India Sneaks Up On Significant Beneficial Owners: Didn't You Get The Memo?

India recently released the Companies (Significant Beneficial Owners) Amendment Rules, 2018. The Government thereafter modified these rules with the Companies (Significant Beneficial Owners) Amendment Rules, 2019 ("SBO Rules") effective from February 8, 2019. Since the idea of ensuring greater accountability and transparency over beneficial ownerships is relatively new, the SBO Rules will have to withstand the test of time

India awaits similarly stumped reactions as that of Earle in Batman Begins, as the revised significant beneficial ownership rules kick in. India recently released the Companies (Significant Beneficial Owners) Amendment Rules, 2018, implementation of which was suspended because of ambiguities and issues raised by various takeholders. The Government thereafter modified these rules with the Companies (Significant Beneficial Owners) Amendment Rules, 2019 ("SBO Rules") effective from February 8, 2019. The SBO Rules defines a 'significant beneficial owner', its applicability and mandates better accountability for corporates.

Who is a 'significant beneficial owner'?

The SBO Rules envisage to identify individuals, who, acting alone or together or with one or more persons, directly/indirectly holds/has (a) not less than 10% shares, (b) not less than 10% voting rights, (c) right to receive or participate in not less than 10% of any distributions (dividends or otherwise), (d) right to exercise or actually exercises significant influence or control in a reporting company.

While the modified definition of a 'significant beneficial owner' provides clarity, addition of 'indirectly' expands the applicability multi-fold bringing complex legal structures under scrutiny. The Government's lens will not only remain restricted to legal owners of shares, but will also extend to the ultimate individuals holding majority stake in an entity or in case of a trust, a trustee, beneficiary or a settlor. In case of a pooled investment vehicle or an entity controlled by such vehicle, disclosures extend to general partners, investment managers or even the CEO where the investment manager of such pooled vehicle is a body corporate or partnership.

It is worth noting that a distinction has been made between significant influence, control and majority stake. While majority stake is a marginally restricted definition in contrast with 'control' it nevertheless expands the realm of applicability of SBO Rules. 'Significant Influence' on the other hand is defined to mean the power to participate, directly or indirectly in financial and operational policy decisions of the reporting company but is 'not in control or joint control of these policies'. This is intended to possibly include individuals who may influence the policies by means of an agreement, even if the shareholding (direct or indirect) is below prescribed thresholds.

Significance?

Legally, companies being separate legal entities could serve as conduits for illicit purposes such as tax evasion, money laundering or terrorist financing. The Financial Action Task Force (FATF), an independent inter-governmental body develops policies to protect the global financial system against money laundering and terrorist financing and has provided guidelines to assist law enforcement agencies to 'follow the money' in financial investigations involving corporates. India, like the UK will also be adopting a system of a register of SBOs, open to any member for a fee.

Boon or bane considering corporate governance?

In the guise of good corporate governance, one may be optimistic about disclosure obligations on disguised owners of shares. However, practical difficulties may arise in this identification. USA and UK view such rules as an anti-money laundering tool, assisting in law enforcement and monitoring. Adopting transparent governance practices is a welcome move but non-compliance could result in an order for suspension of voting rights or right to receive any distributions to fine and/or imprisonment up to 1 year. Moreover, the reporting company is additionally obligated to give notice to any person it has a reasonable cause to believe is an SBO and is not yet disclosed.

Advantages include: Better visibility to reporting companies on ultimate godmothers (fathers), minority investors making informed investment decisions, access to law enforcement agencies for financial investigations, full disclosures considering competitive investments. Practical hitches include: confidentiality concerns including of investment structures and related agreements, excessive information to law enforcement agencies, burden / costs of compliance involved.

When compared with countries such as Israel (with thresholds >5% shares/voting rights), India has a higher quantitative threshold for a SBO. Certain jurisdictions have considered disclosures for a separate category of 'high risk persons' with lower or no thresholds. Holding company (itself a reporting company) of the reporting company, Central, State or local government authority or entities controlled by such government authorities, mutual funds, AIFs, REITs, InVITs and investment vehicles regulated by the RBI or IRDA or PFRDA are however excluded from the scope of SBO Rules.

Disclaimer – The views represented in this post are strictly personal and do not represent the views of the firm.