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Disqualification of Directors under Section 164(2) of the Companies Act, 2013 – A trajectory of the litigations

Madras High Court - Disqualification Directors - litigations - Taxscan

Madras High Court sets aside the publication of the list of disqualified directors by the Registrar of Companies and the deactivation of the DIN of the Appellants.

Introduction

Disqualification due to non-filing of returns has been a concern for several directors and their charted accountants & company secretaries. Section 164(2) (a) of the Companies Act, 2013 prescribes that a person who is or has been a director of a company which has not filed financial statements or annual returns for any continuous period of three financial years is not eligible to be re-appointed as a director of the company or appointed as a director of any other company for five years from the date of default. By invoking the said provision of law, lakhs of directors were disqualified and their names were included in a list of disqualified directors, which was published on the website of the Ministry of Corporate Affairs. The DIN of each disqualified director was consequently deactivated.

Recently, The Hon’ble Division Bench of the High Court of Judicature at Madras (The Hon’ble Mr. A.P.Sahi, The Chief Justice and The Hon’ble Mr. Justice Senthilkumar Ramamoorthy) inMeethelaveetil Kaitheri Muralidharan v Union of India allowed a batch of writ appeals challenging the disqualification of directors by the Registrar of Companies (hereinafter referred to as the ‘the ROC’ for the sake of convenience)

The judgment of the Hon’ble Division Bench in Meethelaveetil Kaitheri Muralidharan v Union of India rendered on 09.10.2020 very succinctly explains the purport, scope, and interpretation of the provision of the Companies Act, 2013, the earlier Companies Act, 1956, and the Companies Appointment and Qualifications of Directors Rules, 2014. The Bench has also carefully taken note of the judgments of various other High Courts concerning the same issue.

Before analyzing the crucial observations of the Hon’ble Division Bench it is essential to follow the trajectory of litigations pertaining to the ‘disqualification of directors’ since September 2017.

First wave of litigation

The Registrar of Companies (several ROCs around India) disqualified about 3,09,614 directors under Section 164(2)(a) of Companies Act 2013 by publishing a list of disqualified directors in the website of the Ministry of Corporate Affairs ( Hereinafter referred to as the ‘MCA’ for the sake of brevity) dated 08.09.2017. Subsequently, another additional list of disqualified directors aggregating to about 45657 was published on 01.11.2017. These disqualifications were challenged on the primary ground that the disqualification was given effect by retrospectively applying Section 164(2) of the Companies Act, 2013. It was argued by the petitioners therein that since the New Companies Act, 2013 came into effect from 1.4.2014, the ROC and MCA have wrongly given retrospective effect and erroneously disqualified the directors from 1.11.2016 itself before the deadline commenced and wrongly fixing the first financial year from 1.4.2013 to 31.3.2014.

Ultimately, by order dated 03.08.2018 in Bhagavan Das Dhananjaya Das v. Union of India [(2018) 6 MLJ 704] the said disqualifications were set aside by the Hon’ble High Court. In the said judgment, the Court also held that the principles of natural justice should have been adhered to by issuing a proper notice to all the directors concerned. The relevant portion of the concerned judgment

“29 …….(f) In view of the above legal position, when the default in filing the accounts or returns are made as compoundable offense, Section 164(2)(a) providing the disqualification of the director of a private company not only in the defaulting company but also from other company in which the petitioner is a director, diligently and meticulously following every provision of law, is certainly disproportionate to the lapse, as it is only regulatory in nature because, notice to be sent under Section 248(1) of the Companies Act, 2013 by the Registrar of Companies for striking off the name of the company from the Registrar of Companies on the premise that the company has not been carrying on any business for a period of two financial years, is different from the disqualification under Section 164(2)(a), inasmuch as a company can be struck off, if the company has not been carrying on any business for a period of two financial years, whereas for disqualification, the criteria are three financial years. Therefore, in my considered opinion, although the petitioners have not challenged the provision of Section 164(2)(a), as the respondents have not followed the principles of natural justice, extinguishing the corporate life of the directors to the extent of disqualifying them to hold the directorship in the other companies, the said provision is liable to be read down, hence, Section 164(2)(a) is read down to the extent it disqualifies the directors in other companies which are scrupulously following the requirements of law, making it clear that no directors in other companies can be disqualified without prior notice.”

Second wave of litigation

Subsequently, the ROC once again released a list of disqualified directors aggregating to about 16084 on 17.12.2018, uploaded on 18.12.2018 in the website of the Ministry of Corporate Affairs. It is crucial to note that the disqualification here was declared to have effect from 01.11.2017 to 31.10.2022. Challenging the same, the disqualified directors approached the Hon’ble Court on several grounds (Khushru Dorab Madan v Union of India; WP. 13616, 13617 of 2018 etc dated 27.01.2020). However, the learned single judge was pleased to dismiss the writ petitions by observing that issuing a prior notice to the directors before disqualification would be of no avail and would only be an empty formality. The operative portion of the concerned order in Khushru Dorab Madan v Union of India; WP. 13616, 13617 of 2018 etc dated 27.01.2020is extracted below  ;

“…….38. In the present writ petition, the three financial years 2014-2015, 2015-16, and 2016-17 have been completed and since annual returns / financial statements have not been filed, disqualification automatically follows and when disqualification is incurred, deactivation of Director Identification Number also automatically follows. The DIN number can exist only during the lifetime of the post of Directorship and not for the entire life of the individual. Issuing a prior notice would be of no avail and would only be an empty formality since the provision of law is clear on this aspect.”

The Appeal before a Division Bench

Aggrieved by the aforesaid, the petitioner preferred a Writ Appeal before the Hon’ble Division Bench of the Madras High Court. The chief arguments that were canvassed by the Petitioners were threefold

  1. LACK OF JURISDICTION
  2. MANDATORY NOTICE BEFORE DISQUALIFICATION;-
  3. DEACTIVATING THE DIRECTOR IDENTIFICATION NUMBER (DIN) IN THE EVENT OF DISQUALIFICATION IS IMPERMISSIBLE UNDER LAW

Reliance was alsoplaced upon judgments rendered by different High Courts on the very same aspect. The following judgments were placed for consideration before the Bench.

  • The Gujarat High Court in Gaurang Balvatlal Shah s/o Balvanthlal Shah versus Union of India in its order dated 18.12.2018
  • The Karnataka High Court in its order dated12.06.2019 in Yashodara Shroff v Union of India
  • The Delhi High Court in the judgment rendered in Mukut Pathak and Ors. V Union of India and Anr (W.P.(C) 9088/2018 ) dated 04.11.2019

Crucial Observations inMeethelaveetil Kaitheri Muralidharan v Union of India

After hearing the submissions, The Hon’ble Division Bench of the High Court of Judicature at Madras ultimately allowed a batch of writ appeals. The key Observations of the Court in the Hon’ble Division Bench’s judgment dated 09.10.2020 in W.A.718 of 2020 etc is adumbrated as follows;-

  • Mandatory to file Form DIR-9 immediately upon the occurrence of default in complying with Section 164(2) by the officers of the company

Rule 14(2) of the Appointment and Qualifications of Directors Rules (AQD Rules), 2014 specifies that the Defaulting Company shall file Form DIR-9 immediately upon the occurrence of default in complying with Section 164(2) with the names and addresses of the directors during the relevant period. If this is not done within 30 days, Rule 14 (3) specifies that persons defined as officers of the company in Section 2(60) would be the officers in default, and would consequently be liable for disqualification.

  • A Prior Notice &An inquiry would be necessary on filing of Form DIR-9

Once Form DIR-9 is filed, the Registrar of Companies can rely on the names and addresses of directors that were provided by the Defaulting Company. Since statutory prescription is generic (except with regard to the managing director and whole-time director) it would be insufficient to fix responsibility and attribute the default to a specific set of directors. Therefore, an inquiry would be necessary

The disqualification under Section 164(2) of CA 2013 is consequential to a default by the company concerned. Therefore, it involves two stages. The first stage is to determine whether the company concerned committed a default. The second stage, namely, pertains to the attribution of the default to a particular set of directors. A prior notice requirement is clearly not an empty formality as regards disqualification under Section 164(2).

  • In the event of default in filing Form DIR-9 within the prescribed 30 day period

In case of default in filing Form DIR-9 within the prescribed 30 day period, the ROC is not powerless and may proceed to determine the set of directors to whom the default should be attributed by drawing on Section 2(60). However, prior notice and an inquiry would be necessary. The germane portion of the Division Bench is extracted below;-

34. Mr. Aravind Pandian contended that Section 164(2) can only be invoked after the filing of Form DIR-9 by the Defaulting Company. This contention is acceptable to the limited extent that it is obligatory on the ROC to wait until the expiry of the time limit under Rule 14(3) of the AQD Rules before commencing disqualification proceedings. But in case of default in filing Form DIR-9 within the prescribed 30 day period, the ROC is not powerless and may proceed to determine the set of directors to whom the default should be attributed by drawing on Section 2(60). However, for such purpose, prior notice and an inquiry would be necessary for reasons elucidated in the preceding paragraphs.

  • Subject to the above, The Registrar of Companies (ROC) to commence disqualification proceedings only after the expiry of the time limit under Rule 14(3) of the AQD Rules

It is obligatory on the ROC to wait until the expiry of the time limit under Rule 14(3) of the AQD Rules before commencing disqualification proceedings. But in case of default in filing Form DIR-9 within the prescribed 30 day period, the ROC is not powerless and may proceed to determine the set of directors to whom the default should be attributed by drawing on Section 2(60). However, for such purpose, prior notice and an inquiry would be necessary

  • Neither cancellation nor deactivation is provided for upon disqualification under Section 164(2)

Rule 11 provides for the cancellation or surrender or deactivation of the DIN. Neither cancellation nor deactivation is provided for upon disqualification under Section 164(2) of CA 2013.

  • ROC may however, initiate action with regard to disqualification subject to an enquiry

The Court made it abundantly clear that it is open to the ROC concerned too, initiate action with regard to disqualification subject to an inquiry to decide the question of attribution of default to specific directors by taking into account the observations and conclusions herein.

While many disqualified directors whose DINs were deactivated as a result of the action of the ROCs, certain companies were facing difficulties in uploading forms, filing returns, and to complete such other compliances that require an active DIN. The issue was more prevalent in companies that had only two directors one of whom was ‘disqualified’. However, this judgment of the Division Bench of the High Court of Judicature at Madras has unambiguously laid down the procedure to be adopted by the ROC before disqualifying a director under Section 164(2) of the Companies Act, 2013.

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