Related Party Disclosures, Related Party, Related party Transaction10/09/2022 1 By indiafreenotes
A related party transaction is a transfer of resources, services or obligations between RE (reported entity) and related party regardless of whether a price is charged or not.
Related party relationships are a normal feature of commerce and business. Entities frequently carry on their business activities through its subsidiaries, joint ventures, associates and etc.
In general, users presume that the transactions in financial statements are presented on an “arm’s length” basis. However, the presumption may NOT be valid in case of the transactions between the related parties as the terms and conditions of related parties generally different from unrelated parties. Sometimes related parties may not charge anything for their services like interest free loans, free management services etc. Hence the related party relationship will have an effect on the financial position (BS) and operating results (P&L) of the entity.
Operating results and financial position will be affected because of related party relationship even if there is NO transaction between them. The mere existence of the relationship may be sufficient to affect the transactions of the entity with other parties. For example: a holding company can ask its subsidiary to stop the relationship with a trading partner or it may instruct the subsidiary not to engage in research and development.
Sometimes, transactions would not have taken place if the related party relationship had not existed. For example, a company that sold a large proportion of its production to its holding company at cost might not have found an alternative customer if the holding company had not purchased the goods.
As the related party transactions may not take place at arm’s length, the entity should give sufficient information about the related party relationship and related party transactions so as to make the users understand the financial positions in its perspective. This standard establishes the requirements of such disclosures.
This standard is applicable to the consolidated & separate financial statements of a parent or investors with joint control/significant influence over an investee – who prepared financial statements under Ind AS 110, Ind AS 27. It is applicable to individual financial statements.
This Standard shall be applied in:
(a) identifying related party relationships and transactions;
(b) identifying outstanding balances, including commitments, between an entity and its related parties;
(c) Identifying the circumstances in which disclosure of the items in (a) and (b) is required; and
(d) Determining the disclosures to be made about those items.
This Standard is NOT applicable in the following circumstances:
- Entities need not follow the standard if the disclosure under this Ind AS affects the reporting entity’s duties of confidentiality.
- In case a statute or a regulator or a similar competent authority governing an entity prohibit disclosing certain information which is required to be disclosed as per this Standard disclosure of such information is not required. For example: banks are obliged by law to maintain confidentiality in respect of their customers’ transactions.
- In case of consolidated financial statements (CFS): Intra group transactions need NOT to be presented as CFS present information about the holding and its subsidiaries as a single reporting entity. This is not applicable for those between an investment entity and its subsidiaries measured at fair value through profit or loss, in the preparation of consolidated financial statements of the group.
This Standard applies only to the below related party relationships.
Disclosures to be made
- Relationships between parent and subsidiaries should be disclosed irrespective of whether there have been any transactions or not. If the entity’s parent or the ultimate controlling party does not produce consolidated financial statements, then the next senior parent must be named in the consolidated financial statements for public use.
- An entity must report the compensation to the key management personnel in total and each of the categories such as short term employee benefits, post-employment benefits, termination benefits, share-based payment, and other long-term benefits.
- If key management services are obtained from another entity, then only the amounts incurred for the provision of such services shall be disclosed.
- If the entity has transactions with the related party during the financial year, then it shall disclose the nature of such transactions, and also all the details such as amount, outstanding balances including commitments, provision for doubtful debts, and the expense recognised in respect of bad and doubtful debts.
- The above disclosures will be made separately in respect of a parent, subsidiaries, associate, entities with joint control or significant influence over the other entity, joint ventures in which the entity is the venturer, and key management personnel of the entity or parent and other related parties.
A related party can be a person, an entity, or an unincorporated business.
A related party is a person (individual) or entity that is related to the entity that is preparing its financial statements.
(a) A person or a close member of that person’s family is related to a reporting entity if that person:
(i) Has control or joint control of the reporting entity;
(ii) Has significant influence over the reporting entity; or
(iii) Is a key management personnel (KMP) of the reporting entity or it’s parent entity.
(b) An entity is related to a reporting entity if any of the following conditions applies:
(i) The entity and the reporting entity are members of the same group (which means that each parent, subsidiary and fellow subsidiary is related to the others);
(ii) One entity is an associate or joint venture of the other entity (or an associate or joint venture of a member of a group of which the other entity is a member i.e., associate or joint venture of co-subsidiary);
(iii) Both entities are joint ventures of the same third party;
(iv) One entity is a joint venture of a third entity and the other entity is an associate of the third entity;
(v) The entity is a post-employment benefit plan for the benefit of employees of either the reporting entity or an entity related to the reporting entity. If the reporting entity is itself such a plan, the sponsoring employers are also related to the reporting entity;
(vi) The entity is controlled or jointly controlled by a person identified in (a);
(vii) A person identified in (a) (i) has significant influence over the entity or is a member of the key management personnel of the entity (or of a parent of the entity);
(viii) The entity, or any member of a group of which it is a part, provides key management personnel services to the reporting entity or to the parent of the reporting entity.
Control is the power over the investee when it is exposed or has rights to variable returns from its involvement with the investee and has the ability to affect those returns.
Joint Control is the contractually agreed sharing of control of an arrangement which exists only when decisions about the relevant activities require the unanimous consent of the parties sharing control.
Significant influence is the power to participate in the financial and operating policy decisions of the investee, but is not control of those policies.
(a) An INDIVIDUAL becomes related party to the reporting entity, when that individual or his family’s close member
- Has Control or Joint control or Significant influence over the reporting entity;
- Is Key managerial personnel in the reporting entity or it’s parent entity; (Not in co-subsidiary entity)
Close member of the family’
Close members of the family of a person are those family members who may be expected to influence, or be influenced by, that person in their dealings with the entity including:
(a) That person’s children, spouse (married) or domestic partner (a person who is living with another in a close personal and sexual relationship but not married), brother, sister, father and mother.
(b) Children of that person’s spouse or domestic partner.
(c) Dependents of that person or that person’s spouse or domestic partner.
Related Party as per Companies Act, 2013 According to section 2(76) of the Company’s act, 2013 related party with reference to company means:
i) a director or his relative;
) a key managerial personnel or his relative;
i) A firm, in which a director, manager or his relative;
ii) A private company in which a director or manager or his relative is a member or director.
iii) A public company in which a director or manager is a director and holds along with his relatives, more than 2% of its paid-up capital;
iv) Anybody corporate who’s Board of Directors, managing director or manager is accustomed to act in accordance with the advice, directions or instructions of a director or manager.
v) any person on whose advice, directions or instructions a director or manager is accustomed to act provided that nothing in sub-clauses (vi) and(vii) shall apply to the advice ,directions or instructions given in a professional capacity.
vi) any body corporate which is:
A) A holding, subsidiary or an associate company of such company;
B) A subsidiary of a holding company to which it is also a subsidiary; or,
C) An investing company or the venturer of a company means a body corporate
Related party Transaction
Related Party Transaction can be understood as a deal or arrangement made between two parties or entities that are joined by a pre-existing business relationship or common interest. It is a transfer of resources, services or obligations between a reporting entity and a related party, regardless of whether a price is charged.
All related party transactions require approval of Audit Committee. All contracts that are (1) not in the ordinary course of business but at arm’s length (2) in the ordinary of course of business but not at arm’s length or (3) not in the ordinary course of business and not at arm’s length require prior approval of board of directors or shareholders based on certain thresholds.
Penalties: Any director or any other employee of the company, who had entered into or authorised the contract in violation, as per section 188 of the companies act they are punishable:
a) In case of listed companies, imprisonment upto 1 year or fine from 25,000 to 5 lakhs or both
b) In case of other companies , fine from 25,000 to 5 lakhs.
Main purpose of Related Parties regulation: To regulate transactions between the company, its subsidiaries and its related parties with a view to ensure that such transactions are executed on an arm’s length basis and is transparent and fair manner.
They provide transparency on how its financial position and financial performance may be affected by transaction with related parties which may or not be conducted on an arm’s length basis.
Under the new law, in relation to every RPT, directors have to necessarily check most importantly the following two criteria:
a) Whether the contracts or arrangements is in the “ordinary course of the business” of the company.
b) Whether the terms and conditions of such contracts or arrangements are on “arms length basis”.
The transaction will be with Related Party in case it is with any of the following:
a) With any Director of Company.
b) With any relative of a Director.
c) With any KMP or relative of a KMP.
d) With any firm in which Director or his relative is a partner.
e) With any private Company in which a Director is a member or Director)
f) With a Public Company in which a Director is a member or Director and additionally holds along with his relative(s) 2% or more paid-up share capital of a Public Company.
g) With a Subsidiary Company h) With an Associate Company in which Company has more than shareholding.
i) With a body corporate which is significantly influenced by a Director of a company.
j) With a person who has control or significant influence over the Company.
Following transactions with above related parties will constitute related party transactions:
a) Sale, Purchase or supply of any goods or material by a Company.
b) Selling or disposing off or buying any property by Company.
c) Leasing of any property by Company.
d) Availing or rendering of any services by Company.
e) Appointment of any agent for purchase or sale of goods, materials, services or property by Company.
f) Any related party’s appointment to any office or place of profit in Company.
g) Company or its subsidiary Company or its associate Company.
h) Underwriting the subscription of any securities or their derivatives of Company To determine a transaction a related party transaction following points to be ensured:
a) The transaction should be entered on an Arm’s length basis.
b) Take prior approval of Audit Committee of the Board in respect of all related party transactions
c) Approval of shareholders through special resolution if the related party transaction during a financial year exceeds 10% annual consolidated turnover of a company.
d) Prior approval of the Board is required in case a related party transaction is not in the ordinary course of business and not on an Arm’s length basis.
Related-party transactions are legitimate activities and serve practical purposes:
They are recognized in corporate and taxation laws.
They have their own standards for accounting treatment.
Systems of checks and balances have been built around them to make sure they are conducted within these boundaries.