Related Party Transactions: Four Definitions, One List, and the Register Nobody Opens

Every firm has a related party list. Very few have four of them, which is the number the law actually asks for.

The accounting standard, the Companies Act approval regime, the register, and the tax provision each define a related party differently, on purpose. A single list built for one of them will be wrong for the other three.

Four definitions, four tests

AS 18 builds its list from five categories (paragraph 3): enterprises that control, are controlled by, or are under common control with the reporting enterprise, including holding companies, subsidiaries and fellow subsidiaries; associates and joint ventures, and the investing party or venturer; individuals owning directly or indirectly an interest in the voting power that gives them control or significant influence, and relatives of any such individual; key management personnel and their relatives; and enterprises over which any of those persons is able to exercise significant influence.

Two numbers do the work. Paragraph 12: an enterprise has a substantial interest in another if it owns, directly or indirectly, 20 per cent or more of the voting power. Paragraph 13: at 20 per cent or more it is presumed that significant influence exists unless it can be clearly demonstrated otherwise — and below 20 per cent it is presumed not to exist, unless it can be clearly demonstrated.

Ind AS 24 is wider and more mechanical. Paragraph 9 defines a related party as a person or entity related to the reporting entity, and then lists eight conditions for entities, including two that AS 18 does not reach: a post-employment benefit plan for the employees of the entity or a related entity is itself a related party; and so is an entity, or any member of its group, that provides key management personnel services to the reporting entity.

Section 188 does not define related parties by influence at all. It lists seven kinds of transaction — sale, purchase or supply of goods or materials; buying, selling or otherwise disposing of property; leasing of property; availing or rendering of services; appointment of an agent for any of those; appointment to any office or place of profit in the company, its subsidiary or associate; and underwriting the subscription of securities or derivatives — and asks whether the company followed the procedure for them.

Section 40A(2)(b) is a tax list, built on its own definitions of relatives and substantial interest, and it governs the disallowance of excessive or unreasonable payments, not disclosure.

The section 188 thresholds, as they stand

Rule 15(3) sets the limits above which prior approval by resolution is needed. The current figures are percentages only — the 2017 amendment replaced the earlier tests with "ten per cent. or more", and the 2019 amendment omitted the absolute rupee caps that used to sit beside them:

• Sale, purchase or supply of goods or materials — ten per cent or more of turnover
• Selling or otherwise disposing of, or buying, property of any kind — ten per cent or more of net worth
• Leasing of property of any kind — ten per cent or more of turnover
• Availing or rendering of services — ten per cent or more of turnover
• Appointment to any office or place of profit — monthly remuneration exceeding two and a half lakh rupees
• Underwriting the subscription of securities or derivatives — remuneration exceeding one per cent of net worth

Turnover and net worth are computed on the audited financial statement of the preceding financial year, and the limits apply to transactions taken individually or together with previous transactions during the financial year.

The proviso everyone relies on is real but narrow: nothing in the sub-section applies to transactions entered into by the company in its ordinary course of business other than transactions which are not on an arm's length basis. Both limbs must hold. Ordinary course alone is not enough, and neither is arm's length alone.

The register nobody opens until the audit

Section 189 requires every company to keep one or more registers of contracts or arrangements in which directors are interested, covering the matters in section 184(2) and section 188. The mechanics matter more than the form:

• Entries are made at once, whenever there is cause, in chronological order.
• The register is placed before the next Board meeting and signed by the directors present.
• It is kept at the registered office, open to inspection by members, and produced at the commencement of every annual general meeting.
• Contracts for the sale, purchase or supply of goods or services need not be entered where the value does not exceed five lakh rupees in the aggregate in any year.
• The prescribed form is MBP-4, under Rule 16.

A register written up once a year, in one hand, on the day before the audit, does not meet "at once, in chronological order" — and it is visible on its face.

What has to be disclosed, and in which standard

AS 18. Paragraph 21 is the one that catches people: where control exists, the name of the related party and the nature of the relationship are disclosed whether or not there have been transactions. For transactions, paragraph 23 asks for seven things: the name of the transacting related party; a description of the relationship; a description of the nature of transactions; the volume, as an amount or an appropriate proportion; any other elements necessary for an understanding of the financial statements; the amounts or proportions of outstanding items at the balance sheet date and provisions for doubtful debts due from them; and amounts written off or written back in the period.

Ind AS 24. Paragraph 18 asks for the amount of the transactions; outstanding balances including commitments, with their terms and conditions, whether secured, the nature of consideration, and details of guarantees given or received; provisions for doubtful debts on those balances; and the expense recognised for bad or doubtful debts due from related parties. Paragraph 19 requires all of that separately for each of seven categories: the parent; entities with joint control or significant influence; subsidiaries; associates; joint ventures in which the entity is a venturer; key management personnel of the entity or its parent; and other related parties.

A single combined note fails paragraph 19 no matter how complete it is.

And then CARO

Clause 3(xiii) asks whether all transactions with related parties are in compliance with sections 177 and 188 where applicable, and whether the details have been disclosed in the financial statements as required by the applicable accounting standards.

That single clause reaches three of the four regimes at once — the audit committee approval, the section 188 procedure, and the AS 18 or Ind AS 24 note. It cannot be answered from the accounting note alone. The other twenty clauses are in CARO 2020, clause by clause.

The matrix and the register

Two sheets: a party-wise matrix showing, for each name, whether it is related under AS 18, under Ind AS 24, under section 188, and under section 40A(2)(b), with the basis stated in each column; and a register of contracts in the shape section 189 asks for, with the Board meeting at which each entry was placed.

Download the related party matrix and register (.xlsx) — free, no sign-up.

Three questions that settle most files

• Is there a control relationship with no transactions? If yes, AS 18 still requires the name and the nature of the relationship.
• Was the transaction in the ordinary course and at arm's length? Only both together take it outside section 188's approval requirement.
• Does the note split by category? Ind AS 24 requires the seven categories separately; AS 18 permits aggregation by type of related party except where separate disclosure is necessary for an understanding of the financial statements.