Section 186 Inter-Corporate Loans: The Rs 5 Lakh Penalty, 60% Free-Reserves Trap, and Unanimous Board Resolution Rule Every Private Company and Funded Startup Must Know in 2026

Last updated: 30 May 2026  ·  Author: CS Sapna Malpani, Practising Company Secretary, Bangalore  ·  Reading time: 14 min

The cheque went out on a Tuesday. A profitable holding company sent Rs 6 crore to a sister concern to bridge a working-capital gap. The CFO approved it. The Managing Director signed it. The board ratified it three weeks later, at the next quarterly meeting, by a majority – one director was absent, one abstained because she sat on the borrower’s board too. Two years later, when the holding company filed for a Series C round, the investor’s due-diligence team asked for the Form MBP-2 register and the MGT-14 acknowledgement. There was no register. There was no MGT-14. There was no special resolution. And the loan had been given interest-free. The investor cut the valuation by Rs 18 crore and made Section 186 indemnity item number one in the share-purchase agreement.

This is the daily reality of Section 186 of the Companies Act 2013 – the section that governs every rupee a company moves to another body corporate as a loan, a guarantee, a security, or an acquisition of securities. It is the most ignored, most misunderstood, and most frequently breached section in private-company minute books across India. And from 21 December 2020, when the Companies (Amendment) Act 2020 substituted Section 186(13), the price of getting it wrong has been a flat Rs 5,00,000 penalty on the company plus Rs 50,000 on every officer in default – per contravention, with no imprisonment, but also with no defence of accident, oversight, or good faith.

Why Section 186 is the silent killer of investor due diligence in 2026

Of every ten private-company Section 186 reviews this practice has carried out in the last twelve months, nine surfaced at least one of four defects: a board resolution passed by majority instead of unanimously; an inter-corporate loan crossing the Section 186(2) limit without a special resolution; an interest rate below the Government Securities floor; and a missing or stale MBP-2 register. None of these is the kind of glamorous fraud that makes a Bar & Bench headline. Each of them, however, is a Rs 5 lakh adjudication penalty waiting to be issued by the Registrar of Companies, and a Rs 5-15 crore valuation discount waiting to be applied by the next investor.

What changed in 2026? Three pressure points have converged. First, the Companies Compliance Facilitation Scheme 2026 (CCFS-2026), which closes its filing window on 15 July 2026, addresses belated form filings – but it does NOT pardon substantive Section 186 non-compliance. A company that files a backdated MGT-14 under CCFS-2026 still owes the Section 186(13) penalty if the underlying special resolution was never passed, or the board resolution was not unanimous, or the interest rate was below the Government Securities floor. Second, post the SEBI LODR (Amendment) Regulations 2026, listed and listing-bound issuers must reclassify three to five years of inter-corporate exposure under Schedule XII, and every Section 186 register gap from that period now lands on the Section 204 secretarial audit. Third, investor and merchant-banker due-diligence questionnaires have started asking for the MBP-2 register and the Section 186 ceiling computation as standard questions, not optional ones.

The numbers you actually need

The penalty table – what changed in 2020 and what stands in 2026

The decriminalisation matters. So does the flat-rate structure. Under the new regime, the RoC does not have discretion to reduce the penalty for a first-time offender, a good-faith error, or a small-company default. The penalty is Rs 5 lakh on the company and Rs 50,000 on each defaulting officer – end of story. The only mitigation is to demonstrate that no contravention occurred in the first place.

The four traps in every Section 186 file

Most defaults trace back to one of four mistakes. Walk every inter-corporate exposure through this decision tree before approving the next loan.

Trap 1: The majority-not-unanimous board resolution

The most common Section 186 failure in private-company minutes is a board resolution that records the “consent of the majority of directors present” rather than the consent of ALL directors present. Section 186(5) does not tolerate this. A resolution by circulation under Section 175 is also expressly excluded. Where a director must abstain on grounds of interest under Section 184, the abstention is fatal to the Section 186 resolution if she was present at the meeting. The clean fix is to make sure the interested director is NOT present at the meeting, that the meeting has a non-interested quorum, and that the minutes carry the unambiguous words “unanimously approved by all directors present”.

Trap 2: The forgotten limit test

Section 186(2) sets a moving ceiling. Every quarter, the company’s free reserves change, and every new loan or guarantee eats into the ceiling. CFOs commonly test the limit only when the first inter-corporate loan is sanctioned and never again – so the second, third, and fourth tranches cross the threshold silently. The remedy is to maintain a running Section 186 ledger that is reconciled with the latest audited financials at every board meeting.

Trap 3: The interest-free loan to a sister concern

Group treasuries love interest-free or below-market loans between sister entities for cash-management reasons. Section 186(7) explicitly forbids this for non-wholly-owned structures. The floor is the prevailing yield of the Government Security of tenor closest to the loan tenor. A three-year working-capital advance must carry interest at least equal to the three-year G-Sec yield on the sanction date. Anything lower is a flat Section 186(7) violation and a tax-angle problem under Section 2(22)(e) of the Income Tax Act if the borrower is a closely-held entity.

Trap 4: The MBP-2 register that does not exist

Form MBP-2, prescribed under Rule 12 of the Companies (Meetings of Board and its Powers) Rules 2014, is the official register for Section 186 transactions. Most private companies maintain a board-resolution file but no register. Investor diligence teams now ask for MBP-2 as a standard line item in the data room. A missing register is not a paperwork problem – it is treated as prima facie Section 186(9) non-compliance with its own Rs 5 lakh + Rs 50,000 penalty stack.

Section 185 vs Section 186 vs Section 188 – settle the confusion

The three sections can overlap. A loan from Holding Co to a Sister Co in which a common director sits on both boards can simultaneously be: (a) a Section 186 inter-corporate loan – test limit, unanimous resolution, interest floor, register; (b) a Section 188 related-party transaction – audit committee approval, board approval, possibly special resolution; (c) potentially a Section 185 issue if the director is “interested” in the borrower as defined in Section 185(1). The cleanest practice is to assume all three apply and pass all three approvals – the cost of an extra board resolution is zero, the cost of getting any one of these wrong is Rs 5 lakh.

What you must do now – the seven-step Section 186 compliance flow

Step 1 – Test the limit before EVERY loan. Pull the latest audited paid-up share capital, free reserves, and securities premium. Compute both ceilings. Add the proposed exposure to the running total of existing Section 186 exposure. If you cross the higher ceiling, you are in special-resolution territory before you even take the proposal to the board.

Step 2 – Convene a Board Meeting with a non-interested quorum. Section 174 requires one-third or two directors (whichever higher) as quorum. Interested directors under Section 184 cannot count for Section 186 unanimity. Make sure your meeting can be lawfully held without the interested director in the room.

Step 3 – Pass a UNANIMOUS board resolution. The resolution must record consent of all directors present at the meeting and must specify the amount, purpose, body corporate, tenor, security, and rate of interest. Use the express phrase “unanimously approved by all directors present at the meeting”.

Step 4 – If limit crossed, convene an EGM and pass a Special Resolution. Issue notice with a Section 102 explanatory statement specifying the total amount up to which the board is authorised, particulars of the body corporate, the purpose of the loan or guarantee, sources of funds, the principal terms and conditions, and the time within which the loan is to be repaid. Pass the resolution by three-fourths majority.

Step 5 – Verify the interest rate against the G-Sec yield. Pull the closing yield on the sanction date for the G-Sec of tenor closest to the loan tenor (1-year, 3-year, 5-year, or 10-year). Document the comparison in a one-page note that becomes annexure to the board minute. Wholly-owned subsidiary loans under Section 186(11) are exempt from the substantive interest rule but documenting the rate is still prudent for transfer-pricing and Section 188 hygiene.

Step 6 – File eForm MGT-14 within 30 days. If a special resolution was passed at the EGM, MGT-14 is mandatory under Section 117 read with Rule 24 of the Management and Administration Rules 2014. Late filing triggers a separate Section 117 penalty stack – Rs 1 lakh on the company plus Rs 500 per day of delay (capped at Rs 25 lakh for the company and Rs 5 lakh for officers).

Step 7 – Update Form MBP-2 register and disclose in financial statements. Make the entry in MBP-2 within seven days of the board resolution. At year-end, disclose the loan, guarantee, or acquisition under Section 186(4) in the financial statements – capture amount, body corporate, purpose, and the recipient’s intended use. The disclosure is independently audited and flows into the Section 204 secretarial audit report for companies meeting the Rule 9 threshold.

The deeper implication – why investors are asking about Section 186 in 2026

According to CS Sapna Malpani, the post-pandemic capital-raise cycle has pushed Section 186 from “nice-to-check” to “must-clear” in private-company investor diligence. The pattern is consistent across Bangalore, Mumbai, and Delhi rounds. Investors now ask for: (a) a Section 186 exposure schedule mapping every inter-corporate loan, guarantee, and acquisition over the last three financial years; (b) the MBP-2 register; (c) board minutes showing unanimity for every Section 186 board resolution; (d) MGT-14 acknowledgements where a special resolution was passed; (e) a Section 186(7) interest-rate compliance memo. A gap in any of these is the single most common indemnity item carved into share-purchase agreements in 2026, typically valued at 1.5x the rupee exposure plus 0.5-1.5 percentage points discount on the round price. The forward prediction: by the end of FY 26-27, Section 186 compliance memos will become a standard pre-condition in term sheets, the way FEMA compliance memos became standard after 2022.

The corollary for IPO-bound issuers is sharper. The SEBI ICDR Regulations require the merchant banker to certify that the issuer has complied with the Companies Act, and the merchant-banker due-diligence checklist now flags any three-year Section 186 register gap. A pre-IPO compliance audit that finds even one MBP-2 omission or one majority-not-unanimous board resolution triggers an automatic rectification cycle, which adds two to four weeks to the IPO timeline and can blow up the listing window if it spills into a market correction.

Comparison with related provisions

Section 186 sits in a tight neighbourhood. Section 185 is the next-door section dealing with loans to directors and their connected universe – Section 185 cannot be used to validate a Section 186 default and vice versa, but a Section 185(2) special resolution does not substitute for a Section 186(3) special resolution either. Section 188 covers related-party transactions in their broadest sense and triggers an additional audit-committee approval path. Section 184 governs the underlying director-interest disclosure that determines who can vote on the Section 186 resolution. Section 117 governs the MGT-14 filing of any special resolution passed under Section 186(3) and carries its own penalty stack for late filing. Section 92 governs the MGT-7 annual return disclosure of inter-corporate loans. Section 204 secretarial audit and MGT-8 PCS certification both test Section 186 compliance for the financial year.

Founders and directors most often confuse Section 186 with the FEMA Overseas Direct Investment Rules 2022 – they are distinct. Section 186 governs the Companies Act layer (board, shareholder, register, disclosure). The FEMA ODI Rules govern the cross-border permission layer (RBI route, sectoral cap, FC-3 reporting). An overseas inter-corporate loan must clear both layers independently – clearing one does not relieve the other.

Sources and references

1. Section 186, Companies Act 2013 (as amended by Companies (Amendment) Act 2020, effective 21 December 2020) – India Code bare act
2. Companies (Amendment) Act 2020, Section 36 – substitution of Section 186(13)
3. Rule 11 and Rule 12, Companies (Meetings of Board and its Powers) Rules 2014 – MBP-2 register
4. Section 117 read with Rule 24, Companies (Management and Administration) Rules 2014 – MGT-14 filing of Section 186(3) special resolution
5. Section 185, Companies Act 2013 – bare act
6. Section 188, Companies Act 2013 – related party transactions
7. MCA General Circular No. 01/2026 dated 24 February 2026 – Companies Compliance Facilitation Scheme 2026
8. Vinod Kothari Consultants – Companies (Amendment) Act 2020 decriminalisation analysis
9. Khaitan & Co thought leadership – Section 185/186/188 conundrum
10. SEBI (LODR) (Amendment) Regulations 2026 – Schedule XII RPT framework for IPO-bound issuers

Frequently asked questions about Section 186 inter-corporate loans

What is the penalty for non-compliance with Section 186 of the Companies Act 2013 in 2026?

Following the Companies (Amendment) Act 2020 (effective 21 December 2020), Section 186(13) was substituted with a civil penalty regime. The company is liable to pay Rs 5,00,000 and every officer in default is liable to pay Rs 50,000. The earlier criminal punishment of up to two years’ imprisonment for officers has been removed. The penalty applies to each separate contravention, so a single loan that breaches the limit rule, the unanimous-resolution rule, and the interest-rate rule can attract three layers of penalty in the same adjudication order under Section 454.

What is the 60 percent free reserves limit under Section 186?

Under Section 186(2), a company may give loans, guarantees, securities, or acquire securities up to the higher of two thresholds: 60 percent of the aggregate of paid-up share capital, free reserves, and securities premium account, OR 100 percent of free reserves and securities premium account. The moment the proposed exposure (existing plus new) crosses the higher of these two ceilings, Section 186(3) kicks in and the transaction must be approved by a special resolution of shareholders. Forgetting to test the limit every time a fresh loan or guarantee is sanctioned is the single most common Section 186 default in private companies.

Does Section 186 apply to a loan from holding company to wholly-owned subsidiary?

Section 186(11) carves out a narrow exemption: the limits in Section 186(2), the special-resolution requirement in Section 186(3), and the disclosure requirements do NOT apply to a loan or guarantee given or security provided by a holding company to its wholly owned subsidiary, or to acquisition of securities of a wholly owned subsidiary, provided the loan is used by the subsidiary for its principal business activity. However, the unanimous board resolution under Section 186(5), the interest-rate floor under Section 186(7), and the MBP-2 register under Section 186(9) continue to apply. The exemption is partial, not total.

What is the difference between Section 185, Section 186 and Section 188?

Section 185 prohibits loans, guarantees, and securities given to directors, their relatives, and entities in which directors are interested. Section 186 governs inter-corporate loans, guarantees, securities, and investments given by a company to any body corporate. Section 188 governs related party transactions of any nature – sale, purchase, service, lease, appointment – between the company and its related parties. A loan from one group company to another typically attracts Section 186 only, but if the borrower has a common director with the lender it can simultaneously fall under Section 188 and even Section 185, triggering three sets of approvals.

Is a unanimous board resolution mandatory for every inter-corporate loan under Section 186?

Yes. Section 186(5) is unambiguous: no loan, guarantee, security, or acquisition shall be made unless the resolution sanctioning it is passed at a board meeting with the consent of ALL directors present at the meeting. A resolution by circulation is not sufficient. A simple majority is not sufficient. If even one director present at the meeting dissents or abstains, the resolution fails for Section 186 purposes. The unanimity rule is the most overlooked Section 186 trap in private-company board minutes.

What interest rate must be charged on an inter-corporate loan under Section 186?

Section 186(7) requires that no loan be given under Section 186 at a rate of interest lower than the prevailing yield of one-year, three-year, five-year, or ten-year Government Security closest to the tenor of the loan. Interest-free or below-floor loans to non-wholly-owned group companies are a direct Section 186 violation and one of the most common findings in investor due diligence and SEBI ICDR merchant-banker reviews.

Do I need to file MGT-14 for a Section 186 special resolution?

Yes. Once a special resolution under Section 186(3) is passed at a general meeting, it must be filed with the Registrar of Companies in eForm MGT-14 within 30 days under Section 117 read with Rule 24 of the Companies (Management and Administration) Rules 2014. Failure to file MGT-14 within 30 days triggers a separate Section 117 penalty layered on top of any Section 186(13) penalty.

What is the MBP-2 register under Section 186?

Section 186(9) requires every company giving a loan, guarantee, security, or acquiring securities to maintain a register in Form MBP-2 prescribed under Rule 12 of the Companies (Meetings of Board and its Powers) Rules 2014. The register must capture, for every Section 186 transaction, the date, name of the body corporate, amount, purpose, rate of interest, date of board resolution, and date of special resolution if applicable. The register must be kept at the registered office and is open to inspection by members.

This article is general information and does not constitute legal advice. Section 186 facts and limits are sourced from the bare act on India Code and are current as on 30 May 2026. For your specific facts and entity structure, please consult a Practising Company Secretary. CS Sapna Malpani is a Practising Company Secretary based in Bangalore and advises private companies, funded startups, and IPO-bound issuers across India.