Sudden prohibition for CA Valuers

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By Yutika Lohia, (yutika@vinodkothari.com) (finserv@vinodkothari.com)

Introduction

The income tax laws of our country have witnessed a lot vicissitudes over the years. Responding to the changing reforms as well as practices, the law makers have always tried to pace up with the dynamic economy. Chartered Accountants, in India, are widely accepted as tax professionals and in that capacity they play a very important role in the comprehending the income tax laws for the commoners. But a recent change by the IT Department would certainly not please the CA fraternity in the country. Read more →

Financial Exposure of Secured Creditors and The relevance of vertical comparison in Resolution

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By Richa Saraf (richa@vinodkothari.com)

Resolution process can be regarded as a mega- restructuring for which an insight into the ranking of claims of various creditors is pertinent. In most of the resolution plans, we can see that the financial creditors are paid a particular value as settlement of claims, and no specific provision exists as to how this amount is to be proportioned amongst various secured and unsecured creditors, or if there will be any priority at all. Most of us are of the understanding that any priority under Section 53 is available only in the case of liquidation, and law does not stipulate for any preferential treatment between the claims of secured and unsecured during resolution process, yet it is a well-established principle that while resolving an entity, the creditors of that entity shall not be put in a situation worse than what would have been in case the entity were to be liquidated (or else, there would be no point in resolving the entity). A comparison between a creditor’s entitlement in the resolution plan and in a hypothetical liquidation is referred to as “vertical comparison”.

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Additional items to be taken up in AGM of 2018- recent regulatory changes!

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By Munmi Phukon, Principal Manager, Vinod Kothari & Company (corplaw@vinodkothari.com)

MCA vide notification dated May 7, 2018[1] has notified 28 Sections of the Companies (Amendment) Act, 2017 (Amendment Act) in Phase III. The same has been made effective from May 7, 2018[2]. SEBI also, pursuant  to  the  recommendations  made  by  Uday  Kotak  Committee  Report,  notified the SEBI (Listing Obligations and Disclosure Requirements) (Amendment)  Regulations,  2018  (Amendment  Regulations)  on  May  9,  2018. Though the amended sections of the Amendment Act are effective immediately, the applicability of the Amendment Regulations are not immediate but shall be on specific dates provided for specific regulation. The reason behind providing such different applicable dates can be taken as to provide a smooth transitioning period so that the amendments can be complied with or proper mechanism can be put in place before the same comes into force. In view of the same, the companies are required to take up certain actions with immediate effect including obtaining approval of the shareholders. Since the companies are planning to convene their AGMs of FY 2017-18 in next few months, this article covers what all additional items may be taken up to such AGM in view of the recent regulatory changes as aforesaid.

A.     Additional matters under the Companies (Amendment) Act, 2017

In view of the amendment Notification, the following additional matters may be taken up in the AGM 2018:

  1. Considering the amendments made in Section 185, the companies may seek approval of shareholders by way of a special resolution in the ensuing AGM if it is intending to provide 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 following persons/ entities:
  • any private company of which any such director is a director or member;
  • any body corporate at a general meeting of which not less than twenty five per cent. of the total voting power may be exercised or controlled by any such director, or by two or more such directors, together; or
  • any body corporate, the Board of directors, managing director or manager, whereof is accustomed to act in accordance with the directions o instructions of the Board, or of any director or directors, of the lending company

The explanatory statement to the notice shall disclose the full particulars of the loans given, or guarantee given or security provided and the purpose for which the loan or guarantee or security is proposed to be utilised by the recipient of the loan or guarantee or security and any other relevant fact. Please note the amendment shall not affect the private companies covered under the MCA Notification dated 5th June, 2015 providing exceptions/ exemptions from applicability of certain provisions of the Act.

  1. The companies may further remove the item pertaining to ratification of the appointment of the statutory auditors in view of the omission of the proviso to section 139(1) of the Act.

B.     Additional matters under the Amendment Regulations

In view of the proposed amendments in the Listing Regulations, the following additional matters seem to get included in the notice of the ensuing AGM 2018:

  1. In terms of Regulation 17 (1) (a), the listed companies shall have to appoint woman independent director. Though the requirement was already there in the Act as well as the Listing Regulations earlier, however, the same was limited to only a woman director and such director was not necessarily required to be an independent director too. Therefore, companies having a non- independent woman director shall be required to take up the same in the AGM. The amendment shall be applicable based on the market capitalization of the company i.e. if the company falls under top 500 listed entities then the same shall be effective from April 1, 2019 and if it falls under top 1000 listed entities then w.e.f. April 1, 2020.
  2. Regulation 17 (1) (c) requires top 1000 listed entities to have minimum 6 directors w.e.f. April 1, 2019 and top 2000 listed entities w.e.f. April 1, 2020. Though most of the listed entities shall already be in compliance of this requirement, however, the ones who have 5 or lesser number of directors will be required to appoint in the current FY if such listed entity falls in the list of top 1000 entities.
  3. Regulation 17 (6) (ca) provides the requirement to obtain approval of shareholders by special resolution every year, in  which  the  annual  remuneration payable  to  a  single  non-executive  director exceeds fifty per cent of the total annual remuneration payable to all non-executive directors, giving details of the remuneration thereof. Since the clause uses the  word  ‘payable’,  it seems to indicate  that  listed  entities  who  will  have  payable  to single  NED annual remuneration for FY 2018-19 exceeding 50% of that payable to all other NEDs. Therefore, such listed entities will have to obtain shareholders’ approval by special resolution every year. Since the provision is effective from April 1, 2019, if there is a certainty on the same, the approval shall be obtained in AGM 2018 itself enabling it to make payment to such NEDs for FY 2018-19.
  4. Regulation 17 (1A) requires a special resolution for appointing/ continuing the directorship of any person  as  a  non-executive  director  who  has  attained  the  age of  seventy five  The explanatory statement annexed to the notice for such motion shall indicate the justification for appointing such a person. The provisions shall be effective from April 1, 2019 and also applicable to all listed entities. Since the provision includes continuation of the directorship also, in  case  the  NEDs/  IDs  of  such  listed  entities  are  individuals  who  have already attained the age of seventy  five years or will be attaining the age before April 1, 2019, such listed entities will have to seek approval of shareholders by special resolution in the ensuing AGM itself .
  5. In terms of Regulation 17 (6) (e), if the fee or compensation  payable  to  executive  directors  who  are  promoters  or  members  of promoter group is in excess of the thresholds i.e. rupees 5 crore or 2.5% of the net profits for one such director, whichever is higher and 5% of the net profit in aggregate for all such directors, then the listed entity shall have to obtain approval of shareholders by special resolution. Since the same is effective from April 1, 2019, the approval shall be obtained in the ensuing AGM itself enabling the company to pay remuneration to that extent for FY 2018-19. The listed entities which had already taken approval of the shareholders for payment of remuneration within the limits provided under the Act shall also get covered under this clause if the resolution so passed was not a special resolution.

Apart from the aforesaid, we have separately covered the actionables arising out of the aforesaid amendments. The actionables arising out of the Companies (Amendment) Act, 2017 can be viewed at http://vinodkothari.com/blog/actionables-from-28-notified-sections/ and the actionables arising out of the Amendment Regulations can be viewed at http://vinodkothari.com/blog/actionables-for-lodr-amendment-regulations-2018/.

 

[1] http://www.mca.gov.in/Ministry/pdf/CompaniesAmendmentNoti_07052018.pdf

[2] http://egazette.nic.in/WriteReadData/2018/185193.pdf

GST on Securitisation Transactions

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Nidhi Bothra

Sikha Bansal

finserv@vinodkothari.com

Transitioning into GST, assessing its impact on business and taking appropriate measures to bring about tax neutrality/ efficiency are the prime concern for all and sundry. GST also has an impact on the securitisation transactions in India which now happens to be Rs. 84,000 crores odd industry. In this Chapter we are broadly trying to deal with GST impact on securitisation of standard as well as non-performing assets and its various facets.

In India, securitisation is undertaken through the PTC route (issuance of pass-through certificates or direct assignments. The distinction is not relevant when we talk about securitisation of non-performing assets through asset reconstruction companies.

A.  GST implications on PTC transactions

The implications of GST will have to be mulled over at each stage of the securitisation  transaction. A securitisation transaction will have the following facets:

  1. Assignment of receivables by the originator to an SPV
  2. SPV acquiring receivables on discount
  3. SPV issuing PTCs to investors and servicing PTCs over the term
  4. Originator receives servicing fees for collections/ recovery of receivables
  5. Originator receives excess interest spread (EIS) in the transaction after servicing of the investors with the receivables collected.

There is one more issue of whether the SPV will be considered as a related person as defined under the CGST Act.

Below is a detailed analysis.

i.          Requisites of Taxability under GST

Section 9 of the CGST Act provides for levy and collection of CGST on all intra-State supplies of goods or services or both.

Hence, there must be “goods” or “services” or “both”, and the same shall be supplied.

“Goods” are defined in section 2(52) as –

“(52) “goods” means every kind of movable property other than money and securities but includes actionable claim, growing crops, grass and things attached to or forming part of the land which are agreed to be severed before supply or under a contract of supply;”

“Services” are defined in section 2(102), as –

““services” means anything other than goods, money and securities but includes activities relating to the use of money or its conversion by cash or by any other mode, from one form, currency or denomination, to another form, currency or denomination for which a separate consideration is charged;”

Money, is therefore, excludible from the scope of “goods” as well as “services”.

Section 7 details the scope of the expression “supply”. According to the section, “supply” includes “all forms of supply of goods or services or both such as sale, transfer, barter, exchange, licence, rental, lease or disposal made or agreed to be made for a consideration by a person in the course or furtherance of business.” However, activities as specified in Schedule III of the said Act shall not be considered as “supply”.

It may be noted here that “Actionable claims, other than lottery, betting and gambling” are enlisted in entry 6 of Schedule III of the said Act; therefore are not exigible to GST.

The discussion below studies the nature of “receivables” and seeks to determine whether assignment of receivables will be treated as a supply of goods or services within the purview of the GST law.

Nature of “Receivables”

There is no doubt that a “receivable” is a movable property. “Receivable” denotes something which one is entitled to receive. Receivable is therefore, a mirror image for “debt”. If a sum of money is receivable for A, the same sum of money must be a debt for B. A debt is an obligation to pay, a receivable is the corresponding right to receive.

A “debt” is a sum of money which is now payable or will become payable in the future by reason of a present obligation, depitum in praesenti, solvendum in future.  See, Web v. Stendon, (1883) 11 Q.B.D. 518, 572; Kesoram Industries and Cotton Mills Ltd. v. CWT, 1966 AIR 1370 : 1966 SCR (2) 688.

Coming to the definition of “money”, it has been defined under section 2(75) as follows –

“money” means the Indian legal tender or any foreign currency, cheque, promissory note, bill of exchange, letter of credit, draft, pay order, traveller cheque, money order, postal or electronic remittance or any other instrument recognised by the Reserve Bank of India when used as a consideration to settle an obligation or exchange with Indian legal tender of another denomination but shall not include any currency that is held for its numismatic value.”

The definition above enlists all such instruments which have a “value-in-exchange”, so as to represent money. A debt also represents a sum of money and the form in which it can be paid can be any of these forms as enlisted above.

So, in effect, a receivable is also a sum of “money”. As such, receivables shall not be considered as “goods” or “services” for the purpose of GST law.

ii.  Receivables vis-à-vis Actionable Claims

As mentioned earlier, “actionable claims” have been included in the definition of “goods” under the CGST Act, however, any transfer (i.e. supply) of actionable claim is explicitly excluded from being treated as a supply of either goods or services for the purpose of levy of GST.

Section 2(1) of the CGST Act defines “actionable claim” so as to assign it the same meaning as in section 3 of the Transfer of Property Act, 1882, which in turn, defines “actionable claim” as –

“actionable claim” means a claim to any debt, other than a debt secured by mortgage of immovable property or by hypothecation or pledge of movable property, or to any beneficial interest in movable property not in the possession, either actual or constructive, of the claimant, which the civil courts recognise as affording grounds for relief, whether such debt or beneficial interest be existent, accruing, conditional or contingent;”

It may be noted that the inclusion of “actionable claim” is still subject to the exclusion of “money” from the definition of “goods”. The definition of actionable claim travels beyond “claim to a debt” and covers “claim to any beneficial interest in movable property”. Therefore, an actionable claim is definitely more than a “receivable”. Hence, if the actionable claim represents property that is money, it can be held that such form of the actionable claim shall be excluded from the ambit of “goods”.

There are views which, on the basis of the definition above, distinguish between — (a) a debt secured by mortgage of immovable property, and a debt secured by hypothecation/pledge of movable property on one hand (which are excluded from the definition of actionable claim); and (b) an unsecured debt on the other hand. However, the author opines that a debt, whether secured or unsecured, is after all a “debt”, i.e. a property in money; and thus can never be classified as “goods”. Therefore, the entire exercise of making a distinction between secured and unsecured debt may not be relevant at all.

In case it is argued that a receivable which is secured (i.e. a secured debt) shall come within the definition of “goods”, it must be noted that a security granted against a debt is merely a back-up, a collateral against default in repayment of debt.

iii.   Assignment of receivables as “Supply”

Though, the fact that a debt is merely a representation of “money” and therefore there is no question of any “supply” under the GST law, yet it is important to study the scope of the word “supply” in this context.

In one of the background materials on GST published by the Institute of Chartered Accountants of India[1], it has been emphasised that a transaction where a person merely slips into the shoes of another person, the same cannot be termed as supply. As such, unrestricted expansion of the expression “supply” should not be encouraged:

“. . . supply is not a boundless word of uncertain meaning. The inclusive part of the opening words in this clause may be understood to include everything that supply is generally understood to be PLUS the ones that are enlisted. It must be admitted that the general understanding of the world supply is but an amalgam of these 8 forms of supply. Any attempt at expanding this list of 8 forms of supply must be attempted with great caution. Attempting to find other forms of supply has not yielded results however, transactions that do not want to supply have been discovered. Transactions of assignment where one person steps into the shoes of another appears to slip away from the scope of supply as well as transactions where goods are destroyed without a transfer of any kind taking place.”

A simple example of assignment of receivable is – A sells goods to B. B owes a certain sum of money to A. This sum of money is “receivable” in the hands of A. A has the right to get that sum from B. A decides to pass that right to C. He therefore, assigns the receivable to C, for a certain consideration. Therefore, A is actually passing on the benefits under the contract with B, to C. C is merely stepping into the shoes of A. There is no separate supply as such.

Also, as already stated, where the object is neither goods nor services, there is no question of being a supply thereof.

iv.     Servicing Fees

Typical to a securitisation transaction is that the originator continues to do the collection of receivables from the obligors for and on behalf of the SPV. The originator, therefore acts as a servicing agent and charges a servicing fees.

Under the current tax regime, servicing fees was subject to 15% service tax, charged by the originator to the SPV. The SPV would typically not be able to claim set off and this would be a sunk cost.

This cost under the GST regime goes up to 18%. Therefore if the servicing fee is 50 basis points, the increase in cost is 9 basis points. Since SPV cannot claim the set off, the GST is a dead loss.

In India, the typical servicing fee charged is 25 basis points. Whether or not the consideration for taxable supply of service is reasonable would depend upon the type of a pool. For instance, if the pool is a microfinance pool or a granular pool, it may not seem reasonable to charge a servicing of 25 bps as against a car loan pool. Therefore, where the servicing fee does not seem at arm’s-length, it may be challenged that servicing fees is not adequate consideration or the only consideration for collection of receivables.

Further, if it was to be contested that the SPV is a related person to the originator as defined under the CGST Act, then the servicing fees charged could be subject to valuation rules which will subject the servicing fees to reasonable determination of value of such supply of service by the assessing officer.

v.   SPV a related person?

One of the issues during securitisation transaction structuring is to ensure that an SPV is a distinct entity from legal and accounting perspective. It would be relevant to have independence established of the SPV from tax perspective as well.

The definition of related persons under CGST is as follows:

For the purposes of this Act,––

(a) persons shall be deemed to be “related persons” if––

(i) such persons are officers or directors of one another’s businesses;

(ii) such persons are legally recognised partners in business;

(iii) such persons are employer and employee;

(iv) any person directly or indirectly owns, controls or holds twenty-five per cent. or more of the outstanding voting stock or shares of both of them;

(v) one of them directly or indirectly controls the other;

(vi) both of them are directly or indirectly controlled by a third person;

(vii) together they directly or indirectly control a third person; or

(viii) they are members of the same family;

(b) the term “person” also includes legal persons;

(c) persons who are associated in the business of one another in that one is the sole agent or sole distributor or sole concessionaire, howsoever described, of the other, shall be deemed to be related

One of the ways of establishing that the SPV and the originator are related persons, is by establishing control by the originator. The term control has not been defined under CGST and therefore, one may have to rely on accounting tests for control.

As per the accounting standards, if the originator is controlling the SPV, it would lead to consolidation thereby frustrating the purpose of doing securitisation itself.

So, to avoid consolidation it is pertinent to avoid control by the originator over the SPV. If there is no control, the other parameters for falling into related person definition could be meandered.

However, if the transaction structure was such that control could be established then the transaction is subject to arm’s-length test and valuation rules.

vi. Treatment of EIS component

Another critical issue in structuring securitisation transactions is how the excess interest spread or EIS will be swept by the originator from the transaction. Typically, transactions are devised to give residuary sweep to the originator after servicing the PTCs. Therefore there could be a challenge that EIS is also a component of servicing fees or consideration for acting as a servicing agent. The meaning of consideration[2] under the CGST Act is consideration in any form and the nomenclature supports the intent of the transaction.

Since, the originator gets excess spread, question may arise, if excess spread is in the nature of interest. Therefore it is important to structure excess spread as IO strip.

Going forward it would be rather recommendable that the sweep of excess spread is structured as IO strip. Since it is interest only.

vii.  Servicing of PTCs

Another facet of securitisation transaction that needs attention from GST perspective, is taxability of servicing of coupon and repayment of PTCs. PTCs being securities, servicing of securities is exempt from applicability of GST.

viii.   GST on Securitisation – Global Overview

Since the Indian GST law is largely inspired by EU VAT laws, it would be quite relevant to go through UK and EU precedents pertaining to securitization and factoring transactions. It is important to understand that in every loan sale, securitization, factoring or assignment of receivables, the common thread is the assignment of receivables. Hence, if the assignment of receivables is taken as a “supply”, then, in each of these cases, there would be a question of applying VAT on the entire turnover, that is, the entire consideration involved in the supply of receivables.

In UK, a distinction is drawn between “sale of debt” and “assignment of debt”. The sale of a debt is a financial transaction, whereby the purchaser acquires ownership of debts from a creditor, at a nominal sum to the face value of the debts. The purchaser assumes all the rights and obligations of the original creditor and all legal and beneficial or equitable interest passes to the buyer to whom full title and risk is transferred. However, in an assignment only the equitable interest is passed to the assignee and the assignor retains the legal interest in the debt and any liability to obligations arising from the original contract. Often it will not be possible for the assignee to sell that which has been assigned.

The distinction is akin to the distinction between “assignment of a contract” and “assignment of benefits under contract” as pointed out in the article titled, “Law of Assignment of Receivables”, Vinod Kothari[3].

The sale of a debt is exempt from VAT under the VAT Act 1994, Schedule 9, Group 5, item 1. And, the assignment or re-assignment of a debt is not a supply for VAT purposes[4].

In Finanzamt Gross Gerau v. MKG Kraftfahrzeuge Factory GmbH[5], the European Court of Justice had to examine whether, in case of factoring transaction, VAT was applicable on the entire turnover of receivables, or was it applicable only on the commission charged by the factor for the assumption of the risk of default or other services of the factor. In this ruling, the ECJ held factoring to be an economic activity, by way of exploitation of the debts to earn an income by providing a service to the factor’s clients; however, it is not the debt itself which is a supply, but the commission charged by the factor.

In MBNA Europe Bank v. Revenue and Customs Commissioners[6], (2006) All ER (D) 104 (Sep); [2006] EWHC 2326 (Ch) , the Chancery Court discussed whether a credit card securitization amounts to a taxable supply for VAT purposes.  After elaborate discussion on the nature of securitization, and referring to findings of lower authorities that securitization is nothing but a sophisticated form of borrowing, the Chancery Court held that the assignment of receivables in a securitization was not a supply at all.

The position thus held by Courts is well accepted by the administration itself. UK HMRC’s Internal Manual clearly puts the tax position on securitization as follows:

The assignment of the assets by the originator

The assignment of the receivables by the originator to the SPV is not a supply for VAT purposes. It is simply the fulfilment of a pre- condition so that the SPV can provide its ‘securitisation’ service.

The issue of securities to fund the purchase of the assets

The issue of a security for the purposes of raising capital is not a supply for VAT purposes (see VATFIN4250).

The administration of the assets

The servicer is the entity that deals with the receivables on a day to day basis, administering and collecting them and transferring the funds to the SPV, normally whilst maintaining the original contract with the underlying debtors.  The servicer will receive a fee for this service from the SPV which is generally set at a percentage of the aggregate balance of the loans/receivables or the funds collected. The servicer services are supplies to the SPV in the course of an economic activity and the servicer fee is consideration for that supply.

B.  GST implications on Direct Assignment transactions

In case of direct assignment, as in case of PTCs transaction, the assignment of receivables will be tax exempt (going by the same rationale, as in case of securitisation transactions).

The servicing fees charged to the buyer, would be subject to GST. The only reprieve here being that the buyer would be a bank or an NBFC and would be able to claim set off on the GST levied.

C.  GST implications on sale of Non-Performing Loans (NPLs)

In case of sale of NPLs to an asset reconstruction company (ARC), the receivables are acquired by a trust floated by an ARC. The receivables usually are not on the books of the ARC directly.

In case of ARCs, it would be a very strong contention that the trust of the ARC is a related person to the ARC and therefore the management fees, the carry amount etc charged by the managers would be subject to valuation rules.

With regard to the security receipts (SRs) issued by the ARCs, the taxability of such SRs would be the same as in case of PTCs, as both are securities and therefore not falling under taxable supply.

D. Conclusion

It is established that the GST regime requires mollification in the existing transaction structures such that tax inefficiency in the change of regime can be avoided.

It is important that we understand these nuances to avoid tax litigations at a later stage.

The securitisation industry as gone through several rounds of regulatory changes – some favourable and some not. From change in the regulatory guidelines of RBI to distribution tax applicability and subsequent roll-over. There have been several seasons of changes to come to some momentum as on date.

Therefore it is important to take cognizance of the changes and make the appropriate stitch now to save the nine later!

 

[1] http://idtc-icai.s3.amazonaws.com/download/pdf18/Volume-I(BGM-idtc).pdf; pg. last visited on 19.05.2018

[2] (31) “consideration” in relation to the supply of goods or services or both includes––

(a) any payment made or to be made, whether in money or otherwise, in respect of, in response to, or for the inducement of, the supply of goods or services or both, whether by the recipient or by any other person but shall not include any subsidy given by the Central Government or a State Government;

(b) the monetary value of any act or forbearance, in respect of, in response to, or for the inducement of, the supply of goods or services or both, whether by the recipient or by any other person but shall not include any subsidy given by the Central Government or a State Government:

Provided that a deposit given in respect of the supply of goods or services or both shall not be considered as payment made for such supply unless the supplier applies such deposit as consideration for the said supply;

[3] http://vinodkothari.com/wp-content/uploads/2013/12/Law-of-Assignment-of-Receivables-Vinod-Kothari.pdf; pg. last visited on 19.05.2018

[4] https://www.gov.uk/hmrc-internal-manuals/vat-finance-manual/vatfin3215; pg. last visited on 19.05.2018

[5]http://www.bailii.org/eu/cases/EUECJ/2003/C30501.html; pg. last visited on 19.05.2018

[6] http://www.bailii.org/cgi-bin/markup.cgi?doc=ew/cases/EWHC/Ch/2006/2326.html; pg. last visited on 19.05.2018

Non-compliance of Listing Regulations may lead to compulsory delisting

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by Munmi Phukon ,(corplaw@vinodkothari.com)

Introduction and Background

SEBI, on May 3, 2018 came out with a Circular[1] (the “Circular” or “New Circular”) on uniform structure for imposing fines as a first resort for non-compliance with certain provisions of the Listing Regulations and the standard operating procedure (SOP) for suspension of trading. This circular is issued in supersession of the previous two Circulars dated November 30, 2015[2] (May Circular) and October 26, 2016[3] (June Circular) (collectively “Previous Circulars”) and shall be effective from the compliance periods ending on or after 30th September, 2018 i.e. from the quarter ending on the said date.

How is it different from the Previous Circulars?

Evidently, the Circular is a combination of the Previous Circulars. While the May Circular covered the details of fine for respective regulations and SOP for suspension of trading, it however, did not cover the manner of freezing of the shareholding of promoters and promoter group entities of the defaulting entity. Thereafter, the June Circular was issued providing the manner to be followed by the depositories for freezing of shareholding of promoters and promoter group entities which was to be read with the May Circular.

The primary differences between the Circular and the Previous Circulars seem to be the following:

  1. The Circular covers 18 regulations of the Listing Regulations as against only 4 regulations covered by the May Circular which were primarily concerned with filing of periodic reports;

 

  1. The Circular provides uniform fine structure for non- compliance while the May Circular segregated the fine structure based on an initial non- compliance and a subsequent and consecutive non- compliances. Further, there was additional fine structure based on the paid- up capital of the defaulting entity if the non- compliance continues for more than 15 days;

 

  1. The Circular provides for the freezing of entire shareholding as well as other securities holding of the promoter and promoter group while the May Circular covered only shareholding.

 

  1. The Circular requires the listed entity to place before the Board, the details of non- compliance and action taken by the stock exchange and informing about the comments made by the Board thereon to the stock exchange for public dissemination. This was not there in the Previous Circulars.

 

  1. Moving of the scrip of the listed entity to “Z” Category was required in case of two or more consecutive defaults made within 15 days of the date of notice of the stock exchanges which has now been aligned with the failure for two consecutive quarters.

Contents of the New Circular

The New Circular may be segregated into the following parts-

  1. Structure of fines to be imposed for each of the Regulations covered thereunder;
  2. Freezing the entire shareholding in the entity and other security holding in demat form of the promoter and the promoter group;
  3. Moving of scrip to ‘Z Category;
  4. Suspension of trading of securities;
  5. Revocation of suspension;
  6. Delisting of the entity.

Each of the aforesaid are described as follows:

Part A: Structure of fines to be imposed

The Circular covers 18 Regulations for which fine shall be imposed. Further, the fines shall be accrued till the date of compliance made by the listed entity. The table below contains the said Regulations and respective fines against each of them.

Sl. No. Regulation Fine

 

 Remarks
1.        Regulation 6(1)-

Non-compliance with requirement to appoint a qualified company secretary as the compliance officer.

 

 ₹ 1,000 per day

 

 New insertion.
2.        Regulation 7(1)-

Non-compliance with requirement to appoint share transfer agent.

 

 ₹ 1,000 per day New insertion.

 
3.        Regulation 13-

(1)  Failure to ensure that adequate steps   are   taken for expeditious redressal of investor complaints.

(3)  Non-submission  of  the statement on Shareholder complaints within the  period prescribed under  this Regulation or  under  any  circular issued  in  respect  of redressal  of investor grievances.

 

 ₹ 1,000 per day New insertion.

 

However, sub- regulations (2) & (4) have not been taken into consideration. Sub- regulation (2) is w.r.t registration on the SCORES platform. Since the Circular does not cover this clause, accordingly, the listed entities will still require to observe the requirements of SEBI Circular dated December 18, 2014[4] which entrusts the responsibility of ensuring compliance with same on the Board of the listed entity.

 

Further, sub- regulation (4) is related to sub- regulation (3) wherein the statement of shareholders complaint is required to be placed before the Board on quarterly basis.

 
4.        Regulation 17(1)

Non-compliance with the requirements pertaining to the composition of the Board including failure to appoint woman director.

 

 ₹ 5,000 per day New insertion. Non- compliance due to casual vacancies of directors shall also get covered in this.
5.        Regulation 18(1)

Non-compliance with the constitution of audit committee.

 

 ₹ 2,000 per day New insertion. Non- compliance due to casual vacancies of directors shall also get covered in this.
6.        Regulation 19(1)/ 19(2)

Non-compliance with the constitution of nomination and remuneration committee.

 

 ₹ 2,000 per day New insertion. Non- compliance due to casual vacancies of directors shall also get covered in this.
7.        Regulation 20(2)

Non-compliance with the constitution of stakeholder relationship committee.

 

 ₹ 2,000 per day New insertion.
8.        Regulation 21(2)

Non-compliance with the Constitution of risk management committee.

 

 ₹ 2,000 per day New insertion.
9.        Regulation 27(2)

Non-submission of the Corporate governance compliance report within the period provided under this regulation.

 

 ₹ 2,000 per day Previously there were different figures for the 1st and the subsequent non-compliances i.e. Rs. 1000 and Rs. 2000 respectively. But as per the new circular overall ₹ 2,000 per day will be charged.

 
10.   Regulation 29(2)/29(3)

Delay  in  furnishing  prior intimation about  the  meeting  of  the  board  of directors

 

 ₹ 10,000 per instance of non-

compliance per item.

 

 Sub- regulation (2) is related to sub- regulation (1). Sub- regulation (1) enlists 6 items for which the prior intimation to stock exchange is required. Further, sub- regulation (3) provides 2 more items requiring prior intimation.

 

The fine shall be per item, per instance and also on lump sum basis. Therefore, day count shall not be applicable.

 
11.   Regulation 31

Non-submission of shareholding pattern within the period prescribed.

 

 ₹ 2,000 per day Previously there were different figures for the 1st and subsequent non-compliances i.e. Rs. 1000 and Rs. 2000 respectively. Further, for continuous non- compliance for more than 15 days, additional fine was provided of 0.1 % of paid up capital of the entity or ₹ 1 crore, lower. But as per the new circular overall ₹ 2,000 per day will be charged.

 
12.   Regulation 32(1)

Non-submission of deviations/ variations in utilization of issue proceeds.

 

 ₹ 1,000 per day New insertion.
13.   Regulation 33

Non-submission of the financial results within the period prescribed under this regulation.

 

 ₹ 5,000 per day Previously there were different figures for the 1st and the subsequent non-compliances. i.e. 5000 and 10000 rupees respectively. Further, for continuous non- compliance for more than 15 days, additional fine was provided of 0.1 % of paid up capital of the entity or ₹ 1 crore, lower.

 

As per the new circular overall ₹ 5,000 per day will be charged.

 
14.   Regulation 34

Non-submission of the Annual Report within the period prescribed under this regulation.

 

 ₹ 2,000 per day Previously there were different figures for the 1st and the subsequent non-compliances i.e. 1000 and 2000 rupees respectively. However, the initial fine was to accrue only if the non- compliance continues for 5 days or more unlike for other regulations wherein from the very first day the fines are imposed.

 

As per the new circular overall ₹ 2,000 per day will be charged.

 
15.   Regulation 39(3)

Non-submission of information regarding loss of share certificates and issue of the     duplicate certificates within the period prescribed under this regulation.

 ₹ 1,000 per day

 

 

 

 

 

 New insertion.
16.   Regulation 42(2)

Delay in/ non-disclosure of record date along with the purpose thereof.

 

Regulation 42(3)

Failure/ delay in dividend declaration within prescribed timeline.

 

Regulation 42(4)

Non-compliance with ensuring the prescribed time gap between two record dates.

 

Regulation 42(5)

Non-compliance with fixing of book closure dates and ensuring the prescribed time gap between two book closures.

 

 ₹10,000 per instance of non-

compliance per item

 

 New insertion.
17.   Regulation 44(3)

Non-submission of the voting results within the period provided under this regulation.

 

 ₹10,000 per instance of non-

Compliance

 New insertion.
18.   Regulation 46

Non-compliance with norms pertaining to functional website and disclosure of information thereon.

 

 1st step:

Advisory/warning letter per instance of non-compliance per item.

 

2nd step:

 

₹10,000 per instance for every

Additional advisory/ warning

letter exceeding the four advisory/ warning letters in a financial year.

 

 The stock exchange shall circulate advisory or warning letter as a first course of action. If such letter is sent for more than 4 times in a financial year, a lump sum of rupees 10000 shall be paid by the entity as fine for every such instances per item. This is to be noted that the Regulation enlists 17 items.

 

All of the aforesaid fines shall accrue till the time of rectification of the non- compliance to the satisfaction of the concerned recognized stock exchange or till the scrip of the entity is suspended from trading for non-compliance with the aforesaid provisions.

Part B: Freezing of shareholding and security holding of the promoter and the promoter group

Review of compliance by stock exchange

The New Circular provides for review of compliance status of the listed entities by the stock exchanges based on the receipt of information. However, the same is not clear on what will constitute an information or who will provide such information. If the term ‘information’ is to mean those information which are required to be submitted by the listed entities, the requirement will be incomplete as the regulations covered aforesaid do not only related to submission of information but also certain other compliances such as, disclosure of information on the website. In this regard, the May Circular was clear on the fact that the review by stock exchanges shall be based on the due date for compliances of respective regulations which should have retained in the new Circular too.

Notice in view of compliance status

Based on the review of compliance status of the entities, the stock exchange shall send notice to the concerned entity to comply with the relevant regulation and pay fine within 15 days. Such notice shall also be forwarded to other stock exchanges where the shares of the entity are listed.

Freezing

Upon failure to comply with the requirements of the notice, the depositories shall be approached by the stock exchange to freeze the shareholding of the promoters and promoter group in the concerned entity and also of the holding in other securities in the demat accounts. This is to be noted that the May Circular did not cover other security holdings.

Unfreezing

If the non-compliant listed entity pays the fine levied, the same shall be displayed on their website by the concerned stock exchange. The stock exchange shall also intimate the depositories to unfreeze the shareholding and security holding after one month from the date of compliance.

Duties of Board of Directors of the listed entity

The Board of Directors (BoD) of the listed entity has been entrusted with the duty to review the nature of the non- compliance and to comment thereon. The comments of BoD shall also be intimated to the stock exchanges.

Part C: Moving of Scrip to ‘Z Category

Which all regulations are covered?

The stock exchange, in addition to the imposition of fine, shall also move the scrip of the listed entity to ‘Z Category’. In that case the share shall be traded only on ‘trade for trade’ basis. However, this is applicable only for certain regulations and that too on failure to comply with the requirements of those regulations for two consecutive quarters. The regulations covered hereunder are as follows-

  1. Regulation 17(1);
  2. Regulation 18(1);
  3. Regulation 27(2);
  4. Regulation 31;
  5. Regulation 33;
  6. Regulation 34;
  7. Submission of information on  the  reconciliation  of  shares  and capital audit report;
  8. Receipt of  the  notice  of  suspension  of  trading  of  that  entity  by  any other recognized stock exchange on any or all of the above grounds.
Prior intimation to the investors

The stock exchange shall give 7 days prior public notice to the investors before moving the scrip to Z category along with simultaneous intimation to the other stock exchanges.

Moving back of the scrip

The stock exchange shall move back the scrip to normal trading category on compliance with respective provisions and payment of relevant fines thereof. However, the same can be done only if the trading has not been suspended. Other stock exchanges shall also be intimated by the stock exchange.

Part D: Suspension of trading of securities

The regulations for taking action of suspension of trading are same as provided in Part C above.

Procedure of suspension

Before suspension, a written notice shall be sent to the non-compliant listed entity in order to pay the appropriate fine within 21 days of the date of intimation. A public notice shall be placed on the website of the recognised stock exchange providing details of the same. The recognised stock exchange shall also inform other recognised stock exchange where the securities are listed in order to ensure uniformity in case of suspension.

If the entity fails to comply with the respective requirements and pay fine within the stipulated period, the trading in the shares shall be suspended. The entire shareholding and security holding of the promoter and promoter group shall remain frozen during the period of suspension.

Uniform suspension

While suspending trading in the shares of the non- compliant entity, the stock  exchange(s) shall  send  intimation  of  suspension  to other  stock  exchange(s)  where  the  shares  of  the  non- compliant  entity  are  listed to  ensure  that  the  date  of  suspension  is uniform across all the recognised stock exchange(s).

If the fine is paid before suspension

If the fine is paid within two working days before the proposed date of suspension, the suspension of securities shall not take place and public notice to this effect shall be published on the website of the stock exchange. Other stock exchange shall also be intimated of the same.

Further, the stock exchange shall also intimate the depositories to unfreeze the entire shareholding and security holding of the promoter and promoter group so frozen earlier. However, the shareholding and security holding shall be unfreezed only after one month from the date of compliance.

Post suspension trading

After 15 days of suspension, trading in the shares of the entity may be allowed on a ‘Trade for Trade’ basis. Such trading shall be allowed on the first trading day of every week for 6 months. Necessary instruction in this regard shall be issued by the stock exchange to the trading members.

Part E: Revocation of suspension

When revocation happens?

If the non-compliant entity complies with the requirements and pays the fine post suspension of trading in the shares, the stock exchange shall revoke the suspension and a public notice in this regard shall be displayed on its website informing about the same. The revocation of suspension shall be made after 7 days from the date of the notice and also inform other stock exchanges where the shares of the entity are listed.

Trading post revocation

After such revocation of suspension, the trading of shares shall be permitted only in ‘Trade for Trade’ basis for a period of 7 days from the date of revocation and thereafter, trading in the shares of the entity shall be shifted back to the normal trading category.

Unfreezing of share and security holding of promoter and promoter group

The  stock  exchange(s)  shall  intimate  the  depositories to unfreeze the entire shareholding of the promoter and promoter group in the entity as well as all other securities held in the demat account of the promoter and promoter group, after three months from the date of revocation of the suspension.

Part F: Compulsory delisting of the company

If the non-compliant entity fails to adhere to the requirements of the New Circular or fails to pay the applicable fine within 6 months from the date of suspension, the process of compulsory delisting of the non-compliant listed company will take place which will be commenced by the stock exchanges in accordance with the provisions of the Securities and Exchange Board of India (Delisting of Equity Shares) Regulations, 2009 read with the Securities Contracts (Regulation) Act, 1956, the Securities Contracts (Regulation) Rules, 1957 as amended from time to time.

Conclusion

Evidently, the New Circular is more stringent than the Previous Circulars in many ways. Earlier, only shareholding of the promoters and promoter group in the listed entity were covered for freezing while the New Circular covers other security holding also. Accordingly, this shall include the debt securities, preference shares etc. held in the listed entity as well as in other entities if held in demat form. Further, the Board of Directors has been entrusted with an additional duty to review the compliance status and to provide comments thereon. The non- compliance for 6 months shall also lead to compulsory delisting of the listing entity. Accordingly, the Compliance Officer of the listed entity shall have to observe all these requirements to avoid the stringent consequences.

[1] https://www.sebi.gov.in/legal/circulars/may-2018/non-compliance-with-provisions-of-sebi-listing-obligations-and-disclosure-requirements-regulations-2015-and-standard-operating-procedure-for-suspension-and-revocation-of-trading-of-specified-securi-_38841.html

[2] https://www.nseindia.com/content/equities/SEBI_Circ_30112015_6.pdf

[3] https://www.nseindia.com/content/equities/SEBI_Circ_26102016.pdf

[4] https://scores.gov.in/scores/Docs/Circular%20-%20Redressal%20of%20Investor%20Grievances%20through%20SCORES.pdf

ROC goes fishing for companies with subsidiaries beyond two layers

/0 Comments/in , , /by

Munmi Phukon, Principal Manager, Vinod Kothari & Company (corplaw@vinodkothari.com)

The country had witnessed the bulk of show cause notices sent to companies last year seeking evidence on their CSR expenditure, reporting, disclosure etc., though the Ministry’s stand on such notices and replies thereof is not yet known. After CSR, MCA has now seemed to shift its surveillance to the layers of Indian companies and recently started issuing show cause notices to the companies. As claimed in such notice itself, the basis of the same is the annual return filed by the companies. What concerns the most at this time is that, when most of the companies in the country are busy with convening the ensuing AGMs, the preparation/ documentation of bulky reports, aligning themselves with the recent amendments made in the corporate laws, be it the Companies (Amendment) Act, 2017 or the Listing Regulations, the show cause notice is posing as an additional burden. Read more →