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Partnership firm in trouble! Can I mortgage Industrial Land owned by family's private limited firm, despite Section 185?

Harsh Bharwani | Answer |Ask -Follow

Entrepreneurship Expert - Answered on Oct 03, 2024

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Question by Naman on Sep 14, 2024Hindi

My family have a private limited firm which owns a industrial land where my firm ( partnership firm) manufacture goods. Im taking loan from bank by mortgaging the Land, but the banker told me that due to sec185 violation they could not go ahead. The partnership firm has me and my dad as partners. The private limited firm owns the land and only get revenue by rent from partnership firm, the directors in Pvt limited is my mother and chacha and his son. Shareholding is also distributed amongst the directors where my mother owns 51% and chacha family owns 49%. Can there be any exception to sec 185 to get the land mortgaged in bank and get funding for business.

Ans: It seems you are in a bit of a complicated situation regarding the structure of your business, as well as the banking concern related to Section 185 of the Companies Act, 2013. Section 185, prohibits companies from granting loans, providing guarantees, or furnishing security to any of its directors or firms/organizations wherein the directors are interested. In your case, since it is a private limited firm and your family members are involved with the firm as directors and shareholders. This may be raising red flags in the mind of the bank.

But how this is done will also depend on how you see it, as there are certain exceptions laid down in Section 185(2), A firm can provide loans or offer security to another firm where the directors or their relatives have an interest, but only if certain conditions are met. The main requirement is passing a special resolution in the company's general meeting. Additionally, the loan or security must be given as part of the company's normal business activities and at fair, market-based rates.
Since your mother owns 51% of the private limited company, you could propose passing this special resolution with her support. You’ll need to make sure that the terms of the loan or mortgage are transparent and in the company’s best interest, not just yours or your father’s as partners in the partnership firm.
It may also prove helpful to contemplate seeking professional legal advice to examine whether restructuring the business in some ways can bypass restrictions. For example, this could be the creation of a slightly more divided ownership structure or an agreement to lease to satisfy some of the bank's concerns.
You should also go back to the bank and explain them all these. They may have some suggestions or might point you to some specific provisions of which if you meet them they may be in a position to consider advancing the mortgage to you.

Bottom line is to avoid the appearance that the private limited firm is lending to directors or their immediate family members in violation of legal regulations, so if you can structure the transaction so that it looks like an arrangement within the bounds of the law, then, for business finance purposes, you should be okay to go ahead with the loan using the property as security.

Hope this helps, and best of luck!