What the Limit Actually Measures
Section 186(2) does not cap a single transaction. It caps the aggregate of four categories at any point in time: loans, guarantees, securities, and investments in securities of other bodies corporate. The compliance question is therefore not “how much is this loan?” but “what is the total outstanding exposure across all four categories, and does it remain within the outer boundary?” A company that monitors each transaction in isolation but never aggregates the book can cross the limit without any single approval file showing a breach.
The Two Formulas and the Higher-of Rule
The prescribed limit is the higher of two computations: sixty per cent of the sum of paid-up share capital, free reserves, and securities premium account; or one hundred per cent of free reserves plus securities premium account. The “higher of” structure means a company with a large free-reserve base may have a limit driven by the second formula, while a company with substantial paid-up capital may be governed by the first. The practical consequence is that the limit must be recalculated after every balance-sheet change, not fixed at the start of the year.
Worked Example and the Aggregation Trap
If paid-up capital is ₹50 crore, free reserves ₹80 crore, and securities premium ₹20 crore, the first formula yields ₹90 crore (60% of ₹150 crore) and the second yields ₹100 crore (100% of ₹100 crore). The limit is ₹100 crore. If outstanding loans, guarantees, and investments total ₹98 crore, a new ₹5 crore loan is not a standalone board matter; it takes the aggregate to ₹103 crore and triggers the special resolution requirement. The approval must be obtained before disbursement, not ratified afterwards.
The Three-Tier Approval Chain
Every transaction covered by Section 186 requires a board resolution at the first tier, regardless of amount. The resolution must be passed at a meeting, not by circulation, and interested directors must disclose and abstain. The second tier is the special resolution, required once the aggregate crosses the prescribed limit. The third tier is the disclosure layer: the financial statements must record the details of loans, guarantees, and investments, and the board’s report must disclose the purpose and the recipient’s identity.
A special resolution under Section 186 does not dispense with the board resolution. It sits above it. Advising a client that shareholder approval “covers” the transaction and that no further board step is required is a recurring error in transaction files.
Inter-Corporate Deposits and the Rate-of-Interest Condition
Section 186(7) requires that a loan under this section carry a rate of interest not lower than the prevailing yield on one-year, three-year, five-year, and ten-year government securities closest to the tenor of the loan. An ICD priced below the G-sec benchmark is a statutory violation even if the aggregate limit is respected and the board resolution is in place. The loan agreement should record the benchmark and the tenor to make the pricing defensible on the face of the document.
When the Limit Does Not Apply
The 60%/100% ceiling does not restrict a company from taking loans or deposits; it restricts the deployment of funds, not the receipt. A loan to a wholly owned subsidiary is exempt from the special resolution requirement, but the board resolution and disclosure obligations remain. A guarantee given in the ordinary course of a lending business may fall outside the section, provided the company is genuinely in the business of lending and the guarantee is not a device to benefit a related party.
Compliance Architecture
Maintain a rolling Section 186 register that aggregates outstanding loans, guarantees, securities, and investments at the close of each board meeting. Recompute the two formulas against the latest audited balance sheet and flag headroom before approving any new deployment. Where the headroom is less than the proposed amount, route the matter through a special resolution in the same meeting cycle rather than after disbursement.
Call to Action: For Section 186 limit certification, resolution drafting, or an inter-corporate exposure review, contact office@anujdesaiassociates.com or 9619456656. Website: https://anujdesaiassociates.com. LinkedIn: linkedin.com/in/ca-anuj-desai-122547230.