Exemptions to Private Companies in India

Private companies occupy a unique and pivotal role in the world of business and corporate governance. Often smaller in scale and closely held, they are the breeding grounds for innovation, entrepreneurship and economic growth. To facilitate their development and provide a competitive edge, governments have introduced a set of exemptions and privileges under the Companies Act, 2013. These exemptions to private companies aim to reduce regulatory complexities, compliance burdens and administrative overhead, allowing private companies to operate with greater flexibility and efficiency.

In this article, we discuss the exemptions to private companies in India.

Definition of Private Company

As per Section 2(68) of the Companies Act, 2013 a private company is defined based on its share capital, restrictions on share transfer, limit on the number of members and prohibition on public subscription of its securities.

A private company, as defined in the Companies Act, 2013:

• Has a minimum paid-up share capital as prescribed (the specific amount may vary and can be set by the government or relevant authorities).
• By its articles of association:
  • Restricts the right to transfer its shares, meaning that shares cannot be freely traded or transferred without certain restrictions as specified in its articles.
  • Limits the number of its members to two hundred. In the case of joint ownership of shares by two or more persons, they are treated as a single member to count members. Employees of the company and former employees who were members during their employment and have continued as members after their employment ceased are not included in the count of members.
• Prohibits making any public invitation for the subscription of the company’s securities. This means that a private company cannot issue securities to the general public through public offers, but rather it usually raises capital from a closed group of members or private investors.

These conditions and restrictions distinguish private companies from public companies and play a significant role in defining their nature and operations under the Companies Act, 2013.

Meaning of Exemptions to Private Companies

Exemptions to private companies refer to certain relaxations and exceptions provided under the Companies Act, 2013, which apply specifically to this category of companies. These exemptions grant private companies certain privileges and reduce regulatory burdens.

They encompass a range of corporate governance and compliance areas, such as board meetings, audit committees, quorum requirements, related party transactions and restrictions on powers of the board. These privileges aim to simplify the regulatory framework for private companies, recognising their typically smaller scale and more closely held nature.

It allows them to operate with greater flexibility and reduced administrative overhead, fostering an environment conducive to entrepreneurship and business growth.

Exemptions to Private Companies

The Act initially placed private companies on equal footing with public companies, subjecting them to various compliance requirements. However, in response to stakeholder representations, the Central Government, with a focus on public interest, issued Notification vide No. GSR 464 (E) dated 05.06.2015.

This notification specified that certain provisions of the Act would either not apply to private companies or would be applicable with specific exceptions, modifications and adaptations. Here’s a breakdown of these exemptions and privileges granted to private companies:

Cash Flow Statement Exemption

Section 2(40) defines the term ‘financial statement.’ The proviso to this section allows private companies (especially startup companies) not to include the ‘Cash Flow Statement’ in their financial statements.

Related Party Transactions Exemption

Section 2(76) defines the term ‘related party,’ and Section 188 of the Act restricts companies from entering into certain contracts or agreements with related parties. Private companies are exempted from complying with the provisions of Section 2(76) and Section 188 in this regard.

Share Capital and Voting Rights Exemption

Sections 43 and 47 respectively deal with the kinds of share capital and the voting rights of various types of shareholders. These provisions are not applicable to private companies if their memorandum or articles of association provide otherwise.

Further Issue of Share Capital with Member Consent

Section 62(1)(a)(i) and Section 62(2) outline restrictions on the further issue of share capital. However, private companies can override these restrictions by obtaining written or electronic consent from 90% of their members, allowing for shorter periods specified in these sections.

Employee Stock Option Scheme Simplification

While Section 62(1)(b) requires a special resolution for offering shares to employees under a stock option scheme, private companies can opt for an ordinary resolution, simplifying the process.

Restrictions on Share Purchase and Loans Exemption

Section 67, which imposes restrictions on a company’s purchase of its own shares or loans for such purchases, does not apply to private companies that meet certain criteria:

• No other body corporate has invested in their share capital.
• Borrowings from banks, financial institutions or other bodies corporate are less than twice their paid-up share capital or Rs. 50 crores, whichever is lower.
• They are not in default regarding the repayment of borrowings at the time of conducting transactions under Section 67.

Prohibition on Deposits from Public Exemption

Section 73(2) restricts companies from accepting deposits from their members, subject to certain conditions. Private companies, however, are exempted from these provisions if they fall into one of the following categories:

• Accepting monies from members not exceeding 100% of the aggregate of paid-up share capital, free reserves and securities premium account.
• Qualifying as startups for the first five years from their date of incorporation.
• Fulfilling specific conditions, including not being an associate or subsidiary company of any other entity, maintaining borrowing levels within specified limits and having no defaults in the repayment of existing borrowings when accepting deposits under this section.

Annual Report (Section 92)

Section 92(1) mandates every company to prepare an annual return containing specific particulars as of the financial year’s end. However, this section applies to private companies categorised as small companies, based on the aggregate amount of remuneration drawn by directors.

Proviso to Section 92(1)

The proviso to Section 92(1) allows the annual return to be signed by the company secretary or, if no company secretary exists, by the director of the company in the case of One Person Company and a small company. For private companies, including startup private companies, this proviso shall be substituted with a new one, extending the same signing provisions to them.

Sections 101 to 107 and 109

These sections pertain to various aspects of company meetings, including notice, quorum, chairman, proxies, voting rights and demand for a poll. Private companies are subject to these provisions unless the sections themselves or the Articles of the Company specify otherwise.

Resolutions and Agreements to be Filed (Section 117(3)(g))

Private companies are not required to file resolutions passed by the Board of Directors in a meeting under Section 179(3).

Persons Not Eligible for Appointment as an Auditor (Section 141(3)(g))

Certain eligibility criteria for auditors, such as full-time employment elsewhere or holding appointments as auditors of more than 20 companies, are applicable to private companies, except for one-person companies, dormant companies, small companies and private companies with a share capital less than Rs.100 crores.

Auditor’s Report (Section 143(3)(i))

Section 143(3)(i) mandates the auditor’s report to state whether the company has adequate internal financial controls with reference to financial statements and their operating effectiveness. This section does not apply to private companies that meet one of the following criteria:

• One-person companies or small companies.
• Companies with a turnover less than Rs.50 crores, as per the latest audited financial statement and aggregate borrowings from banks, financial institutions or other corporate bodies during the financial year not exceeding Rs.25 crores.

Appointment of Independent Directors (Section 149(4))

The provision under Section 149(4), which requires the appointment of one-third of the total number of directors as independent directors, applies only to listed companies. Private companies are exempt from this requirement.

Right to Stand for Directorship (Section 160)

Private companies are exempted from complying with the provisions of Section 160, which deals with the right of persons other than retiring directors to stand for directorship.

Appointment of Directors to be Voted Individually (Section 162)

Private companies are also exempted from complying with the provisions of Section 162, which relates to the appointment of directors to be voted on individually.

Disqualification for Appointment of Director (Section 164(3))

Private companies have the authority to specify additional disqualifications for appointment as a director in their Articles, in addition to those already specified in Section 164(1) and (2).

Vacation of Office of Director (Section 167(4))

Private companies can include additional grounds for the vacation of the office of a director in their Articles, beyond those already mentioned in Section 167(1).

Board Meeting Compliance (Section 173(5))

A new provision replaces Section 173(5) for private companies. According to the new Section 173(5), One Person Companies, small companies, dormant companies and private companies (if a startup) are considered compliant with this section if they hold at least one board meeting in each half of a calendar year, with a gap of no less than ninety days between the two meetings. This rule does not apply to One Person Companies with only one director on their Board of Directors.

Quorum for Board Meetings (Section 174(3))

Section 174(3) specifies that when the number of interested directors equals or exceeds two-thirds of the total board strength, the quorum should consist of directors who are not interested and there should be at least two such directors. However, this provision allows an interested director to be counted towards quorum after disclosing their interest, as required by Section 184.

Audit Committee (Section 177)

Private companies are not obligated to constitute an Audit Committee.

Restrictions on Powers of Board (Section 180)

Private companies are exempted from the provisions of Section 180, which impose restrictions on the powers of the Board of Directors.

Disclosure of Interest by Director (Section 184(2))

Section 184(2), which relates to the disclosure of interest by directors, applies to private companies. However, the interested director may participate in the meeting after disclosing their interest.

Loan to Directors (Section 185)

Section 185, which deals with loans to directors, does not apply to private companies if they meet the following conditions:

• No other body corporate has invested in their share capital.
• Borrowings from banks, financial institutions or other corporate bodies do not exceed twice their paid-up share capital or Rs. 50 crores, whichever is lower.
• The company has not defaulted in the repayment of such borrowings at the time of conducting transactions under this section.

Related Party Transactions (Section 188(1) Second Proviso)

The second proviso of Section 188(1), which prevents a member of the company who is a related party from voting on a special resolution to approve any contract or arrangement, is applicable to private companies.

Appointment of Managing Director, Whole Time Director or Manager (Section 196(4) and (5))

The provisions regarding the appointment of these managerial personnel through a Board meeting and, in certain cases, with the Central Government’s approval, do not apply to private companies.

Conclusion

The exemptions to private companies are of paramount importance as they promote ease of doing business and stimulate entrepreneurship. By reducing regulatory complexities and compliance burdens, these exemptions encourage the establishment and growth of private enterprises.

They enable private companies to operate more efficiently, allocate resources effectively and focus on innovation and expansion. Moreover, these privileges facilitate quicker decision-making processes, which are crucial for adapting to rapidly changing market conditions.

Ultimately, these exemptions to private companies promote economic development by nurturing a favourable environment for startups and small businesses, enabling them to thrive, create jobs and contribute to the overall economic growth of a nation. Additionally, they attract investment and foster investor confidence, as private companies can navigate the regulatory landscape more easily, benefiting both the companies themselves and the broader economy.