The promoter of a profitable private limited company needed ₹50 lakhs for a personal real estate transaction. His CA suggested routing it through the company — a short-term loan, to be repaid in three months. The resolution was passed in a board meeting. The funds were transferred the next day. Six months later, during a Registrar of Companies inspection, the transaction came to light. The penalty: ₹5 lakhs on the company, ₹5 lakhs on every officer in default, a mandatory return of the funds with interest, and a qualification in the statutory auditor’s report that followed the company — and its directors — for years.
Section 185 of the Companies Act, 2013 is one of the most violated sections in Indian corporate law — and one of the most unforgiving.
What Section 185 Prohibits
Section 185 prohibits a company from, directly or indirectly, making any loan, giving any guarantee, or providing any security in connection with a loan to:
- Any director of the company or its holding company
- Any partner or relative of a director
- Any firm in which a director or relative is a partner
- Any private company in which a director is a director or member
- Any body corporate whose board is accustomed to act in accordance with the directions of the company’s board or directors
The word “indirectly” is load-bearing. Routing a loan through a subsidiary, a trust, or a friendly company — and ultimately benefiting a director — has been held to violate Section 185 by the NCLT in multiple cases.
The 2018 Amendment: Exceptions That Are Narrower Than They Look
The Companies (Amendment) Act 2017 introduced Section 185(2) with three narrow exceptions: loans to managing directors or whole-time directors as part of service conditions, loans approved by special resolution (75% vote), and loans given in ordinary course of business by a company that lends money as its principal business. Each exception has conditions that are strictly interpreted.
In In re: Rajesh Exports Ltd (NCLT Bengaluru, 2022), the company argued that a loan to a whole-time director was part of his emoluments package. The NCLT held that emoluments-based loans require the terms to be in a board-approved service contract — a post-hoc resolution ratifying the payment did not qualify.
Three Practical Takeaways
- Never use the company’s bank account as a personal float. Even a temporary transfer — “I’ll return it in a week” — is a Section 185 violation the moment it is made. There is no de minimis exemption and no retrospective cure.
- The special resolution route requires genuine shareholder approval. A special resolution for a director loan must be passed at a properly convened general meeting with proper notice. A circular resolution will not suffice — Section 185(2) does not permit loans by circular resolution.
- Get the statutory auditor on board before the transaction, not after. Section 185 violations must be reported by auditors under CARO 2020. A proactive conversation before the transaction — where the auditor either clears it or flags the risk — is far better than a qualification in the audit report.
Quick Quiz
A private limited company passes a special resolution approving a ₹25 lakh loan to its whole-time director at 12% per annum. The director holds 60% equity. Is this transaction valid under Section 185(2)?
A) Yes — special resolution cures all requirements B) No — a director who holds 60% equity cannot vote in a special resolution approving their own loan C) Yes — whole-time directors are exempt from Section 185 D) No — Section 185 does not permit loans to directors under any circumstances