2025 (3) TMI 255 - SC - Indian Laws

Non-executive directors cannot be held liable under Section 138 and 141 without proving direct involvement in operations

K.S. MEHTA Versus M/s MORGAN SECURITIES AND CREDITS PVT. LTD.

SC held that non-executive directors cannot be held liable under Section 138 read with Section 141 of the Negotiable Instruments Act without specific ... Dishonour of Cheque - seeking quashing of criminal proceedings initiated against the Appellant(s) under Section 138 read with Section 141 of the Negotiable Instruments Act, 1881 - vicarious liability of non-executive directors - HELD THAT:- This Court has consistently held that non-executive and independent director(s) cannot be held liable under Section 138 read with Section 141 of the NI Act unless specific allegations demonstrate their direct involvement in affairs of the company at the relevant time. In Pooja Ravinder Devidasani v. State of Maharashtra & Anr., [2014 (12) TMI 1070 - SUPREME COURT], this Court while taking into consideration that a non-executive director plays a governance role, they are not involved in the daily operations or financial management of the company, held that to attract liability under Section 141 of the NI Act, the accused must have been actively in charge of the company’s business at the relevant time. Mere directorship does not create automatic liability under the Act. The law has consistently held that only those who are responsible for the dayto- day conduct of business can be held accountable. There is no material on record to suggest that they were responsible for the issuance of the cheques in question. Their involvement in the company’s affairs was purely non-executive, confined to governance oversight, and did not extend to financial decisionmaking or operational management - The complaint lacks specific averments that establish a direct nexus between the Appellant(s) and the financial transactions in question or demonstrate their involvement in the company’s financial affairs. Conclusion - Non-executive directors cannot be held liable under Section 138 read with Section 141 of the NI Act without specific allegations of their direct involvement in the company's affairs. Appeal allowed. ISSUES PRESENTED and CONSIDEREDThe core legal questions considered in this judgment were: Whether the appellants, as non-executive directors, could be held vicariously liable under Section 141 of the Negotiable Instruments Act, 1881 (NI Act) for the dishonor of cheques issued by the company. Whether the lack of specific allegations regarding the appellants' involvement in the company's financial affairs could justify the quashing of criminal proceedings initiated under Section 138 of the NI Act.ISSUE-WISE DETAILED ANALYSISRelevant legal framework and precedents:The legal framework primarily involved Sections 138 and 141 of the NI Act. Section 138 pertains to the offense of dishonor of cheques, while Section 141 deals with the liability of directors and officers of a company for such offenses. The court referred to several precedents, including National Small Industries Corpn. Ltd. v. Harmeet Singh Paintal & Anr., S.M.S. Pharmaceuticals Ltd. v. Neeta Bhalla & Anr., and Pooja Ravinder Devidasani v. State of Maharashtra & Anr., which emphasize the necessity of specific allegations to establish vicarious liability under Section 141.Court's interpretation and reasoning:The Court reiterated that non-executive directors cannot be held liable under Section 138 read with Section 141 of the NI Act unless there are specific allegations demonstrating their direct involvement in the company's affairs at the relevant time. The Court highlighted that vicarious liability under penal statutes must be strictly construed, requiring clear and specific averments in the complaint regarding the role of the director in the alleged offense.Key evidence and findings:The Court noted that the appellants were non-executive directors with no involvement in the financial decision-making or operational management of the company. The appellants were neither signatories to the dishonored cheques nor present at the board meeting where the financial transaction was approved. The Corporate Governance Reports (CGRs) and Registrar of Companies (ROC) records confirmed their non-executive status, indicating their limited role in governance without executive authority.Application of law to facts:Applying the legal principles, the Court found that the complaints lacked specific averments linking the appellants to the financial transactions in question or demonstrating their involvement in the company's financial affairs. The mere attendance at board meetings was insufficient to impose financial liability, as it did not equate to control over financial operations.Treatment of competing arguments:The appellants argued that their non-executive status negated any basis for vicarious liability under Section 141 of the NI Act, relying on CGRs and ROC records to reinforce their lack of involvement in operational or financial matters. The respondents contended that the appellants' names appearing as directors implied involvement in the company's affairs and argued that their status should be determined during trial. The Court sided with the appellants, emphasizing the absence of specific allegations in the complaint.Conclusions:The Court concluded that the appellants could not be held vicariously liable under Section 141 of the NI Act due to the absence of specific allegations and evidence of their involvement in the financial affairs of the company.SIGNIFICANT HOLDINGSPreserve verbatim quotes of crucial legal reasoning:'Section 141 is a penal provision creating vicarious liability, and which, as per settled law, must be strictly construed. It is therefore, not sufficient to make a bald cursory statement in a complaint that the Director (arrayed as an accused) is in charge of and responsible to the company for the conduct of the business of the company without anything more as to the role of the Director.'Core principles established: Non-executive directors cannot be held liable under Section 138 read with Section 141 of the NI Act without specific allegations of their direct involvement in the company's affairs. Vicarious liability under penal statutes requires strict construction and specific averments in the complaint.Final determinations on each issue:The Court set aside the High Court's judgment and quashed the criminal proceedings against the appellants, concluding that the appellants could not be held vicariously liable under Section 141 of the NI Act due to the lack of specific allegations and evidence of their involvement in the financial affairs of the company.