Demystifying Significant Beneficial Ownership under Companies Act - Part I

1. Brief overview

There are numerous companies with layers of investments in each other which makes it tough for the regulators to find out who is the real owner (natural persons) of these Companies. Ministry of Corporate Affairs (MCA) vide notification dated June 13, 2018, had notified the Companies (Significant Beneficial Owners) Rules, 2018 (‘SBO Rules’) along with Section 90 of the Companies Act, 2013 (‘Cos Act, 2013) as amended by the Companies (Amendment) Act, 2017 to unmask the real beneficial owners of the company.

However, since the provisions contained in aforesaid rules were ambiguous and considering the suggestions of various stakeholders, the SBO Rules have been revised vide Companies (Significant Beneficial Owners) Amendment Rules, 2019. The SBO Rules will be effective from date of their publication in the Gazette of India. This article attempts to demystify the various provisions of the SBO Rules by illustrating various scenarios and help corporates to understand the compliance and procedural requirements and comply with the same in an appropriate manner.  

2. Overall scheme of the SBO Rules

2.1    Who is a Significant Beneficial Owner

2.2    Compliance requirements

Provisions of section 90 read with the revised SBO Rules requires the following compliances:

a) First time compliance upon applicability of the SBO Rules: -

b) Recurring compliance pursuant to first-time compliance: -

3. Determination of individual who would be an SBO

Given the consequences, it becomes imperative for companies and individuals who are SBO to comply with the aforesaid provisions.  However, the most complex issue is to determine the individual who qualifies as an SBO.

Explanation I to clause (h) of Rule 2 provides that where an individual does not hold any right or entitlement indirectly under sub-clause (i), (ii) or (iii) of clause (h), he shall not be considered as an SBO. Therefore, for an individual to be an SBO, he must possess indirect holding in shares or voting rights or right in distributable dividend. 

As per Explanation II to clause (h), where the shares are held in the name of individual or where the individual acquires a beneficial interest in the share of the Reporting co and has made a declaration under section 89 (MGT 4 & MGT 5 as the case may be), then such individual is considered to hold a right or entitlement directly in the Reporting Co.

However, the difficulty arises when the member or shareholder is non-individual. The SBO Rules prescribes certain criteria for determination of individual where the shares of the Reporting Co are held by person other than individuals, based on the nature or status of member/ shareholder.  The same has been tabulated below:

We have enumerated various scenarios for determining the SBO as prescribed in the SBO Rules.  

3.1 Scenario 1 - Vanilla Company with individual as shareholders

In the instant scenario, Mr. A holds, indirectly together with direct holdings, more than 10% of the shares and accordingly would be regarded as SBO. 

Though Mr. B holds more than 10% of the shares in the Reporting Co directly, since he does not hold any shares or voting rights indirectly, he shall not qualify as SBO.  Similarly, Mr. C would not qualify as SBO. 

3.2 Scenario 2 - Vanilla Company with different beneficial owner

In the given situation, the shares of the Reporting Co are held by 3 individual shareholders, of which, Mr. A holds 52% shares on behalf of Mr. D and Mr. B holds more than 10% of the shares in the Reporting Co. 

Accordingly, Mr. A, Mr. B & Mr. D would be considered to hold right or entitlement directly in the Reporting Co. since, they do not have any share or right indirectly, they would not qualify as SBO. 

However, if Mr. A & Mr. D have not filed any declaration in MGT 4 & MGT 5 as prescribed in section 89, then Mr. D would be considered as an SBO. 

3.3 Scenario 3 - Two-layer company with individual as shareholder

The given situation would fall under clause (i) as per the table above.

Since the shares of the Reporting Co. is held by a body corporate (XYZ Co), the majority stake held in the body corporate would need to be looked into to determine the individual who is considered as holding right or entitlement indirectly.

Since none of the individual shareholders i.e. Mr. A, Mr. B or Mr . C holds majority stake in XYZ Co, they would not qualify as SBO.

Though the intent of the SBO provisions is to require reporting of individuals holding more than 10% but the said rules does not capture all such scenario as highlighted above.  One would need to evaluate if the said shareholding would trigger reporting under section 90(1) and clause (h) of Rule 2 without referring to the Explanations provided therein.

In a case where Mr. A, B & C are relative, whether their shares should be clubbed to test the SBO Rules since the words used in the Act & Rules are “acting alone or together”? More clarity is required in this aspect.  

3.4 Scenario 4 - Company whose shareholder is a partnership entity (including LLP)

The given situation would fall under clause (iii) as per the table above.  Since the shares of the Reporting Co. is held by an LLP and only individuals are partners in such LLP, all the partners (i.e. Mr. A, Mr. B & Mr. C) shall be considered as holding right or entitlement indirectly in the Reporting Co.

Accordingly, Mr. A & Mr. B would qualify as an SBO. However, it is not clear whether Mr. C would be considered as SBO as his indirect holding in the Reporting Co is less than 10%.  On a conjoint reading of clause (h) with Explanation III, a view can be taken that such individual is not qualified as SBO, though he has right or entitlement indirectly in the Reporting Co.

In a case where the shares are beneficially held by a partnership firm (instead of LLP), then as per the provisions of section 89 of the Cos Act, the partners and the Firm are required to file Form MGT 4 & 5 declaring the beneficial interest.

Such transaction would fall under direct holding as provided in Explanation II and would also fall under indirect holding by virtue of clause (iii) of Explanation III, leading to ambiguity. Ideally, such transaction should not require reporting under this provision as would have been already disclosed to the Registrar under Section 89.

3.5 Scenario 5 - Multi-layer company with different shareholders

The given situation would fall under clause (i) as per the table above.  Since the shares of the Reporting Co is held by body corporate which is again held by another body corporate, the majority stake of the individual at the ultimate holding company level should be looked into.

In the instant situation, since Mr. A holds majority stake (i.e. >51% of shares) in ABC Co, the ultimate holding company, he shall be considered as having right or entitlement indirectly in the Reporting Co.

However, it can be noted that his effective holding in the Reporting Co shall be only 4% (i.e. 51% * 51% * 15%) and hence he should ideally not be considered as SBO.

Part II of the article will deal with consequences of non-compliance with the SBO provisions, exemptions/ non-applicability of SBO provisions in certain cases, brief overview of Forms BEN 1 & BEN 2, challenges that may be faced while identifying an SBO, along with the authors’ concluding remarks.

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