Enforcing a Pledge over an Insurance Company’s Shares

A transfer of shares of an insurance company requires the prior approval of the Insurance Development and Regulatory Authority of India (IRDAI) in certain circumstances. Section 6A(4)(b)(iii) of the Insurance Act, 1938 provides:

“(4) A public company as aforesaid which carries on life insurance business-

(b) shall not register any transfer of shares

(ii) where, after the transfer, the total paid-up holding of the transferee in the shares of the company is likely to exceed five per cent. of its paid-up capital or where the transferee is a banking or an investment company, is likely to exceed two and a half per cent of such paid-up capital, unless the previous approval of the [IRDAI] has been obtained to the transfer.”

Although the provision explicitly refers to life insurance companies, section 6A(11) applies it to general insurance companies as well, subject to certain conditions.

The scope of the above provision and, more specifically, whether it applies to the enforcement of pledges over shares of an insurance company, came up for consideration before the Securities Appellate Tribunal (SAT) in Nippon India Mutual Fund v. Insurance Regulatory & Development Authority of India (27 February 2020). The relevant facts are that, in connection with certain financing transactions whose details are not material for the present purposes, Reliance Capital Limited offered a pledge of its entire shareholding in Reliance General Insurance Company Limited (RGIC) in favour of IDBI Trusteeship Services Limited. The financing was provided by Nippon India Mutual Fund. Upon default under the terms of the financing, IDBI Trusteeship invoked a pledge of shares held by Reliance Capital in RGIC. To this, the IRDAI, by way of an order passed in December 2019, found that the invocation of the pledge and transfer of shares was in violation of section 6A(4)(b)(iii) of the Insurance Act and hence “null and void ab initio”.

On appeal before the SAT, Nippon India argued that IDBI Trusteeship had only taken possession of the RGIC shares. It has not exercised any control over RGIC. Both Nippon Mutual and IDBI Trusteeship stated that the latter’s holding of shares in their demat account was only in the capacity of the trustee, and the shares were in fact not transferred to it. IDBI Trusteeship also stated that it will obtain IRDAI’s approval before transferring the shares by way of a sale to any third party, a fact that IRDAI itself acknowledged in subsequent correspondence. IRDAI’s stand made it “clear that prior to any transfer of the shares in question, the authority is required to be in a position to carry out due diligence in order to ascertain fulfillment of fit and proper criteria and financial soundness of the transferee”.

On this basis, the SAT disposed the appeal by setting aside the portion of IRDAI’s finding that the transfer or pledge of the shares in question are “null and void ab initio”, as that finding was incorrect. It also directed IDBI Trusteeship, when it finds a buyer for the shares, to make an application before the IRDAI and obtain its approval after providing the opportunity to it to carry out the necessary due diligence. So long as IDBI Trusteeship is holding shares in the capacity of a trustee or custodian, it is not allowed to exercise any control over RGIC. Curiously enough, the SAT decision is based on pragmatism rather than jurisprudence. For instance, it did not consider, and indeed left open, the issue of whether the expression “transfer” used in section 6A(4)(b)(iii) would include a pledge. That would have required the adjudicatory body to consider whether the IRDAI approval is to be obtained at the stage of (i) creating the pledge, (ii) enforcing the pledge to take over the security or (iii) transfer of the shares to a buyer. Instead, the practical conclusion the SAT arrived at would suggest that IRDAI approval is required for the third stage, and not for the first two (so long as the pledgee does not exercise control rights in the interim). Ultimately, this consistent with the policy surrounding the statutory provision, which is to provide IRDAI with a say when there is a change of substantial shareholding in an insurance company that may ultimately have an impact on who controls it.

About the author

Umakanth Varottil

Umakanth Varottil is an Associate Professor at the Faculty of Law, National University of Singapore. He specializes in corporate law and governance, mergers and acquisitions and cross-border investments. Prior to his foray into academia, Umakanth was a partner at a pre-eminent law firm in India.

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