Debentures in India — Section 71, DRR & Trustee Rules

Is issuing debentures right for your situation?

Debentures fit if:

• The company has steady cash flows and can service fixed interest, but promoters refuse to dilute equity or pledge personal assets for a bank loan.
• You need a large ticket — ₹1 crore and above — for a defined purpose with a 3-to-10-year repayment horizon.
• You have investors in mind — family offices, HNIs, group companies, NBFCs — who want fixed returns with security, not equity risk.
• The company is profitable enough for the tax shield to matter: at 25% tax, a 12% coupon costs roughly 9% after tax.
• An NRI or foreign investor wants in — debentures are FEMA-eligible, with CCDs treated as equity for FDI.

You are looking at the wrong instrument if:

• Cash flows cannot reliably service fixed interest — missed interest hands the trustee a path to the NCLT. A CCD or equity is kinder to volatile cash flows.
• You need money for under a year — that is commercial paper or a working-capital line, not debentures.
• The ticket is small — trustee fees, stamp duty, charge registration and DRR make debentures uneconomical below roughly ₹50 lakh.
• You want investors to share upside and have a voice — that is equity or CCPS, not debt. Debenture holders never vote (Section 71(2)).

NCD vs OCD vs CCD vs PCD — which debenture is yours?

Founders say "debenture" loosely, then discover the four types behave like different products. Choose at the term-sheet stage — re-documenting later wastes months.

NCD — Non-Convertible Debenture. The classic: borrow, pay interest, repay principal in cash at maturity. No conversion, no dilution, ever. Investors like the certainty; companies like the fixed cost and untouched cap table — at the price of the highest coupon of the four. The workhorse for refinancing, capex and expansion.

OCD — Optionally Convertible Debenture. At the conversion date the holder chooses: convert into equity at a pre-agreed ratio, or take cash with interest. The equity kicker means a lower coupon than NCDs — but the company faces uncertainty over whether it repays cash or issues shares. The classic growth-stage bridge. Convertible, so it may be issued unsecured; conversion needs a special resolution under Section 71(1).

CCD — Compulsorily Convertible Debenture. Conversion is the destination, not a choice: on the fixed date the debenture becomes equity automatically — no cash redemption, no DRR, no redemption pressure. Equity with a debt wrapper, which is why startups love CCDs; for FEMA they count as equity, making them the standard FDI instrument. The price: a meaningful conversion discount for the equity risk.

PCD — Partly Convertible Debenture. The compromise: part converts to shares, the rest redeems in cash like an NCD, with DRR only on the non-convertible portion. Suits promoter or family rounds wanting some certainty and some upside.

The decision rule: pure debt with zero dilution risk — NCD. Investor wants an equity option — OCD. Cash flows cannot support redemption, or this is FDI money — CCD. A bit of both — PCD. The GEO table above lines up the mechanics.

The Debenture Redemption Reserve — the current rule

Most internet articles get this wrong — they were written before August 2019 and never updated. Here is the verified position.

What DRR is. Section 71(4) requires a reserve built out of profits available for dividend, usable only to redeem the debentures. Think of it as a wedding fund your family makes you build from your salary: separate account, cannot be spent on anything else, and when the big day (redemption date) arrives, the fund pays the bills. The logic is investor protection — the company cannot distribute away the profits it needs to repay lenders.

The 2019 amendment — G.S.R. 574(E), 16 August 2019. Acting on the Budget 2019–20 announcement, MCA rewrote Rule 18(7):

• Listed companies — no DRR. Fully exempt, public issues and private placements alike.
• RBI-registered NBFCs and NHB-registered HFCs — no DRR. Fully exempt, both routes. (Banking companies and all-India financial institutions were already exempt.)
• Unlisted companies (other than NBFCs/HFCs) — DRR of 10% of outstanding debentures, cut from 25%. Both public and private placements.
• PCDs — DRR only on the non-convertible portion. CCDs need none.

The 15% you have heard about. Separate from the 10% reserve, every company that must create DRR must, by 30 April each year, invest or deposit at least 15% of the debentures maturing in the year ending 31 March of the next year — in scheduled bank deposits free of charge, unencumbered government securities, or approved instruments. Real money parked safely, earmarked for next year's redemptions, never falling below 15% of that year's maturities. Two numbers to remember: 10% reserve out of profits; 15% of next year's maturities parked by 30 April.

Worked example. Sunrise Foods Pvt Ltd (unlisted, not an NBFC) has ₹40 crore NCDs outstanding: ₹10 crore maturing FY 2026–27, ₹30 crore in FY 2027–28. It must hold DRR of 10% × ₹40 crore = ₹4 crore from profits — and by 30 April 2026 park 15% × ₹10 crore = ₹1.5 crore in safe, unencumbered instruments. Shortfalls carry forward as profits permit; auditors qualify non-compliant accounts. Listed or NBFC? Both numbers are zero — but trustee, trust deed and charge still apply in full.

Advantages of issuing debentures

No equity dilution — the cap table stays exactly as it is

Debenture holders are lenders, not owners. Section 71(2) is absolute: no debentures may carry voting rights. Promoter holding, board control and equity dividend rights stay untouched for the entire tenure.

The interest tax shield — the real cost is lower than the coupon

Interest is deductible under Section 36(1)(iii): a 12% coupon at 25% tax costs roughly 9% after tax, while dividends come from after-tax profits. Run post-tax numbers before comparing with any equity offer.

Fixed tenure, fixed cost — planning becomes possible

Coupon, payment dates and redemption date are fixed in the trust deed on day one — unlike a cash-credit rate the bank can reset. Tenure runs up to 10 years generally, 30 for infrastructure companies.

Credit access without promoter pledges

Banks demand personal guarantees from private-company promoters. A secured issue charges the company's own assets in favour of the trustee — security stays at company level, and promoters keep their homes out of the transaction.

A wider investor pool opens up

Family offices, HNIs, corporate treasuries and debt funds want fixed returns with security and will never buy unlisted equity — debentures let a private company tap that pool. A well-structured NCD at 11–13% often finds takers where an equity round stalls.

FEMA-friendly — a clean route for foreign and NRI money

NCDs and OCDs count as debt under FEMA; CCDs are treated as equity — the standard FDI structuring instrument. For an NRI who wants exposure without the valuation debate of an equity round, debentures are often the simplest compliant path.

Redemption discipline forces financial hygiene

DRR, the 15% earmarked investments, the trustee's watch — founders feel these as friction, but they are forced discipline. Five clean years of debenture servicing builds a repayment track record that makes every subsequent borrowing cheaper. Lenders notice.

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The legal framework — Section 71 and Rule 18

Section 71 is the mother provision. Everything else hangs off it, in the order a practitioner actually uses it.

Convertible issues need a special resolution — Section 71(1). Debentures convertible into shares, wholly or partly, at redemption need shareholder approval by special resolution. Pure NCDs do not need this under Section 71 — but the borrowing may still need one under Section 180(1)(c), and a private placement always needs one under Section 42.

No voting rights — Section 71(2). Absolute prohibition. A debenture carrying votes is void as a debenture.

Secured debentures follow Rule 18 — Section 71(3). Four conditions: redemption within 10 years (30 for infrastructure companies, IFCs, IDF-NBFCs and companies permitted by a ministry, RBI, NHB or other authority); a charge on the company's — or its holding/subsidiary/associate's — assets sufficient to repay principal and interest; a trustee appointed before the offer document; and the SH-12 trust deed within 60 days of allotment. The charge favours the trustee, on specific movable property (not by pledge) or specific immovable property.

The trustee's teeth — Sections 71(6) to 71(11). The trustee is not decorative. Its Rule 18(3) duties: verify the offer letter matches the trust deed, call for periodical performance reports, promptly inform holders of any default, ensure the security and DRR are actually created — and appoint a nominee director after two consecutive interest defaults, security-creation default or redemption default. If assets are or may become insufficient, the trustee can petition the NCLT to restrain further borrowing (Section 71(9)); on actual default the NCLT can order forthwith redemption (Section 71(10)). Defying a Tribunal order exposes every officer in default to up to 3 years' imprisonment and ₹2–5 lakh fines (Section 71(11)). Read that twice before missing an interest date.

Borrowing limits — Section 180(1)(c). The board may borrow only up to paid-up capital plus free reserves plus securities premium; breaching it needs a prior special resolution. Most meaningful issues cross it — budget a general meeting into the timeline.

Register the charge — Section 77. The trustee's charge goes to the ROC in Form CHG-9 within 30 days of creation. An unregistered charge is void against the liquidator and creditors — exactly when you need it to work.

The deposit trap. Wide-base borrowings can look like "deposits" under the Acceptance of Deposits Rules — a far stricter regime. Debentures escape it where secured by a first charge (or pari passu) on tangible assets, or compulsorily convertible into shares within five years. Structure into one exclusion — and still report the amounts in the annual DPT-3.

Tax skeleton. Interest is deductible under Section 36(1)(iii). TDS under Section 193 at 10% on interest to residents — except listed demat debentures and the ₹5,000 widely-held-company exemption. Investors generally pay tax on interest as income from other sources; conversion allotments are reported in PAS-3.

If your debentures are listed — the SEBI overlay

If the debentures will list — via public issue or listed private placement — a second regulator enters. The governing law is the SEBI (Issue and Listing of Non-Convertible Securities) Regulations, 2021, notified 9 August 2021, which merged and replaced the old ILDS 2008 and NCRPS 2013 regulations. If your adviser still quotes ILDS, they are two regulations out of date.

Listing adds: mandatory credit rating, an offer document with prescribed disclosures, LODR continuous disclosures, and EBP-platform issuance for larger placements. The trustee must be SEBI-registered in any case.

The trade-off: listing reaches a larger pool and can price better, but turns a private contract into a public compliance program. Raising from known investors? The unlisted Section 42 route is faster and cheaper.

Documents required for a debenture issue

Corporate authorisations. Board resolution (terms, subscribers, trustee); special resolutions under Sections 71(1), 42 and 180(1)(c); MGT-14 within 30 days each; MOA/AOA borrowing powers; PAS-4 with serially numbered forms; PAS-5 record; PAS-3 return.

Financials. Audited statements for 2–3 years; current-year provisionals; cash-flow projections across the tenure (trustee and investors both ask); existing borrowings and charges from the MCA index.

Trustee and security. Trustee's written consent with SEBI registration certificate; independence confirmations under Rule 18(2); SH-12 trust deed (within 60 days of allotment); title deeds and valuation of charged assets; charge documents for CHG-9.

Investor and tax paperwork. KYC and PAN of each subscriber (PAN is mandatory for PAS-5); proof that subscription money came from each subscriber's own bank account; ISIN application if demat; stamp-duty computation — the trust deed and certificates both attract duty at state-varying rates, so get a state-specific computation before execution [NEEDS VERIFICATION for exact rates in your state].

Debenture issue process — step by step

Step 1 — Board meeting: terms, trustee, subscribers

The board fixes commercial terms, identifies offerees, approves the draft PAS-4, and appoints the trustee — before the offer letter goes out. If Section 180(1)(c) limits will be crossed, it calls the general meeting.

Step 2 — Special resolution

One resolution can cover Sections 71(1), 42 and 180(1)(c); for NCDs, a single special resolution once a year covers all offers during the year. File MGT-14 within 30 days.

Step 3 — Trustee engagement and security package

Finalise the trustee's consent and engagement letter; line up asset valuations and title documents; draft the SH-12. Starting charge paperwork now — not after allotment — keeps the 30-day CHG-9 clock from becoming a crisis.

Step 4 — PAS-4, separate bank account, subscription money

Circulate serially numbered PAS-4 to identified persons (max 200 per financial year excluding QIBs; ₹20,000 minimum face value each). Open a separate scheduled-bank account. Money must come from each subscriber's own account, never cash — and the company cannot touch it until allotment and PAS-3 filing.

Step 5 — Allot within 60 days; PAS-3 within 15 days

The board allots within 60 days of receiving application money and refunds the rest; file PAS-3 within 15 days. Record everything in PAS-5 with subscriber PANs.

Step 6 — SH-12 trust deed within 60 days of allotment

Execute the Form SH-12 trust deed within 60 days — terms, security, trustee powers, events of default. Stamp it per applicable state rates before execution.

Step 7 — CHG-9 within 30 days of charge creation

Register the trustee's charge within 30 days, then verify it on the MCA charge index yourself — an unregistered charge is void against liquidators and creditors.

Step 8 — Certificates, DRR, DPT-3

Deliver certificates within 6 months of allotment (Section 56(4)(d)); intimate the depository immediately if demat. Create the DRR from profits and make the 30 April earmarked investments. Report the issue in the annual DPT-3 even where exempt.

How long does it take?

| Stage | Typical time | Depends on | |---|---|---| | Term sheet + board approval | 3–7 days | Promoter decisiveness on coupon and security | | Trustee appointment + consent | 5–10 days | Trustee's internal credit process | | Special resolution + MGT-14 | 14–25 days | General meeting notice period | | PAS-4 circulation + subscription | 7–21 days | Investor readiness | | Allotment + PAS-3 | 3–7 days | Board availability | | SH-12 execution | 7–15 days post-allotment | Stamp-duty adjudication in some states | | CHG-9 registration | 3–7 days | ROC processing | | Total, unlisted private placement | 4–8 weeks | Investor readiness dominates | | Listed issue (add SEBI layer) | 10–16 weeks | Rating + offer document + EBP |

How ComplyKart helps in this entire process

Consulting. Structure first: NCD vs OCD vs CCD vs PCD for your cash flows, secured vs unsecured, tenure within Rule 18 limits, the 180(1)(c) ceiling, the deposit-definition trap. If a CCD or term loan serves you better, we say so — the fee is the same either way.

Documentation. Board and general meeting packs with Rule 14 price justifications, PAS-4 and application forms, PAS-5 records, the SH-12 trust deed coordinated with the trustee's lawyers, charge documents, DRR accounting entries.

Filing. MGT-14, PAS-3, CHG-9 and DPT-3 on the MCA portal; charge verification on the MCA index; ISIN and demat coordination where needed.

Follow-up. DRR creation and the 30 April investment calendar, trustee reporting coordination, interest TDS workings, redemption planning as maturities approach.

What we do not do. We do not place debentures with investors or market your issue — we are compliance counsel, not arrangers. We do not act as debenture trustee; the trustee must be independent and SEBI-registered, and we help you appoint one. We do not give credit ratings or merchant-banking services — those need SEBI-registered intermediaries, whom we coordinate with.

What happens after the issue

Within 30 days. PAS-3, CHG-9 and MGT-14 filed; subscription money released from the separate account only after allotment; trustee reporting calendar set.

Within 6 months. SH-12 executed (60-day deadline); certificates delivered (6-month deadline); DRR entries passed; first interest date calendared with TDS workings.

Through the tenure. Interest on due dates with TDS; yearly DRR top-ups from profits; every 30 April, the 15% earmarked investment; half-yearly asset-cover certificates to the trustee; prompt reporting of defaults or breaches.

At redemption. Lump sum at maturity, instalments by drawing lots, open-market purchase and cancellation of your own debentures, or conversion per the terms. Then release the DRR to free reserves, satisfy the CHG-9 charge, and intimate the trustee.

The recurring compliance you are signing up for

A debenture issue is a multi-year compliance program, not a one-time filing. Budget for it before you issue.

Annual. DRR maintenance (10% of outstanding for unlisted non-NBFC/HFC issuers); the 30 April earmarked investment; DPT-3 reporting; Board's report disclosures; auditor verification of DRR and charge.

Event-based. Interest payments with TDS; PAS-3 on conversion allotments; CHG-9 modification or satisfaction on charge changes; immediate trustee intimation of defaults or covenant breaches.

Trustee-driven. Periodical performance reports; half-yearly asset-cover and DRR certificates; the trustee's right to call holder meetings and appoint a nominee director after two consecutive interest defaults.

Common mistakes and how to avoid them

1. Treating the trustee as a rubber stamp. Founders appoint the cheapest trustee and ignore them until redemption. The trustee has statutory duties and NCLT access — a disengaged trustee turns hostile at the first default. Feed reports on time; call before a covenant breach, not after.

2. Missing the CHG-9 30-day window. Documents get signed, everyone celebrates, the filing slips. An unregistered charge is void against the liquidator — the investors' security does not legally exist. File within 30 days, then verify on the MCA index.

3. Forgetting the 30 April earmarked investment. Companies remember the 10% DRR entry and forget the separate 15% real-money investment due every 30 April. Calendar it the day the debentures are allotted.

4. Issuing unsecured NCDs widely without checking the deposit rules. Unsecured NCDs can fall inside the "deposit" definition — a far stricter regime. Fit the first-charge or compulsory-conversion exclusions, or restructure before offering.

5. Crossing Section 180(1)(c) without a special resolution. The board approves ₹10 crore of NCDs; nobody checks total borrowings against paid-up capital plus free reserves plus securities premium. Check the arithmetic before the meeting, not after.

6. Botching the private placement headcount. Over 200 offerees in a year (excluding QIBs) turns the placement into a deemed public offer — prospectus requirements, potential refund liability. Count every offeree; keep PAS-5 immaculate.

7. Ignoring TDS on interest. Unpaid Section 193 TDS leaves the company liable for the tax plus interest and penalties. Set up the TDS working with the first interest calendar, applying the listed-demat and ₹5,000 exemptions only where they genuinely fit.

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Sources

Built on the Companies Act, 2013 (Sections 2(30), 42, 56(4)(d), 71, 77), the Companies (Share Capital and Debentures) Rules, 2014 (Rule 18, as amended by G.S.R. 574(E) dated 16 August 2019), the Companies (Prospectus and Allotment of Securities) Rules, 2014 (Rule 14), the SEBI (Issue and Listing of Non-Convertible Securities) Regulations, 2021 (notified 9 August 2021), and the Income-tax Act, 1961 (Sections 36(1)(iii), 56, 193). Procedural detail cross-checked against CAClubIndia, TaxGuru, SCC Online and the ca2013.com ready reckoner. Claims not verifiable against a primary source are marked [NEEDS VERIFICATION].

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