By CS Megha Saraf (firstname.lastname@example.org)
In what might be a major embarrassment to the Ministry of Corporate Affairs (“MCA”), the Gujarat High Court has held that the MCA came up with various notifications in the month of September, 2017, disqualifying 3,09,614 directors, was wrong, since it amounted to giving a retrospective effect to the provisions of Section 164 (2) of the Companies Act, 2013 (“Act, 2013”). Notably, in a so-called Operation Clean Money, the MCA struck off some 2,24,733 companies, generally branding them as “shell companies”, and simultaneously disqualified their directors, relying on a provision introduced in the Act, 2013 in form of Section 164 (2) which extends to private companies as well.
Provisions of law under the Act, 2013
1. Section 164 – Disqualifications for Appointment of Director
Section 164 of the Act, 2013, provides for the eligibility criteria for appointment of a director in a company. One of the criteria provides that in case a company has failed in filing financial statements or annual returns for a continuous period of 3 years, the directors of that company shall become disqualified from being re-appointed in the defaulting company and appointed in other companies as directors for a period of 5 years from the date of such default.
Further, according to Rule 14 of the Companies (Appointment and Qualification of Directors) Rules, 2014 the defaulting company is provided with a time period of 30 days from the failure in filing the financial statements or annual returns to file Form DIR-9, which if lapsed, attracts disqualification under Section 164(2) of the Act, 2013.
2. Section 167 – Vacation of Office of Director
Section 167 of the Act, 2013 provides for the conditions when the office of a director becomes vacant. One of such conditions co-relates itself with the criteria of disqualification of directors provided under section 164(2) of the Act, 2013. However, with the Companies (Amendment) Act, 2017, it was clarified that on incurring disqualification under Section 164(2), vacation of office of the director was to be made from all other companies except the defaulting company.
3. Rule 11 of the Companies (Appointment and Qualification of Directors) Rules, 2014 – Cancellation or Surrender or Deactivation of DIN
The Rule specifically provided for the cases where the DIN of a director may be cancelled or deactivated which includes the following cases-
- the DIN is found to be duplicated in respect of the same person provided the data related to both the DIN shall be merged with the validly retained number;
- the DIN was obtained in a wrongful manner or by fraudulent means;
- of the death of the concerned individual;
- the concerned individual has been declared as a person of unsound mind by a competent Court;
- if the concerned individual has been adjudicated an insolvent.
4. Section 92- Annual Return
The provision provides for a time period of 60 days from the date of the Annual General Meeting (“AGM”) or the date when it should have been held, to file with the Registrar of Companies (“RoC”) a copy of the annual return in e-Form MGT-7.
5. Section 137- Copy of Financial Statement to be Filed with Registrar
The Section provides for a time period of 30 days from the date of the AGM or the date when should have been held, to file with the RoC, a copy of the financial statements in e-Form AOC-4.
6. Section 403- Fee for Filing, etc.
Section 403 of the Act, 2013 provides for the fees for filing the e-Forms required under Section 92 and 137. Further, it also provides for that in case such returns are not filed within the prescribed timeline under the respective sections, the returns may be filed beyond such timeline on payment of additional fees as prescribed.
Companies failing to file financial statements or annual returns
It is quite often so that people incorporate a company for a purpose which does not ever take off, or the companies actually become dormant, or sometimes there is a failed business model and the company becomes practically redundant. There are companies which have no assets or liabilities, and therefore, exist as legal shell with nothing inside them.
As per law, there are two options in such cases – one may take the company to a voluntary strike off process, as enacted in Section 248 (2), or, the company may declare itself as a dormant company in terms of Section 455. The process of dormant companies was enacted only in the Act, 2013 and no corresponding provision ever existed under the Companies Act, 1956 (“Act, 1956”).
Therefore, the fact that there is a company which has gone dud and is existing only on paper but has practically become defunct, is quite a common scenario. In what way such companies relate to black money is itself intriguing, because the very meaning of a defunct company under Section 248 is a company which has nil assets and nil liabilities. In this light, the Government’s move to strike off the names of some 2,24,733 companies and label this as a drive to cleanse the country’s economy of black money becomes self-defeating. If there was nothing in these 2,24,733 companies, there was no way these companies could have been used for funnelling black money into the system. However, perhaps there were indications that after the demonetisation, the bank accounts of these shell companies were used to withdraw money. However, surely enough, when there was a massive clean-up action against these 2,24,733 shell companies, there was neither a time with the MCA, nor was there so much of visibility or accessibility to these non-descript companies whereby the MCA could understand it was indeed firing at the right enemy.
Act of disqualification of directors
Therefore, the MCA sprung into action and struck off names of so-called defunct companies, and also disqualified their directors. The disqualification under Section 164 (2) is indeed quite serious. There is no way the disqualified director can find a way back into any company’s board room for a long period of 5 years. Therefore, this is equivalent to banishment for 5 years from corporate boards in general.
The provisions under Section 274 (1) (g) of the Act, 1956 was applicable to public companies only. However, in the Act, 2013, this was extended to some 10,44,806 private companies (as on 31st October, 2018) too, increasing its sweep manifold.
This disqualified directors were not only people who did not care or bother about their presence in boardrooms. These directors included major corporate executives, busy professionals or high profile people who formed companies and forgot about them, or left companies but forgot to file their resignations. Therefore, in many cases, the disqualification came as shock.
Since the disqualification action, there has been litigation in many cases. In most cases courts have passed specific orders – restoring the applicant’s name. There are also rulings of Madras High Court in the case of Bhagwan Das Dhananjaya Das against Union of India and RoC, Tamil Nadu, where the applicability of the section 164(2) with retrospective effect was questioned and provided for rationale for applying the provisions of section 164 (2) of the CA, 2013 with prospective effect. Also, it was held by the Supreme Court that, in the case of Govind Das and others v. Income Tax Officer and another, retrospective operation should not be given to a statute so as to affect, alter or destroy an existing right or create a new liability or obligation unless that term of the statute expressly so provide or necessarily require it.
There have also been cases like Dharampal Sathyapal Limited v. Deputy Commissioner of Central Excise and others, and Maneka Gandhi v. Union of India, where the Supreme Court has looked upon the principle of natural justice and said that disqualifying the directors without even providing them an opportunity of being hear is absolutely unreasonable and against the principles of natural justice.
Ruling of Gujarat High Court
However, now the Gujarat High Court order comes as a flat body blow to the notification itself.
The directors of Kalashree Investment Private Limited (KIPL) were directors of other companies as well. Registrar of Companies, Ahmedabad had sent notice to KIPL stating that it was not doing any business or operation, and so it is intended to remove the name of the company from the Register of companies. The said RoC struck off the company on 21st June, 2017 and so the question of filing financial statements and annual returns did not arise and also the question of disqualification a contemplated under Section 164(2)(a) did not arise. However, the names of the petitioners were included in the list of disqualified Directors associated with the “struck off companies”, dated 12th September, 2017 published by the MCA. Consequentially, their DINs were deactivated and they were unable to file the returns in the other companies where they were directors. The petitioners also did not avail the benefit of the Company Law Settlement Scheme, 2014. As a result thereof, a spate of representation were made from industries, defaulting companies and their Directors seeking opportunity for defaulting companies to become compliant and normalize the operations were received.
In exercise of various powers, a scheme namely “Condonation of Delay Scheme 2018 (CODS) was introduced for a span of 3 months to such defaulting except struck off companies under section 248(2), and subject to the order of NCLT under section 252 on the applications seeking
revival of struck off companies filed during the period of the scheme. The applicants however, failed to avail the benefit of CODS too which led the Court to dismiss the petition.
It was submitted and held by the Supreme Court in the case of Keshavan Madhava Menon Vs. The State of Bombay, that every statute is presumed to be prospective.
Therefore, the financial years that should be covered for determining the filing status under the said section are:
- 1st April, 2014 to 31st March, 2015
- 1st April, 2015 to 31st March, 2016
- 1st April, 2016 to 31st March, 2017
and the last date for filing the financial statements were 30th October, 2017 (with regular fees) and 27th July, 2018 (with additional fees and additional period of 270 days as provided under Section 403).
Reliance was also placed upon the cases of Dilip Kumar Sharma and Ors. Vs. State of M. P., and in case of Tolaram Relumal and Anr. Vs. The State of Bombay, it is submitted that when two interpretations are possible, the one favouring the subject ought to be made applicable especially in case of penal statute.
Also the Supreme Court has held in the case of Madhya Pradesh Vs. Narmada Bachao Andolan and Anr, that an interpretation, which is just, fair and sensible should be made and not an interpretation, which results in drastic consequences.
Reliance is placed on the decision of the Madras High Court in case of Bhagavan Das Dhananjaya Das Vs. Union of India and Anr. to buttress their submissions.
Considering the provisions contained in Section 92, Section 96, Section 137(1) and Section 403, it clearly emerges that the impugned action of the respondents in disqualifying the petitioners without giving opportunity of hearing was illegal and premature more particularly when the statute is silent about giving opportunity of hearing, and when the respondent authorities have to follow a fair procedure consistent with the principles of natural justice. In this regard, reliance is placed on the decisions of the Supreme Court in case of A. K. Kraipak and Ors. Vs. Union of India, and in case of Dharampal Sathyapal Limited Vs. Deputy Commissioner of Central Excise and Ors., and in case of Shriyans Prasad Jain Vs. Income Tax Officer and Ors..
Supreme Court also said in the case of Commissioner of Income Tax (Central)-I, New Delhi Vs. Vatika Township Private Limited, that unless it is expressly or by necessary implication made to have retrospective operation, every statute is prima facie prospective.
For all the reasons aforesaid and also taking the principle of natural justice into consideration, it has been made clear beyond any pale of doubt that the mischief of removal of the names of the companies by the ROC and the disqualification of the directors in the defaulting company will go together, as it is inseparable. Further, as Rule 11 of Companies (Appointment and Qualification of Directors) Rules, 2014, (“Rules”) itself provides for the reasons for cancellation of deactivation DIN, there vests no suo moto powers with the Central Government for cancellation or deactivation of DIN of the directors as that would run counter to the provisions contained in Rule 11 of the said Rules.
Judgment of Gujarat High Court
Further, with this, the Gujarat High Court is of the opinion that the action of the MCA deactivating the DINs of the petitioners along with the publication of the impugned list of Directors of “struck off” companies under Section 248, also was not legally tenable. The cancellation or deactivation of the DIN could be done to by the concerned respondents only as per the provisions contained in the said Rules and not otherwise.
Hence, the Gujarat High Court upshot the following:
- Section 164(2) of the Act, 2013 would have prospective effect and not retrospective effect and therefore, the default in filing the financial statements or the annual returns shall be counted from the F.Y. 2014-15.
- Even after a company has been struck off, the statutory liabilities/obligations of such struck of company and its Directors would still remain to be discharged, in view of Section 250 of the Act, 2013.
- The respondents could not have deactivated the DINs allotted to the Directors under Section 154 of the said Act, except under the circumstances mentioned in Rule 11 of the said Rules.
In view of the above, the Gujarat High Court felt desirable to quash the impugned list of disqualified directors issued by the MCA in September, 2017 and also directed to activate the respective DINs of the petitioners forthwith.
The High Court ruling means a very important relief to the 3,09,614 directors who have been disqualified by the MCA. Quite likely, the matter will ultimately be put to rest by the Supreme Court which is already seized of the matters as mentioned earlier in this Article. Irrespective of what is the ultimate outcome, it is apparent that a massive action taken by the MCA may have a benign motive, but it was taken without adequate preparation. As in case of demonetisation, the effectiveness of such action is a matter for post-facto evaluation.
It will also be an interesting question to examine, if there are appointment of directors done immediately after the High Court’s order and, assuming the High Court’s order is subsequently reversed by the Supreme Court, between the date of reversal, what will be the fate of such directors. Obviously, such questions do not have easy answers, and its will be hard to get precedents for similar issues. However, it seems to be reason that as of date, based on the quashing of the MCA notification by the Gujarat High Court, companies are free to appoint the individuals in question, if they are able to get their DINs restored.
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 AIR 1970 SC 150