Economy

Corporate frauds: Independent directors face Gordian knot of personal liability

KR Srivats New Delhi | Updated on September 22, 2020 Published on September 22, 2020

Little room to escape personal liability if corporate fraud proved by SFIO, say company law experts

With top pay comes more responsibility. Independent Directors cannot wriggle out of personal liability in proven corporate frauds, even if they adopt ring fencing strategies for their personal assets. This is after the company law got amended last year to bring to book all those involved in a corporate fraud and where the Serious Frauds Investigation Office (SFIO) has proved in a report the occurrence of fraud.

Put simply, Independent directors may not be able to avoid attachment of personal assets arising due to a corporate fraud even if they were to shift them to vehicles such as trusts to escape such liability, say company law experts.

If the authorities are able to prove that the independent directors have been complicit or had even turned a blind eye to a corporate fraud and taken undue advantage or benefit (in form of asset, property or cash), then ring fencing will not help in escaping the personal liability, they said.

This is even as the Ministry of Corporate Affairs (MCA) had in March assured the directors community that there would not be any trigger-happy behaviour towards independent directors and non-executive directors by the authorities and agencies when dealing with such cases of frauds.

Comfort clause

The MCA had in this circular highlighted that Section 149 (12) is a non obstante clause, which provides enough protection for independent directors and non-executive directors who were not directly involved in any culpable act.

It had specified that the liability would be only in respect of such acts of omission or commission by a company which had occurred with their direct knowledge, attributable through Board processes, and with consent or connivance or where the person had not acted diligently.

They (non promoter and non Key Managerial Personnel) should not be arraigned in any criminal or civil proceedings under the Companies Act, unless the above mentioned criteria are met, the MCA had said.

A big concern before the independent directors community now is that the government had last year amended the Companies Act 2013 and brought amendments to Section 212 to fasten personal liability (without limitation of such liability) in situations where fraud has taken place in a company and any director, key managerial personnel, other officer of the company or any other person has taken undue advantage or benefit.

This will allow the Centre to file an application before NCLT for disgorgement of such asset, property or cash and holding such director, KMP or any other individual liable personally.

Reluctance to participate

One of the main reasons for fewer professionals coming forward to take up role of independent or a non-executive director in corporate India is the fear of damage to their professional and personal reputation, in case of any negative news around the companies. Also, the social ostracism that starts with negative news— it’s as if they are assumed guilty unless proven innocent, which is the anti-thesis of principle of justice, an independent director said.

Aseem Chawla, Managing Partner, ASC Legal, a law firm, told BusinessLine, “The recent and ever-growing instances of corporate frauds and glaring instances of mismanagement of companies have dented the enthusiasm of independent directors in straddling the important fiduciary functions of assisting in oversight of decision making process. It is rather unfortunate that the liabilities proposed to be tagged with Independent Directors are similar to that of promoter/executive directors. Also another practical tendency which is noteworthy is that many companies still have not availed the D&O (Directors and Officers liability insurance) policy which can assuage and provide some conducive comfort to the Independent Directors”

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Published on September 22, 2020
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