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Need to limit and streamline independent director liability provide safe-harbours to independent directors: CII
Mar 13, 2021

The decriminalization of several offences under the Companies Act, 2013 is a welcome move. The provisions under the Companies Act seek to penalise not only the company concerned for a non-compliance, but also “officers in default” or specific identified officer(s) of the company. “CII sincerely appreciates the government for undertaking this as a part of its continuing endeavour for improving business environment, which in turn not only has the potential of attracting investment but also improving the quality of corporate boards and reducing concerns of criminal prosecution for non-material matters.”

Early last year, CII drew the attention of the Regulators to certain aspects of the regulatory framework for review for ease of doing business in India. CII explained that in certain cases, commercial and civil disputes under business and economic legislations are treated as criminal offences, thereby raising concerns amongst directors, young entrepreneurs, and domestic and foreign investors. Attention was drawn on the issue of decriminalization of offences under business and economic legislations that affect the Industry and Trade with respect to technical offenses, unless the offences include an element of fraud / wrongdoing.

It was submitted that offences which are of a technical nature or which do not affect public interest prejudicially or which are not serious offences may be considered to be decriminalized.  For such business and economic legislations which fall within the domain of arbitration or civil courts, government needs to consider decriminalising the laws, unless there is an intent of fraud or misdoings. The punishment ought to be limited to penalties instead of fines / imprisonment. Periodic or habitual offenders may be punished with higher penalties as may be decided by the adjudicating authority.

Government recently concluded the exercise of decriminalising the Companies Act, 2013. In this connection, CII recently submitted a Paper to the Ministry of Corporate Affairs highlighting matters with respect to framework for settlement of offences; liability of independent directors; vicarious liability, impact of Covid-19 pandemic; and D&O liability insurance. The Paper enumerates the following:

Government has enhanced in-house adjudication of penalties in respect of certain offences. The mechanism be extended to additional provisions which involve technical lapses. It is further recommended that the government considers the decriminalization of other compoundable offences under the Companies Act.

As a general principle, given the onerous responsibilities and liabilities on directors, including independent directors and company secretaries, penalties ought to be limited to fines instead of imprisonment.

In relation to CSR, the penalty that be imposed for non-compliance should not exceed the unspent CSR amount.

In relation to financial statements and books of accounts, a distinction between fraudulent maintenance and mere faulty maintenance be brought out.

There is a need to create legal and procedural safeguards relating to personal liability of independent directors, and initiation of prosecution itself should be an exception rather than the rule, to keep risk and rewards of being an independent director proportionate. The whole idea of decriminalizing civil duties is essential to conserve faith in the institution of independent directors.

While there are several case laws that set out legal principles on interpreting vicarious liability under various statutes, initiation of proceedings itself can involve significant personal hardship and costs for the concerned individuals. While wrong doers must be prosecuted, there need to be procedural guidelines/safeguards across laws to restrict and minimize proceedings against individuals who are not actually and demonstrably in charge of the management.

Against the backdrop of COVID-19, bona fide decisions taken during such exceptional times (even if they do not turn out as anticipated) may not be unduly challenged with the benefit of hindsight.

Members of the board may ask for a Directors & Officers (“D&O”) liability insurance and spend some time to understand the scope and coverage of D&O insurance obtained, and evaluate its adequacy with respect to the company and individual directors.

Last year CII released Guidelines on Integrity and Transparency in Governance and Responsible Code of Conduct in February 2020. The Guidelines state that ability for corporates (and their relevant officers/directors) to settle non-serious offences (including without admission or denial of guilt) may be introduced for a broader set of laws; and ability to compound offences (or claim amnesty for non-serious offences) be made a part of the legal framework. This will enable ease of doing business, where procedural and non-serious matters can be settled without prosecution or adverse reputational implication.

The CII Paper also asserts that it is important to put clear safe harbors in place for independent directors. Proceedings against independent directors may be initiated only once there is prima facie evidence of their possible involvement in the matter, rather than as a matter of course. Establishing clear safe harbors will go a long way towards addressing concerns of talented individuals wishing to join company boards as independent directors.

Liability of an independent director under the Companies Act may be limited to the extent of such contraventions / defaults, which are committed by the company with the knowledge or consent of the said independent director. It is necessary to expressly exempt independent directors from vicarious criminal liability since they are not involved in the day-to-day running of the company. A non-obstante clause may be incorporated in the Act to exclude independent directors from any vicarious criminal liability for offences committed by the company.

13 March 2021

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