Directors Liability in India

By Divya Momaya

Jun 10 th 2021

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Director liability in India can be divided into two principal areas: (1) liability under the Companies Act of 1956 (the 1956 Act), now transitioned to the Companies Act of 2013 (the 2013 Act); and(2) liability under other Indian statutes like Income Tax Act, Negotiable Instruments Act, Labour Laws, EHS etc.Section 166 of the Companies Act, 2013 mentions about the fiduciary duties of the directors which includes that the director shall exercise his duties with due and reasonable care, skill and diligence and should not attempt to achieve or attempt to achieve any undue advantage either to himself or to any of his relative. If the director takes the undue advantage, then, it shall be held liable to pay an amount equal to that gain to the company and he shall be liable to pay fine which shall not be less than rupees one lakh and but which may extend to five lakh rupees.In order to fasten the conditions of liability on the Independent and Non-Executive Directors, section 149(12) of the Companies Act, 2013 states that an Independent Director and a Non-Executive Director not being promoter or KMP shall be held liable, only in respect of such acts of omission or commission by a company which had occurred with his knowledge, attributable through Board processes, and with his consent or connivance or where he had not acted diligently.Companies Act 2013 provides statutory recognition to the duties of a director, such as exercise of due and reasonable care, skill, diligence, and independent judgement. One of the key concepts of Companies Act, 2013 emphasize on the term ‘Officer in Default’. By the virtue of their positions in the Company, directors and Key Managerial Personnel (KMPs) directly fall under the ambit of the term. Under the provisions of Companies Act, 1956, KMPs like Chief Executive Officers (CEO) and Chief Financial Officers (CFO) were not covered under by the term ‘Officer in Default’ which raised serious concerns on the governance standards. However, the current Companies Act has corrected this anomaly and significantly expanded the scope of the term ‘Officer in Default’ which includes:·  

Whole-Time Director·  Key Managerial Personnel (Managing Director or Chief Executive Officer or Manager and in their absence, a Whole-Time Director)·      Where there are no key managerial personnel, such director or directors as specified by the Board in this behalf and who has or have given his or their consent in writing to the Board to such specification, or all the directors, if no director is so specified;·

  Any person who, under the immediate authority of the Board or any key managerial personnel, is charged with any responsibility including maintenance, filing or distribution of accounts or records, authorizes, actively participates in, knowingly permits, or knowingly fails to take active steps to prevent, any default;·  

  Any person in accordance with whose advice, directions or instructions the Board of Directors of the company is accustomed to act, other than a person who gives advice to the Board in a professional capacity;· 

 Every director, in respect of a contravention of any of the provisions of this Act, who is aware of such contravention by virtue of the receipt by him of any proceedings of the Board or participation in such proceedings without objecting to the same, or where such contravention had taken place with his consent or connivance;·       

 In respect of the issue or transfer of any shares of a company, the share transfer agents, registrars and merchant bankers to the issue or transfer;Corporate governance failures in India have majorly been associated with the Board not performing their duties with due-care. We have also come across instances where investors discovered that money had been siphoned off by promoters through related-party or customer-vendor transactions. Therefore, in order to safeguard the interest of investors in the Company, the new Companies Act has clearly defined the term ‘fraud’ under section 447 which includes any act or abuse of position committed with intent to deceive, to gain undue advantage from, or to injure the interests of a person, company, shareholders, or creditors, whether or not there is wrongful gain or loss.It is very important to understand that an act of resignation may protect a director from subsequent defaults however, as per the clarity given under section 168(2) of the Companies Act 2013, the director who has resigned shall be liable even after his resignation for the offences which occurred during his tenure.It is a settled law in India that the companies are made criminally liable for the offences committed by its employees in their course of employment however, on the other way round, the Courts have repeatedly held that the employees cannot be held liable for the acts of the Company. Yet, considering Indian perspective, it is important for the directors to hedge their risks via:·    

  Directors must insist on the indemnification clause in the shareholders agreement and also in the appointment letter issued by the Company. The foregoing mechanism will help the directors to safeguard themselves in case of any claim arising from any third party due to their bonafide actions in the company.·     

   Directors must push the Company to obtain Directors and Officers Liability Insurance in the company to hedge against any pecuniary liability arising on the directors and liability of the company.·        For the purpose of liability, the participation of director in the meeting is immaterial as the director shall be deemed to be liable if the information as to a contravention is contained in any of the proceedings of the board received by him. Therefore, it is critical for the directors to ensure that any objection raised by them at a board meeting is duly recorded in the minutes and any minutes received by them should be duly read.

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