholder approval through a special resolution. Additionally, related parties are prohibited from voting on such resolutions. This ensures that the interests of minority shareholders are protected and prevents potential conflicts of interest.
