The Companies Act, 2013 ('Companies Act') read with the Companies (Restriction on Number of La yers) Rules, 2017 ('Layering Rules') says that a company is not allowed to have more than two layers of subsediaries. The general doubt here is, why should not a company have more than two subsidiaries, the answer is this to avoid the misuse of multiple layer of companies, like shell companies for diverting funds or use for money laudering.
The important point we need to note here is, this is not a blanket prohibition, there are exemptions available to specified companies. These exemptions are available for certain type of companies, cases of acquisition of foreign companies and also one layer of wholly own subsediaries or subsidiary.
When we look on to section 2(87) of the Companies Act, 2013, the definition of subsidiary company says, it is a company in which a holding company either
Controls the composition of the board of directors, or
Exercises or controls more than 50% of the total voting power,
Either by itself or together with one or more of its subsidiary companies.
The definition further says that a company will be treated as subsidiary company of another, even if the control is exercised by a subsidiary company of holding company. These companies are not supposed to have layers of subsidiaries beyond the prescribed number.
The explanation to the section further clarifies that a company shall be deemed to be a subsidiary company of the holding company even if the control referred to above, is of another subsidiary company of the holding company.
If any company have more than the prescribed number of layers at the time of publication of layering rules, need to file a return in CRL 1, within 150 days. After they are not supposed to add any more layers, and, if a company violates the same, it will attract fines on company and officer in default.
The following classes of companies are exempt from restriction on number of layers:
A banking company;
A non-banking financial company which is registered with the Reserve Bank of India and considered as systematically important non-banking financial company by the Reserve Bank of India;
An insurance company being a company which carries on the business of insurance; and
A Government company.
Exemption for acquiring foreign companies
A company is not restricted from acquiring a company incorporated outside India with subsidiaries beyond 2 (two) layers as per the local laws of such country.
A layer of a company that consists of 1 (one) or more WOS will be exempt while computing the number of layers of that company.
The proviso to rule 2 of the Layering Rules that provides for this exemption essentially states that, a company may have a layer of WOS in addition to having 2 (two) layers of subsidiaries.