Consentia on Law

DIRECTORS LIABILITY IN INDIA: AN ANALYTICAL NOTE MAKING A BRIEF COMPARISON WITH THE ENGLISH LAW

The position of directors has changed in the era of Corporate Governance to the extent that the directors have to protect the interest of not only the shareholders but also other stakeholders. Authors by way of this paper seeks to highlight the discussion of Directorial Roles, duties and Liabilities and tries to make a comparison of Indian Laws with that of the laws prevailing in England. To establish this, the authors talk about the importance of director in company management which cover roles and power of the director in a company management. Authors also make a comparative analysis of the different liabilities of the directorsin both the States and tries to establish a stage of the comparison among the two countries.This paper seeks to highlight the discussion of Directorial Roles, duties and Liabilities in its proper context, namely, within the company organization. As it is a known fact that most of the Indian Statutes and Laws owe their origin to the English Law. So, the author in this piece of work tries to make a comparison with the Directors liabilities as enshrined under the English Law with that of Indian Law. This paper tries to summarize key liabilities in various circumstances as provided under the laws of both the Countries. Lastly, the paper addresses what types of action are to be taken against errant directors by the laws of both the countries.

INTRODUCTION

A corporation is an artificial being existing only in contemplation of law. It has neither the mind nor the body of its own so in order to out its operations, certain skilled individual are required. The individuals are known as directors. Section 2(13) of the Companies Act defines a ‘director’ as including “any person occupying the position of a directorby whatever name called”.  Shareholders own a Limited Company but they don’t run them, that job is given to the Directors. Thus it is not the name by which a person is called but the position he occupies and the functions and duties which he discharges that determine whether in fact he is a director or not.As was stated in the case of In Re, Forest of Dean Coal Mining Co.that function is everything; name is nothing. To summarize their need in the corporation it won’t be wrong to say that the Directors are the custodians of the interest of the stakeholders.

There exists a relationship of trustee and trust between the directors and the shareholders of the company. They are the trustees for the assets and properties of the Company, apart from this they are also the agents of the company as it is the directors who collectively act as Board, on behalf of Company on almost all the matters except those where the company is specifically required to act which in a way suggests the need for clarifying the responsibilities of Directors. This paper seeks to highlight the discussion of Directorial Roles, duties and Liabilities in its proper context, namely, within the company organization. As it is a known fact that most of the Indian Statutes and Laws owe their origin to the English Law. So, the author in this piece of work tries to make a comparison with the Directors liabilities as enshrined under the English Law with that of Indian Law. This paper tries to summarize key liabilities in various circumstances as provided under the laws of both the Countries. Lastly, the paper addresses what types of action are to be taken against errant directors by the laws of both the countries.

LIABILITIES OF DIRECTORS

The liabilities of the directors vary according to the status of the Company i.e. whetherthe Company is private or public. Liability of a Director can be joint and several for commission or omission of an act which is prejudicial to the interests of the company and violates any of the duties to be discharged by them.But, as we know that Directors and the Company are two separate legal entities, so the Director has no personal liability on behalf of the Company. However, there are certain exceptions to it and a Director can be held liable in certain circumstances.It can be categorized in two ways. First form of categorization can be described as under:

Liability to the Company

– Breach of Fiduciary Duty: It is the duty of trust that is embodied on a Director. In a case where a director acts dishonestly to the interest of the Company, he will be held liable for breach of fiduciary duty.

– Ultra Vires Act: As per the regulations specified under the Companies Act, 1956, Directors are required to act within the parameters of the provisions of the Companies Act, Memorandum and Articles of Association. Similar provision is also available under the Companies Act, 2006 of U.K which under its section 171 suggests that the Directors shall act in accordance with the Constitution of the Company and exercise only those powers which have been conferred upon them. But after the corporate laws amendment act, 2006 came into picture, this situation changed. Section 36 provides that “no act of a company shall be void by reason only of the fact that the company was without capacity or power so to act or because the directors had no authority to perform that act on behalf of the company by reason only of the said fact”.The important thing that is to be noted here is that it is the act of the company and not the specific act of the director.

– Negligence: Directors hold the highest position i.e. the decision making position in a company so they are expected to act with reasonable skill and care as expected of them as prudent businessman. But in the case where they fail to exercise reasonable care, skill and diligence, they shall be deemed to have acted negligently and shall be held personally liable for the damage arising therefrom.But Section 248 of the Companies Act, 2006 of provides for a bit of relief to directors in UK. This section states that if it appears to the Court that the person concerned is or may be liable in respect of the negligence, default, breach of duty or breach of trust, but that he has acted honestly and reasonably,and that, having regard to all the circumstances of the case he ought fairly to be excused.

-Malafide Acts: Directors are the trustees of the assets of a Company including money, property and also exercise power over them.So if in such a situation they exercise this power dishonestly or act in a malafide manner (irrespective of the fact whether  it results in their personal benefits or not), they shall be held personally liable for breach of trust.Also, a Director can be made responsible for any secret profit that he might have made while acting on behalf of the Company.

Liability to third parties

-Prospectus: Section 56 and Schedule II of the Companies Act 1956, provides that a Director shall be held personally liable in case he fails to fulfills the requirements mentioned under it such as misstatement of facts in prospectus. Also section 62 of the Act provides that a Director shall be held personally liable to compensate any loss/damage that any person might have incurred by subscribing for shares/debenture on the faith of the prospectus.

– Share allotment: Section 69 of the Companies Act provides for personal liability of Directors in case of irregular allotment. Likewise section 70 talks about such a liability in case of without filing a copy of the statement in case of lieu of prospectus. Further in case if any director of a company knowingly contravenes or willfully authorizes or permits the contravention of any of the provisions of section 69 or 70 with respect to allotment, He shall be held personally liable to compensate the Company and the allottee as per the provisions mentioned under section 71(3) of the Act.For failure to repay application monies in case of minimum subscription having not been received within 120 days of the opening of the issue, which has been discussedunder section 69(5) read with SEBI guidelines, in case where minimum subscription is not received within 120 days of the opening of issue, then money is to be repaid to all the applicants who have subscribed for shares within 130 days from the date of the issue of the prospectus Directors are required to repay the money with an interest rate of 6% per annum prior to 130th day provided that the default in repayment of money was due to any misconduct or negligence on his part.

– Liability for Tax: Income Tax, 1961 provides that a person shall be jointly and severally liable where any tax due from a private company inrespect of any income of any previous year cannot be recovered from suchprivate company provided that the non-recovery of such tax is attributed to gross-neglect, misfeasance or breach of duty. Also Central Sales Tax Act and certain State Tax laws provides for similar Liabilities.

-Liability to pay for Qualification shares: If the Director has not acquired his or her qualification shares within the prescribedtime period and the company goes into liquidation the day after this period expires, he shall be made personally liable to pay for the shares he or she was supposed to have purchased.

-Fraudulent Trading: Directors may also be made personally liable for the debts orliabilities of a company by an order of the court under section 542. Further Section 542(1), in this regard, provides that if in the course of the winding up of a company, it appears that any business of the company has been carried on, within tent to defraud creditors of the company or any other person, or for any fraudulent purpose, the court, on the application of the Official Liquidator, or the liquidator or any creditor or contributory of the company may if it thinks it proper so to do, declare that any persons who were knowingly parties to the carrying on business in the manner aforesaid shall be personally responsible without any limitation of liability, for all or any of the debts or other liabilities of the company. Further, section 542(3) provides that every person who was knowingly a party to the carrying on of the business in the manner aforesaid, shall be punishable with imprisonment for a term which may extend to two years, or with fine which may extend to fifty thousand rupees, or with both.

– Unlimited Liability: Directors will also be held personally liable to the third parties where their liability is made unlimited in pursuance of section 322 which provides that the directors, manager and the member who proposes a person for appointment as director or manager must add to the proposal for appointment as a statement that the liability of the person holding the office will be unlimited. This can also be done by section 323 wherein a limited liability company can if authorized by the Articles, by passing resolution alter its Memorandum so as to render the liability of its directors or of any director or manager unlimited. But the alteration making the liability of director or directors or manager unlimited will be effective only if the concerned officer consents to his liability being made unlimited. Apart from all these liabilities, UK Laws also requires that a Director shall not accept any benefits from the third parties. Section 176 of the Companies Act, 2006 requires that a director must not accept a benefit from a third party for his doing or not doing something anything as director. No such provisions have been mentioned expressly under the Indian Statute. But if we carefully analyze the statute, declaration of interest of a director in any transaction also refers to the similar clause.

-Liability for breach of Statutory Duties: As discussed above, The Companies Act, 1956 provides for various statutory duties on the Directors which attract penal consequences due to non-compliance. Also when director fails to perform these statutory duties under the Companies Act, 1956, they bring themselves within the mischief of the penal provisions of law. The Act defines the term “Officer-in default” under section 5 of the Companies Act, 1956.

– Liability of Directors in relation of torts: The orthodox position is that separate legal entity of a limited company means that a director is not liable for the torts of the company of which he is a director. However his does not mean that there are no circumstances in which the director could find himself liable for torts committed whilst a director of the Company. To make a person liable for a tort, e.g. for negligence, trespass, nuisance or defamation it must be shown that he was himself the wrongdoer or that he was the principal of the wrongdoer that it was under his instructions and guidance the act is been committed in relation to the act complained of as was laid down in the case of Panorama Developments (Guildford) Limited v Fidelis Furnishing Fabrics Limited.

Second form of categorization can be described as:

Civil Liability: Such as the liability for negligence, breach of trust, misfeasance, acting ultra-vires to the memorandum of the company, all of which have already been explained.

Criminal Liability:

Criminal Liability of a Director can be defined as the liability of a person who was so authorized by the company, and the liability is such that the provisions of Indian Penal Code can be actually applied for the illegal act he committed. These provisions of criminal liability have always been in conflict because of the view that since the Company is an artificial person so how could it be punished to a term of imprisonment? But the case of Standard Chartered Bank v. Directorate of Enforcement solved this problem wherein the Supreme Court said that prosecution can be initiated and fine can be imposed against a company even when imprisonment is given as mandatory punishment with fine. Some of the provisions of the Companies Act, which make directors criminally liable, can be illustrated as:

Misrepresenting General public: Under the clause 4 of section 44 of the Act of 1956, if any untrue information is mentioned in a prospectus or statement in lieu of prospectus and in case it being filed by a private company on ceasing to be private company, it shall be a criminal offence and the directors shall be held responsible for it. Also section 63 of the Act, imposes criminal liability on any and every person who authorizes the issue of prospectus containing any untrue statement in it.

– Default in repay of deposits: As per S.58A of the Act, Deposits for the subscription of shares can be invited by issuing an advertisement. But as per clause 5 of the said section, such deposits shall be made as per certain rules and if any deposit is accepted or renewed in contravention of such rules, the company shall repay it within thirty days failing which shall impose criminal liability. Also clause 6 of the same section, talks about the situation regarding the accepting or inviting deposits in excess to the prescribed limits which have been set up in consultation with the Reserve Bank of India.

– Fraudulently inducing people to invest money: As per section 68 of the Companies Act, 1956 it is a punishable offence to fraudulently (and intentionally) induce people in investing money in your companies.

– Failure to repay excess application money: Whenever the issue of shares is over-subscribed, the over subscription portion of money must be sent back to the applicants within a margin of eight days as has been provided under section 73 of the Companies Act, 1956. Failing which shall make the Director criminally liable.

– Concealing/misrepresenting the debts of any creditor: Section 105 of the Companies Act, 1956 makes it a punishable offence on the part of any officer of the company to conceal (knowingly) the name of any creditor or misrepresents the amount of the debts. This section even punishes any kind of abetment that the officer might do in concealment or misrepresentation.

– Liability of Undercharged insolvent when acting as Director:

Such a person is disqualified from being appointed at a managerial office. But in case if any such person discharges the duties of a director, Section 202(2) imposes criminal liability on him.

– Liability for Default in dividend distribution: Section 207 of the Companies Act requires that when a dividend has been declared it should be paid within thirty days from the date of the declaration failing which will attract criminal liability.

– Non- Cooperating in the inspection of books of accounts:

Under Section 209(A) of the Act, a Director is required to provide the book of accounts and other books and papers to inspection by the Registrar or by any such officer as may be authorized by the Central Government. Non- cooperation by the Director shall make him criminally liable.

– Failure to disclose the books of accounts at the annual general meeting: As required by the Companies Act, 1956 it is the duty of the Board of Director, to lie at every annual general meeting the documents like balance sheet, profit and loss Account, etc. Clause 5 of Section 210 lays down the punishment which shall be rendered in case of failure in complying with the requirement as mentioned above. Also Section 211 mentions the format according to which the books of accounts shall be recorded failing which shall also attract punishment for the Board of Directors.

– Honoring the conditions/directions imposed by the Company Law Board: There are certain restrictions imposed by the Company Law Board upon shares and debentures and Section 250(9) of the Act mentions that in case of failure to honor these restrictions, a Director shall be held liable for a criminal offence. Also, Section 407(2) of the Act requires that if the Company Law Board has terminated the services of a Director, he shall honor such direction and shall not act for five years thereafter without the leave of the CLB.

– Duty to disclose interest: It is the duty of the Director to disclose his interest in any contract that he makes with the Company. Such a condition is mentioned under Section 299(4) which suggests that failure in fulfilling such a duty shall attract criminal liability. In the case of M/s. Raj Cylinders &Containers v. Hindustan General Industries Ltd, Delhi High Court observed that where the directors are personally interested in the deal, the contract is to the detriment of the company.

– Duty to disclose the true financial status of the Company: If the director intentionally makes the false declarations regarding the ability of the Company to pay its debts within the specified period, then he shall be criminally liable as under Section 488(3) of the Companies Act, 1956.

– Failure to fulfill other duties: As mentioned under Section 217(5), a report made by the Board of Directors is to be attached mandatorily with the Balance sheet failing which shall attract punishment. Also under section 221(4), it is the duty of the Director to disclose to the company the particulars of any matter pertaining to them which is required to be reflected in accounts. Violation for such a duty shall also render the Director liable for criminal offence.Even for granting of loan to the Director, consent of Central Government is necessary. Under Section 295(4), it is mentioned that if such approval is not taken then the Board of Directors shall attract penalties. Another difference between the laws of both the companies comes into picture over here, as under the English law, members’ approval is required for granting of loans to the directors. Section 17 of the Companies Act, 2006 suggests that a Company may make a loan to Director of the Company if the transaction has been approved by the resolution of the members of the company. Companies Act of U.K. under section 201 also requires that any credit transaction by a company(i.e. public company or a company associated with the public company)  in which the company acts as a creditor for the benefit of the director of the Company requires the approval by a resolution of the members of the Company.

PROVISIONS HAVING DISTINCT MENTIONING UNDER THE ENGLISH LAW

While making a comparison between both the laws, it is important to mention the distinct provisions available under the English laws but did not find their in the Indian statute. Such provisions can be listed as:

– Under Section 232 of the Companies Act, 2006, Legislature has declared all the provisions as void which tries to  exempt a director of a company (to any extent) from any liability that would otherwise attach to him in connection with any negligence, default, breach of duty or breach of trust in relation to the company.

– A Director of a company is bound to be held responsible under section 37 of the Act, if a subsidiary company makes any loan of money or other property to, or provides any security or gives any guarantee in respect of any obligation of, its holding company or a fellow subsidiary, but not a subsidiary of itself, and the director has failed to show the particulars of that loan or security in its annual financial statements for every year during which such loan, security or guarantee exists. The amendment act, 2006 terms it as a punishable offence.

– Section 50(3) makes it an offence for any director to issue or authorize the issue of any notice or other official publication of the company, or to sign or authorize to be signed on behalf of the company, any bill of exchange, promissory note, etc., wherein the company’s name is not mentioned in legible characters. Strict liability applies (i.e. actual knowledge of the offender is not an element of this offence) in such situations.

– Another section that is available under the UK laws but misses its place under the Indian Act is Section 266 which states that if a director has committed any “wrong, breach of trust or breach of faith” and, as a result, the company has suffered damages or loss or has been deprived of any benefit, and the company has not initiated proceedings against the director, then any shareholder under section 266 may serve written notice on the company calling upon it to institute such proceedings.

– Section 299 of the Act of 2006 specifically requires for a director’s report. It states that every company which is not a wholly owned subsidiary is obliged, as part of its annual financial statements, to lay before the AGM a report by the directors “with respect to the state of affairs, business and the profit or loss” of the company and its subsidiaries (if any).The section goes on to say that if any director fails “to take all reasonable steps to ensure compliance with the provisions of S299”, the director shall be criminally liable for fine or imprisonment not exceeding six months or both.

CONCLUSION

Accountability is the most important aspect in any business, because until and unless the person is made accountable to his act he may do the act in pursuance of his own interest. So there should be some mechanism for evaluating the performance of the directors. The extent of liability of a director would depend on the nature of his directorship. And as it is a known fact that most of the Indian Statutes and Laws owe their origin to the English Law, So there is a need of making a comparison of Director’s Liabilities as enshrined in the English Law with that of Indian Law acquires great significance. After analyzing all the things discussed in the paper and making a comparison of the laws of both the countries, author would be critically analyzing the complete scenario. It is evident that the laws of both the countries hold the Directors for criminal as well as civil wrongs. For the time being, the author would just like to say that, although Directors have multifarious liabilities but if they exercise their powers for the good of the Company keeping in mind the benefit of the stakeholders and without any ill, they won’t be made liable and neither they should be made liable for the act they have not done and merely on the basis of their position.

 

BIBLIOGRAPHY:

BOOKS:

  • A Ramaiya, Guide to the Companies Act, Lexis NexisButterwoths Wadhwa,16th Ed, 2008
  • Mortimore, Company Directors duties Liabilities & Remedies, Oxford University Press, 2009
  • LVV Iyer, Guide to Company Directors, Lexis NexisButterworthsWadha, 3rdEdn., 2011
  • Encyclopaedia of Orders, Company Law Board, 1989-2008
  • Palgrave, Company Law, 6thEdn., 2008
  • Pennington, Company Law, Oxford University Press, 8thEdn., 2006
  • Mayson, French, Ryan, Company Law, Oxford University Press, 27th Edn.,2011
  • Nicholas Bourne, Bourne on Company Law, 4thEdn, 2008
  • Martha Bruce, Rights & Duties of Directors, 10thEdn., 2010
  • H.K. Saharay, Company Law, Delhi: Universal Law Publishing Company, 5thEdn., 2008
  • Sealy & Worthington, Cases & Materials in Company Law, Oxford University Preess, 9thEdn., 2010
  • MajumdarA.K.,andKapoor G.K. ‘Company Law and Practice’ , Edn. 15th , 2010
  • Singh Avtar, Company Law, Edn 15th, 2010
  • BOWMAN GILFILLAN, Duties and Liabilities of Directors and the Corporate Laws Amendment Act, 2006.
  • EDWARD SMERDEN, Directors Liability and Indemnification, (2007).

STATUTES

  • Companies Act, 1956 (India)
  • Companies Act, 2006 (England)

ARTICLES

  • Gordon N, “The Rise of Independent Directors in the United States, 1950-2005: Of Shareholder Value and Stock Market Prices”, 59, Stanford Law Review,  2007
  • Sunday Times, ‘What is my liability as a Company Director’, December 11, 2007

OTHER AUTHORITIES

http://libcat.icaew.co.uk/uhtbin/cgisirsi.exe/x/SIRSI/0/5?searchdata1=%27directors%27%20responsibilit$%27%7B690%7D&pubyear=%3E2005&sort_by=-PBYR&user_id=WEBSERVER

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1 thought on “DIRECTORS LIABILITY IN INDIA: AN ANALYTICAL NOTE MAKING A BRIEF COMPARISON WITH THE ENGLISH LAW”

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