"Any RPT just needs board approval": what Section 188 actually says

The most expensive misconception in company-law compliance is that all related-party transactions can be authorised at board level alone. Under Section 188 of the Companies Act, 2013, board approval is the floor, not the ceiling: above the Rule 15(3) thresholds, a member resolution is mandatory before the transaction proceeds.

Legal basis: Section 188, Companies Act, 2013; Rule 15(3), Companies (Meetings of Board and its Powers) Rules, 2014.

What Section 188 requires

No company may enter into a contract or arrangement with a related party "except with the consent of the Board of Directors given by a resolution at a meeting of the Board and subject to such conditions as may be prescribed" (CA 2013, s.188(1)). The section lists seven categories: sale, purchase or supply of goods or materials; "selling or otherwise disposing of, or buying, property of any kind"; leasing of property; availing or rendering services; agency appointments; related-party appointments to an office or place of profit; and underwriting securities (CA 2013, s.188(1)(a)–(g)).

Board consent alone suffices only below the prescribed thresholds. For transactions exceeding the prescribed sums, "except with the prior approval of the company by a resolution" no contract may be entered into (CA 2013, s.188(1), first proviso). The statute now reads "resolution" — an ordinary resolution — because the 2015 amendment substituted the original "special resolution" ("Subs. by Act 21 of 2015, s. 16"). The 2020 amendments touched penalties, not the resolution type.

Two further teeth: "no member of the company shall vote on such resolution" to approve a contract where that member is a related party (CA 2013, s.188(1), second proviso) — with a narrow exception where ninety per cent or more of members are relatives of promoters or related parties. And a contract entered without the required approvals "shall be voidable at the option of the Board or, as the case may be, of the shareholders," with indemnity consequences for the directors concerned (CA 2013, s.188(3)–(4)).

The Rule 15(3) thresholds (as amended, most recently in 2019)

Member approval is triggered where transactions exceed, on the preceding year's audited turnover or net worth (GSR 590(E), 14 Aug 2014, substituting Rule 15(3); GSR 857(E), 18 Nov 2019):

• Goods or materials (sale, purchase, supply, directly or through agents): amounting to ten per cent or more of the turnover (the Rs. 100 crore cap was omitted in 2019).
• Buying, selling or disposing of property: amounting to ten per cent or more of net worth (the Rs. 100 crore cap was omitted in 2019).
• Services (availing or rendering): amounting to ten per cent or more of the turnover (the Rs. 50 crore cap was omitted in 2019).
• Office or place of profit: "monthly remuneration exceeding two and half lakh rupees."
• Underwriting remuneration: "exceeding one percent of the net worth."
• Leasing of property: "amounting to ten per cent or more of the turnover" (2019 substitution).

The arm's-length exemption

"Nothing in this sub-section shall apply to any transactions entered into by the company in its ordinary course of business other than transactions which are not on an arm's length basis" (CA 2013, s.188(1), fourth proviso). Both limbs must hold simultaneously — ordinary course AND arm's length — and both must be documented. One without the other does not exempt.

What a violation costs

The penalty falls on the director or employee who entered into or authorised the violative contract — "liable to a penalty of twenty-five lakh rupees" for a listed company and "liable to a penalty of five lakh rupees" for any other company (CA 2013, s.188(5), as amended 2020).

Hypothetical illustration

A director leases personal commercial property to the company at a rent that crosses the Rule 15(3) leasing threshold. The board approves it but no member resolution is passed. The lease is voidable at the shareholders' option, and the director who authorised it faces the Section 188(5) penalty. Board approval alone did not cure the defect.

For advice on a specific transaction, contact a Chartered Accountant.

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