Transfer of shares to family trusts without complying with SAST requirements
Opportunity and Transparency through SAST
SEBI (Substantial Acquisition of Shares and Takeovers) Regulations, 2011 (SAST
Regulations) was brought with an intention to ensure fair, equitable and transparent
operation of takeovers.
The word Takeover in a general sense refers to acquisition of a company by
any person including a corporate. So as per SAST Regulations, the basic requirements under the regulations
include the following:
Open offer – a level playing field exercise
This concept requires the acquirer to give an open offer to all the shareholders of the target company in case he intends to acquire either directly or indirectly, a large pie of shareholding or control in the same (first time acquisition of 25% and on further acquisition of additional 5% in a financial year).
The same is provided with an intent to provide a fair exit to the remaining shareholders in case they are intending to do so; and
Intimation to stock exchange
Event based and annual intimations to be given under specified regulations of the SAST Regulations.
While Regulation 3, 4 and 5 of the SAST Regulations requires the acquirer to give open offer, Regulation 10 provides certain cases of acquisition which are eligible for exemption. The only fact is that, there is no deemed exemption, the acquirer is required to seek the exemption under Regulation 11 in the specified format and along with requisite details.
SEBI vide its Order dated April 30, 2020 has granted exemption to the acquirers of the equity shares of a certain company (Target Company) from complying with the open offer requirements.
The article tries to capture the key legal points behind granting such exemption.
Brief of the facts
Some of the promoters of Target
Company decided to transfer majority
part of their existing shareholding in the
Target Company to 4 Trusts
(“Acquirers”). The Trustees and the
Beneficiaries of the Trusts were the
immediate relatives or lineal
descendants of the promoters only.
Further, the shareholding of the
promoter/ promoter group would
remain the same even after the
acquisition.
- The promoters of the Target Company were holding 73.71% of the total share capital
- They intended to transfer 47.52% of the total share capital to their own family trusts
- Post the proposed acquisition, the total promoter shareholding would remain the same.
- Acquisition of 47.52% of the total share capital by the Trusts attracted the open offer requirements
Rationale behind the transfer to a family trust
Family trusts are most common way of succession planning as it can be a great tool for
managing assets, finances and investing in securities and utilizing returns earned by the trust
for the benefits of the beneficiaries. Setting up a family trust empowers the settlor of the trust
to have a complete control over the trust alongwith managing the assets for the purpose for
which the trust has been formed alongwith being a platform for a seamless transition of
assets from one generation to another.
One of the appropriate reasons for transferring individual assets to the trusts can be the
absence of any averse tax implications. Section 47(iii) of the Income Tax Act, 1961 provides
that “any transfer of capital asset under a gift or will or irrevocable trust” is an exempt transfer
for the purpose of Section 45 i.e. capital gains. Further, from the recipient’s point of view i.e.
the trust (which is assessed as an individual), proviso to Section 56(2)(x) provides for non-applicability of section 56 i.e. income from other sources in case the property is received
“from an individual by a trust created or established solely for the benefit of relative of the
individual.” Evidently, transfer of capital assets i.e. shares held in individual capacity by
gifting it to the trust is an ideal way of inheriting shares to legal heirs of a family without
attracting any tax implications.
SEBI’s clarification
Regulation 11(1) and (5) of the SAST Regulations provides that SEBI on an application made
and after providing reasonable opportunity of being heard may grant exemption from the
obligation to make an open offer for acquiring shares. Further, in order to maintain uniformity in disclosures in the applications, SEBI issued a Circular2 on December 22, 2017
providing a set of conditions while seeking exemption under the said Regulation.
The Circular has provided that where Trusts are acquiring shares in the Target Company by
way of transfer from the promoters, exemption would be granted from the obligations of
open offer on fulfilment of the conditions laid down. Further SEBI has also clarified in the
present case, the establishment of the fulfilment of the following conditions:
- No change in the ownership or control of the Target Company and the Trust shall only be a ‘mirror image’ of the promoters holdings;
- Trust to have only individual promoters, immediate relatives or lineal descendants as trustees and beneficiaries;
- This would mean that if promoter and its group holding consists of corporate shareholding, the same cannot be transferred to the trust.
- No transfer, assignment or encumbrance (including pledge/ mortgage) of the beneficial interest of the beneficiaries of the trust in any manner;
- Putting this covenant or undertaking would create a boundary within which shares would move (between the individual beneficiaries). The promoters will not be able to raise any secured funding on the strength of the shares held by the trust.
- Assets of the trust to be distributed only to the beneficiaries of the trust upon dissolution;
- No transfer or delegation of the powers of the trustees to any person other than them
Importance of the covenants of the Trust Deed
In addition to the abovementioned conditions, SEBI stressed that certain covenants should
not be included in the trust deed in cases where such trusts are acquiring the shares of the
promoters and have sought exemption under Regulation 11 of the SAST Regulations. There
may be situations where the covenants of the Trust Deed are such that they may allow
transfer of trust assets to another trust or may involve any professional trusteeship company
for managing the assets held in the trust. In the present case, the Acquirers had to amend the
following covenants of the trust deed in order to ensure the same are not in any way
detrimental to the interest of the beneficiaries and at the same time restrict the flow of
control from the existing beneficiaries to an outsider.
i. Decanting the income of trust
As discussed above, the establishment of a family trust is to provide security of assets
to the legal heirs of the family. Decanting the corpus or income of the trust can be
detrimental to their interest as that would be a process of re-writing the trust by
distributing the assets to a new trust with new terms. Since, the objective of the family
trust is to prevent any diversion of the estate of the trusts to any outside group, it was
necessary to remove such clause from the trust deed.
ii. Distribution of assets of the trust amongst the beneficiaries
As discussed above, in order to prevent transfer of control or ownership rights to any
outsider in future at the time of dissolution, it is necessary that the assets of the trust
are distributed amongst the beneficiaries only who are the relatives of the promoters.
Hence, it was necessary to introduce such clause in the trust deed in line of seeking
such exemption from the open offer obligations.
iii. No directive voting rights on the trustees
Since a family trust is managed by the trustees who are generally the family members,
and the motive behind such family trust is to provide long-term security to the legal
heirs of the family, it is necessary that the trustees exercise their independent voting
rights in the best interest of the beneficiaries without any outside influence.
Therefore, it was necessary to remove such clause from the Trust Deed which
provided for the exercise of the voting rights of the trustees based upon such terms
and conditions as decided by the shareholders of the Target Company by way of any
written agreement
Undertaking to be a part of the Trust Deed
Apart from the conditions as mentioned above, the following undertakings are also required
to be provided by the Trusts as a part of their Trust Deed which were duly complied by the
Trusts in the present case:
a) Any change in the trustees / beneficiaries and any change in ownership or control of
shares or voting rights held by Trusts shall be disclosed within 2 days to the
concerned stock exchanges with a copy endorsed to SEBI for its record.
b) The ownership or control of shares or voting rights will be treated as vesting not only
with the Trustees but also indirectly with the beneficiaries for the purpose of SEBI
Act and regulations.
c) The liabilities and obligations of individual transferors under the SEBI Act and the
regulations framed thereunder will not change or get diluted due to transfers to the
Trusts.
d) Annual confirmation by the Trusts that they are in compliance with the exemption
order passed by SEBI. The said confirmation shall be furnished to the Target Company
which it shall disclose prominently as a note to the shareholding pattern filed for the
quarter ending March 31 each year, under Regulation 31 of the SEBI (Listing
Obligations and Disclosure Requirements) Regulations, 2015.
e) Annual certification of the compliance status of the Trusts from an independent
auditor and shall also furnish the certificate to the Stock Exchanges for public
disclosure with a copy endorsed to SEBI for its records.
f) The proposed acquisition is in accordance with the provisions of the Companies Act,
2013 and other applicable laws.
g) The transferors (promoters in the present case) are disclosed as promoters in the
shareholding pattern filed with the Stock Exchanges for a period of at least 3 years
prior to transfer (except for holding on account of inheritance).
h) There is no layering in terms of trustees/beneficiaries in case of Trusts.
i) No limitation of liability of the trustees / beneficiaries in relation to the provisions of
the SEBI Act and all regulations framed thereunder in the Trusts Deed.
Compliances to be ensured post exemption
Once the exemption is granted to the Trusts, there are post exemption requirements to be
fulfilled by the Trusts which are as follows:
a) Submission of the report with SEBI within a period of 21 days from the date of such
proposed acquisition by the Acquirers
b) Ensuring compliance of the SEBI Circular at all times.
c) Ensuring compliance of the statements, undertakings and disclosures made at all
times
d) Covenants of the Trust Deed to remain non-contradictory to the conditions and the
undertaking made by the promoters.
Conclusion
SEBI has granted similar exemption in the past in the cases of Dredging Corporation of
India Limited3, Pudumjee Pulp & Paper Mills Limited etc. In spite of the laid conditions,
there is no automatic exemption from the provisions of law. Such exemptions are based on
case to case basis and cannot be said universal in nature. However, it is evident that such
cases are too often and providing them exemption from the requirements of law is beneficial
for such acquirers.
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