Company Law for Startups (Part 8): Related Party Transactions, Director Loans and Deposits
Sections 184, 185, 186, 188, deposit rules and charges explained for startups: founder loans, family payments, DPT-3 and CHG-1.
A founder lends Rs 40 lakh to his own company. Another company owned by his brother is paid a monthly retainer. A third director borrows Rs 10 lakh from the company for a house. All three are common, and each is regulated by a different section.
- Part 1: Incorporation
- Part 2: ROC annual filings
- Part 3: Director duties
- Part 4: Share capital and ESOPs
- Part 5: Strike-off and closure
- Part 6: Penalties and defaults
- Part 7: Board meetings, AGM and minutes
- Part 8: Related party dealings, loans and deposits (you are here)
1. Which section applies?
| Situation | Section | Key point |
|---|---|---|
| Director has interest in a contract | 184 | Disclose in MBP-1 at the first board meeting of the year and whenever interest changes; interested director does not vote |
| Company lends to a director or a firm or company in which a director is interested | 185 | Generally prohibited, with exceptions; private companies have a notified relaxation on conditions (confirm) |
| Company lends, gives guarantee or invests in other companies | 186 | Limits and board or shareholder approval; interest not lower than government security yield |
| Sale, purchase, services, leasing, appointment to a paid office with related party | 188 | Board approval; register and disclosure; arm’s length test |
| Company accepts money from directors, relatives or others | 73 and Deposit Rules | May be exempt from “deposit” status if conditions are met; return DPT-3 |
| Company mortgages or hypothecates assets to a lender | 77 | Register charge in CHG-1 within 30 days |
2. Loans to directors: Section 185
The default rule is that a company cannot lend to its directors, to persons in whom a director is interested, or give guarantees or security for their loans. Loans to a managing or whole-time director under a scheme applicable to employees are an exception. A loan to an entity in which a director is interested is allowed with a special resolution and use for the borrower’s principal business. A government notification of 5 June 2015 relaxed Section 185 for private companies if no body corporate holds its shares, borrowings from banks, financial institutions or bodies corporate are below twice paid-up capital or Rs 50 crore (whichever is lower), and there is no default in repaying borrowings (confirm the conditions and current status).
Penalty (confirm): company fine of Rs 5 lakh to Rs 25 lakh; officer in default imprisonment up to 6 months or fine of Rs 5 lakh to Rs 25 lakh, or both; the director who took the loan faces similar exposure.
3. Loans, guarantees and investments: Section 186
- Limit: loans, guarantees, security and investments together up to 60% of paid-up capital, free reserves and securities premium, or 100% of free reserves and securities premium, whichever is higher. Beyond that, a special resolution is needed.
- Approval: board resolution passed at a meeting with the consent of all directors present; prior bank approval where a term loan from a lender is outstanding.
- Interest rate: not lower than the prevailing yield on government securities of matching tenor.
- Register: MBP-2, and disclosure in the financial statements.
- Exempt items: certain transactions with wholly owned subsidiaries and loans in the ordinary course of business of a lending company (confirm).
ComplianceKart checks the sections, approvals, interest and filings before the money moves, so the company stays clean for audit and funding. See our startup compliance service.
4. Related party transactions: Section 188
Section 188 covers sale, purchase or supply of goods and property, leasing, availing or rendering of services, appointment of a related party to an office or place of profit, and underwriting subscription of securities. Related parties include directors, key managerial personnel, their relatives, firms and companies in which they hold interests, and holding, subsidiary and associate companies.
| Step | What to do |
|---|---|
| Identify | Maintain a list of related parties from director disclosures |
| Test | Is the transaction in the ordinary course and at arm’s length? If both, Section 188 approval is not required (confirm for your facts) |
| Approve | Board approval at a meeting, with the interested director abstaining. Shareholder approval applies to larger or public companies as per Rule 15 (a private company relaxation exists; confirm) |
| Record | Enter in the contracts register (MBP-4) |
| Disclose | Form AOC-2 with the Board’s report for transactions that are not ordinary course or not arm’s length (confirm applicability); note in financial statements per accounting standards |
Penalty (confirm): for a non-listed company, fine from Rs 25,000 up to Rs 5 lakh on the company and officers in default, plus recovery of any loss caused by the transaction from the concerned director.
5. Money coming in: founder loans and deposits
| Source | Treatment (confirm for the facts) |
|---|---|
| Equity share capital | Not a deposit; follow the allotment procedure in Part 4 |
| Loan from director or relative of director (private company) | Exempt from deposit rules if the director gives a written declaration that the money is not borrowed from others; disclose in the financial statements |
| Loan from a member (private company) | Exempt up to the limit in the Deposit Rules (confirm) with a similar declaration |
| Startup company: unsecured loan from directors or their relatives | Exempt for a defined period from incorporation, with disclosure (confirm period and conditions) |
| Loan from friends and outsiders | Likely a “deposit” and prohibited for a private company beyond the exemptions |
File Form DPT-3 by 30 June each year for outstanding exempt receipts as at 31 March (confirm). Keep loan agreements, bank proof of source and the director’s declaration in the file.
6. Charges: Section 77
When the company gives security to a bank or lender, file CHG-1 within 30 days of creation. The Registrar can condone delay up to 300 days with additional fees. Satisfaction of charge is filed in CHG-4. An unregistered charge is not valid against a liquidator or creditors. Penalty for default is under Section 86 (confirm quantum).
7. Mistakes startups make
- Founder advances treated as “loans” without agreement, interest or declaration.
- Paying family members or firms without board approval or documentation.
- Giving director advances that fall under Section 185.
- Raising money from friends as loans in breach of the Deposit Rules.
- No MBP-1 disclosure at the start of each year.
- Not registering a bank charge.
Why work with ComplianceKart
ComplianceKart is a boutique practice bringing Chartered Accountants, Company Secretaries and advocates under one roof. Think of a multi-speciality hospital: the physician, the radiologist and the pharmacist read from one patient file, so you never carry reports between buildings. Related party and loan rules touch company law, income tax (for interest, TDS and Section 40A(2)) and contract drafting. One team sees all three.
Frequently Asked Questions
Can a director lend money to his own company?
Yes, as a loan from a director, subject to the declaration and disclosure requirements.
Can a company give a loan to a director?
Generally not under Section 185, except in the permitted cases or under the private company relaxation on conditions.
Is a related party contract at arm’s length exempt?
Section 188 approvals are not needed for ordinary course and arm’s length transactions, but disclosure duties may still apply.
Is a loan from a friend allowed?
It is likely a deposit and is risky for a private company beyond the exemptions.
When should a charge be filed?
Within 30 days of creation, with a condonation route up to 300 days on additional fees.
Sources
- Companies Act, 2013: sections 73, 77, 86, 184, 185, 186, 188, 189
- Companies (Acceptance of Deposits) Rules, 2014; Companies (Meetings of Board and its Powers) Rules, 2014
- MCA notification of 5 June 2015 (exemptions to private companies) (confirm current status)
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Educational article, last updated 11 November 2026. General information, not advice on a specific case. Laws and due dates change; confirm on the date you act. Items marked (confirm) came from secondary sources and need checking against the official text.
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