A Conspectus on Vicarious Liability Of Non-Executive Directors

[By Aayush Akar and Aarushi Prabhakar]

The authors are students at the National Law University, Odisha.

The directors of a company hold a fiduciary role and are required to conduct the operation of the company in a way that is desirable to the interests of the company. Non-executive or independent directors are not responsible for day-to-day businesses and are generally active in the strategy and decision-making practices. The provisions on vicarious liability have a standardized language, provided that the person is liable if at the time of the commission of the crime he/she was accountable for the affairs of the company. However, these provisions do not differentiate between “Managing Directors (MDs) and Executive Directors (EDs) and Non-Executive Directors (NEDs) and Independent Directors (IDs)”. As a result, law enforcement agencies/trial courts were sometimes perceived to keep the whole Board accountable for all legal violations of the company. This piece of writing throws light on whether the non-executive directors be held liable for the day-to-day affairs of the company or not.

Fundamental Principle

 Supreme Court observed in the case of  “N Rangachari v. Bharat Sanchar Nigam Ltd”,  that unless explicitly laid out in the legislation, there would be no vicarious liability. If the provision of any statute gives rise to a criminal obligation, then the essentials set down for vicarious liability must be strictly complied with. The essentials to be fulfilled for a person to be vicariously liable of which the company is primarily accused is that he or she was involved in the incriminating act and he or she knows what is attributable to him or her to be made responsible for the incrimination. In other words, it is not appropriate to rope in an individual who has nothing to do with the issue.

A company is a legal entity and all its activities and operations are the outcome of the acts of other individuals. Thus, the officers of the company responsible for the affairs of the company are made personally liable for the acts of the company. Each and every person, as well as the company accountable for the affairs of the company at the time offence, was committed is made liable. However, these essentials provide an escape route for people who are successful in proving that the crime was performed without their involvement or that they have exerted all due diligence to avoid the commission of the crime.

It was observed in the case of “Gunmala Sales Pvt. Ltd v. Anu Mehta & Ors” that the directors shall not be held liable since they don’t have an active role in the day to day affairs of the company and it is essential to look upon the role of the director while deciding the liability of the director.

Immunity Provided to Non-Executive Directors

Section 149(12) of the Companies Act, 2013 provides immunity to non-executive directors and independent directors. But, this immunity is not available for offences under any other law and only for the offences under the Act. However, Section 149(12) of the Act doesn’t always provide a safe harbour to the non-executive directors as a director can be held liable when an offence has occurred with his consent, knowledge, and where he did not act in a diligent way.  Poonam Garg, who is an appellant in the case of “Poonam Garg v. SEBI”, was a promoter in the category of NED and Promoter, Managing director and compliance officer of the company was her husband. Securities Appellate tribunal held that Poonam Garg cannot take immunity for the breach committed by her husband ( MD, promoter and Compliance officer of the Company) by giving an excuse of ignorance about the PIT regulations. Therefore, Poonam Garg (NED of the company), was held liable for the day to day affairs of the company.

The Ministry of Corporate Affairs, in March 2020, issued a circular to the Registrar of Companies directing them to not initiate civil or criminal proceedings against independent directors and non-executive directors until sufficient evidence is there against them. Non-executive directors / Independent directors are not responsible for keeping a check on the day to day affairs of the company. Accordingly, no liability can be claimed upon a non-executive director for non-performance of certain activities like minutes of meetings, filing of updates on statutory registers for such tasks that are beyond the scope of NED/ID A full-time director or KMP should be held liable for the breach of any company law since they are accountable for the day-to-day affairs of the company. Furthermore, it was directed that standard operating procedures provided by the MCA have to be followed for initiating proceedings against officials who have violated the law of the company.

Vicarious Liability of NED’s for Dishonour of Cheque

More often than not, the question of NED/ID’S liability for the dishonour of cheque has come under scrutiny in numerous cases before various courts of India. It was held in the case of “Sunita Palta v. M/s Kit Marketing Private Limited” that the non-executive directors are exempted from Section 138 of the Negotiable Instrument Act which attracts criminal liability for the dishonour of cheque.

Vicarious liability was discussed in terms of Section 141 of the Negotiable Instrument Act by the court. It was held that an individual should be held accountable for the affairs of the company at the time crime was committed for being criminally liable under Section 141 of the Act. Each and every person associated with the company shall not fall within the scope of this Section. Henceforth, a director cannot be held liable under the provision if, at the time of the offence, he was not accountable for the affairs of the company. On the contrary, a person can be held liable even though he/she doesn’t hold any office or designation provided he/she was accountable for the affairs of the company at the time offence was committed

Need for a Reform

In the day-to-day business of the company, the NEDs do not continuously pay much attention and play an active role; thus they are not responsible. Even though in numerous circumstances, the Apex Court set down strong laws on the vicarious liability of NEDs, the directors received a summons from law enforcement agencies and judicial magistrate despite their no role in the default. It has prompted various High Courts to invoke the intrinsic powers under Section 482 of the CrPC for quashing criminal case against NEDs due to their non-involvement in the crime. This leads to further obstruction and numerous lawsuits in our already overburdened judiciary.

Additionally, the Standing Committee’s Finance Report on Companies Bill 2011, acknowledged that although the “Companies Bill 2011” is seeking to reduce the liability of independent directors but still they are being regarded as equal to various other directors by making them accountable for the board proceedings. This type of vulnerability has led to the dismissal of directors and stopped many otherwise well-qualified people from joining the executive board of corporations. A total of 1,393 ID posts were vacated in 2019, compared to 767 in 2018 and 717 in 2017, as per the data run by Prime Databases. Therefore, urgent reforms are required in this arena of law.

Conclusion

From the above analysis, it may be inferred that it is very crucial to understand in the lawsuit itself how a NED was involved in the day-to-day operation of the company at the time the crime was perpetrated before determining whether to keep the NEDs liable or not. In order to make an explicit difference between the duty of executive and NEDs to avoid resignations of directors and preventing other well-qualified applicants from joining company boards, there is an immediate requirement to change the provisions of ‘vicarious liability’ in every legislation.

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