Demystifying significant beneficial ownership of a company

The present corporate structure requires a company to be well-founded if it wishes to play long innings. By well-founded, I mean transparent, ethically managed, and profitable

In the case of Vedanta, the promoter entities have pledged their entire stake to raise funds

In India, the Ministry of Corporate Affairs has introduced this concept of Significant Beneficial Ownership (SBO) via the Companies Act, 2013, in line with FATF recommendations

Ankita Lahoty
There is an iconic tree which is revered and worshipped in every Indian household. Even if you cut all its branches and stem, it still sprouts again. So, once set, it is going to blossom for decades. Its strong foundations can give modern day cement a run for its money. That tree is the banyan tree, our very own Bargad ka ped.

And it is not just a banyan tree that needs strong foundations. Companies do too. The present corporate structure requires a company to be well-founded if it wishes to play long innings. By well-founded, I mean transparent, ethically managed, and profitable.

There are about 16,40,160 active companies in India and about 96 per cent of these are private companies. Only a minuscule 4 per cent of these are public limited companies. Yet, most of the big Indian brands which have global presence are owned by these public limited companies. This is because public companies adhere to higher corporate governance standards, thus they are more transparent and hence more credible. Even the market of today demands transparency and accountability.

That’s why the concept of Significant Beneficial Ownership is making headway these days. If today you wish to plot the connections a company has with other group companies, promoters, or individuals, you would notice that it’s no longer as simple as a tree with its branches. Instead, it’s a complex web of entities with no end or beginning in sight. In such a scenario, a humble retail investor is flummoxed. She starts having second thoughts about the company. However, if the companies voluntarily declare their real owners and their linkages with other body corporates, then such an investor can breathe a sigh of relief.

Globally, the Financial Action Task Force (FATF), an intergovernmental body set up for tackling money laundering and terror financing, had been one of the first to set up the standards for Beneficial Ownership, way back in 2003.

In the United States, since 1934 Securities Law requires anyone who holds directly or indirectly a beneficial ownership of more than 10 per cent of a company to file a declaration with the Securities and Exchange Commission (SEC), the market regulator.

However, the United Kingdom has recently introduced The Register of People with Significant Control Regulations, 2016 for disclosure of details of natural persons exercising control. There are various other countries such as Austria, Ireland, the European Union, Kenya, Spain, etc., which have introduced similar norms.

In India, the Ministry of Corporate Affairs has introduced this concept of Significant Beneficial Ownership (SBO) via the Companies Act, 2013, in line with FATF recommendations. Section 90 of the Act forms the crux of this concept in India. The primary intent of this law is to identify natural persons having ultimate beneficial ownership in a company. Indirect ownership is mandatory for becoming an SBO.

Simply put, the law specifies five key checkpoints to identify an SBO. The first three are: if an individual indirectly (or together with direct holdings) holds 10 per cent or more of the shares of the company or voting rights or dividend rights, she will qualify as an SBO.

Let us take an example. If Ms. A holds more than 50 per cent shares in PQR Limited and more than 50 per cent shares in XYZ Limited. Both PQR Limited and XYZ Limited hold 15 per cent shares each in ABC Limited. Then Ms. A indirectly holds more than 7.5 per cent via PQR Limited in ABC Limited and more than 7.5 per cent via XYZ Limited in ABC Limited, which totals to Ms. A holding more than 15 per cent of ABC Limited indirectly. So, Ms. A is an SBO for ABC Limited as she indirectly holds more than 10 per cent of shares in ABC Limited.

chart

The remaining two checkpoints are a bit subjective and much wider in connotation. These are: if an individual has the right to exercise, or actually exercises, significant influence or control, in any manner other than through direct holdings alone, then she would be an SBO.

Law casts twin duties – one on the SBO and the other on the company. The SBO is required to make a declaration to the company specifying the nature of his interest and particulars in BEN-1 format.

Every company with an SBO is required to maintain a register of significant beneficial owners which shall be open for inspection by members of the company and file a return with the Registrar of Companies in e-form BEN-2, declaring the details of its SBOs and changes therein.

Interestingly, there is also a provision which empowers the company itself to identify the beneficial owner of its own shares and even approach the National Company Law Tribunal (NCLT) for transfer/suspension of rights associated with those shares if such an SBO does not declare the details.

This covers the legal aspect of this. However, there is a lot of confusion and misinformation regarding the interpretation of the SBO concept. Three key concerns emerge.

First, there is a general perception among professionals that their company does not fall under the prescribed 10 per cent criterion. However, the law is much wider, and it includes even Control or Significant influence of an individual over the company. So, it is time to go through the fine print. As a general thumb rule, all those companies which have body corporates, Hindu Undivided Families (HUFs), Pooled Investment Vehicles (PIVs), Trusts, etc., as their shareholders, need to take a careful re-look.

Second, some people feel that the idea of Significant influence and Control is not clear and well-defined. However, Section 2(27) of the Act clearly defines that “control” shall include the right to appoint the majority of the directors or to control the management or policy decisions … ; And “Significant influence” is defined in the rules as the power to participate, directly or indirectly in the financial and operating policy decisions of the company…; This lends sufficient clarity to the matter.

Third, most people find this concept to be overarching. They feel that it is way too wide and covers even the trustees of a trust, CEOs of Pooled Investment Vehicles (PIVs), etc., who might not be the actual beneficial owners. But it is only in select cases that a trustee will be regarded as SBO, such as in the case of discretionary trusts where the trustee enjoys complete discretion. In other cases, such as specific trusts, the beneficiary will be regarded as SBO.

Similarly, CEOs of not all the PIVs will be regarded as SBO, just the ones which are not exempted. Mutual Funds, Alternative Investment Funds (AIFs), Real Estate Investment Trusts (REITs) are all exempt if they are registered with the Securities and Exchange Board of India (SEBI).

Data shows that the number of registered retail investors with the Bombay Stock Exchange (BSE) has surged by 27 per cent year-on-year to 3.3 crore as of 30 December 2023. This clearly reflects the growing trust of retail shareholders in the stock market. This boom will increase the money invested, which would in turn reduce the cost of capital for a business and boost economic growth. Significant Beneficial Ownership architecture further safeguards this trust of our retail investors.

Although it might increase some compliance burden on the companies, it has several benefits as well. If a body corporate wishes to take over a company in a hostile manner, knowing the owners of that body corporate would aid such a company in taking appropriate action. Another benefit is that the companies will no longer be required to respond separately to a plethora of regulatory agencies regarding beneficial ownerships. Most importantly, they would be considered more trustworthy in the eyes of the common man, hence their shares would be more investible.

We want the Indian economy to grow in double digits. We want India to be a global force. And we want India to be the biggest economy in the world. This will happen only when our wealth creators lead the world in Financial Integrity – the missing piece of the puzzle.

Competition is certainly going to multiply, especially for capital. And there is little doubt that one with more integrity and transparency will have smoother access to global funds at frugal rates.

Just as the strobe lights help an aircraft steer forward while avoiding collisions, SBO induced financial transparency can be our economic navigator for growth while solidifying India’s global position.


The writer is an Indian Corporate Law Service (ICLS, 2014) Officer posted in the Ministry of Corporate Affairs as Deputy Registrar of Companies, Gujarat, and Dadra Nagar Haveli.
Disclaimer: These are personal views of the writer. They do not necessarily reflect the opinion of www.business-standard.com or the Business Standard newspaper

Don't miss the most important news and views of the day. Get them on our Telegram channel

First Published: Feb 12 2024 | 6:02 PM IST

Explore News