Companies Act and Capital Redemption Reserve
Companies Act, 2013 mandates transferring the amount to capital redemption reserve in the following two cases,
1. Redemption of Preference Shares: Section 55 of the Companies Act, 2013 makes it mandatory for companies limited by shares proposing to redeem their preference shares out of profits, to transfer the sum equal to the nominal value of preference shares which are to be redeemed to a capital redemption reserve account.
2. Buy-Back of Shares: According to section 69 of the Companies Act, 2013, where a company proposes to buy back the shares out of its free reserve or security premium account, it shall transfer an amount equal to the face value of shares so bought back to the capital redemption reserve account. The company must disclose the details of such transfers in its balance sheet.
The object behind mandating the creation of a capital redemption reserve account is,
- Protect the Interest of Creditors: The Capital Redemption Reserve is typically used to protect the interests of creditors and shareholders by maintaining a pool of funds that can be used to cover any capital reduction resulting from share buybacks.
- Stability of the Company: The capital redemption reserve account is created by setting aside some of the company’s profits. It ensures that the company has enough funds to meet any future losses and helps maintain the financial stability of the company and its integrity.
- Reduction of Share Capital: It is a financial mechanism to account for the reduction in share capital when a company repurchases its own shares.