THE LEGAL BRIDGE

Judiciary & Law Notes Series

THE COMPANIES ACT, 2013

CHAPTER XXVI

Nidhis

Section 406

For Judicial Service Aspirants & Law Students

RJS • DJS • PCS-J • HJS • UPJS • BJS • MPCJ

Mutual Benefit Company • Members Only • Nidhi Rules, 2014 • Not RBI-Regulated

— Enriched with landmark judgments and illustrative case law —

Chapter XXVI — Nidhis

A Nidhi is a peculiar Indian institution — a mutual benefit company whose sole business is to receive deposits from, and lend to, its members. Nidhis trace their origin to the 19th-century South Indian tradition of mutual credit societies, particularly strong in Tamil Nadu. They are governed by a distinctive regulatory regime that combines company law (as they are registered under the Companies Act) with quasi-banking supervision (as they accept deposits and grant loans). Chapter XXVI of the Companies Act, 2013 — like Chapter XXV, a single-section chapter (Section 406) — is the statutory gateway to this regime.

For judicial aspirants, the key themes are: (a) what is a Nidhi; (b) who regulates them (Central Government, not RBI); (c) the member-only business model; (d) the Nidhi Rules, 2014 and their practical operation; and (e) the distinction between Nidhis and other financial entities such as banks, NBFCs, and mutual benefit societies.

Historical Origins

The word 'Nidhi' is Sanskrit, meaning 'treasure' or 'stored fund'. The first Nidhi Company — Madras Mutual Benefit Permanent Fund — was established in Chennai in 1887 by a group of professionals seeking to institutionalise a thrift-and-credit model for their community. The form proliferated across the Madras Presidency and, post-independence, was embraced by the Government of India as a vehicle for financial inclusion — particularly among middle-class, urban, and semi-urban populations who were otherwise underserved by formal banking.

Nidhis were initially regulated as a distinct category under Section 620A of the Companies Act, 1956, which vested supervisory authority in the Central Government. The 2013 Act preserves and modernises this framework through Section 406 and the Nidhi Rules, 2014 (as amended in 2019 and subsequently). The governing philosophy remains member-centric, cooperative in spirit, but corporate in form — a miniature mutual bank, operating only among its members.

Section 406 — Power to Modify Act in its Application to Nidhis

(1) Definition of Nidhi

In this section, 'Nidhi' or 'Mutual Benefit Society' means a company which the Central Government may, by notification in the Official Gazette, declare to be a Nidhi or Mutual Benefit Society, as the case may be. Thus, the legal status of 'Nidhi' is not inherent in the company's name or incorporation — it is conferred by a specific declaration of the Central Government.

(2) Power to Exempt and Modify

The Central Government may, by notification in the Official Gazette, direct that any of the provisions of this Act specified in the notification —

• Shall not apply to any Nidhi or Mutual Benefit Society; or
• Shall apply to any Nidhi or Mutual Benefit Society with such exceptions, modifications and adaptations as may be specified in the notification.

A copy of every notification proposed to be issued under sub-section (2) shall be laid in draft before each House of Parliament, while it is in session, for a total period of thirty days which may be comprised in one session or in two or more successive sessions, and if, before the expiry of the session immediately following the session or the successive sessions aforesaid, both Houses agree in disapproving the issue of the notification or both Houses agree in making any modification in the notification, the notification shall not be issued or, as the case may be, shall be issued only in such modified form as may be agreed upon by both the Houses.

Significance

Section 406 is not itself a substantive regulator — it is an enabling provision that lets the Central Government adapt the Companies Act to the unique needs of Nidhis. The actual operating rules for Nidhis are contained in the Nidhi Rules, 2014, issued under Section 406 read with Section 462 of the 2013 Act.

The Nidhi Rules, 2014 — Principal Features

Rule 3 — Definitions and Concept

A Nidhi means a company which has been incorporated as a Nidhi with the object of cultivating the habit of thrift and savings amongst its members, receiving deposits from, and lending to, its members only, for their mutual benefit, and which complies with such rules as are prescribed by the Central Government for regulation of such class of companies. The essential features are:

• A public company limited by shares;
• Incorporated with a minimum paid-up equity share capital of ₹10 lakh (enhanced from ₹5 lakh by the Nidhi (Amendment) Rules, 2019);
• Must have the word 'Nidhi Limited' as the last part of its name;
• Objective: cultivate thrift and savings amongst members;
• Business activity: deposits and loans only with members; not with non-members.

Rule 4 — Incorporation and Membership Requirements

• A Nidhi shall be a public company and must have a minimum paid-up equity share capital of ₹10 lakh;
• Except as provided under the proviso to sub-rule (1) of rule 5, every Nidhi shall have a minimum of 200 members within a period of 120 days from the date of its incorporation;
• Every Nidhi shall have Net Owned Funds (NOF) of ₹20 lakh or more within a period of 120 days from the date of incorporation; 'Net Owned Funds' means the aggregate of paid-up equity share capital and free reserves as reduced by accumulated losses and intangible assets.

Rule 5 — Declaration as Nidhi by the Central Government

Within a period of 120 days from the date of its incorporation, a Nidhi company must make an application in Form NDH-1 to the Central Government (through the Regional Director) for declaration as a Nidhi. Until this declaration is obtained, the company cannot use the name 'Nidhi' for its business operations — though the Nidhi Rules, 2014 now provide a streamlined pathway to obtain this declaration.

Rule 6 — Restrictions on Nidhis

A Nidhi is subject to many restrictions — the most important being:

• No Nidhi shall carry on the business of chit fund, hire purchase finance, leasing finance, insurance, or acquisition of securities issued by any body corporate;
• No Nidhi shall issue preference shares, debentures, or any other debt instrument by any name or in any form whatsoever;
• No Nidhi shall open any current account with its members;
• No Nidhi shall acquire another company by purchase of securities or control the composition of the Board of Directors of any other company in any manner whatsoever;
• No Nidhi shall pay any brokerage or incentive for mobilising deposits from members or for deployment of funds or for granting loans;
• No Nidhi shall accept deposits from or lend to any body corporate.

Rule 7 — Share Capital and Allotment

Every Nidhi shall issue equity shares of the nominal value of not less than ₹10 each. Nidhi shall allot to each deposit holder at least a minimum of 10 equity shares or shares equivalent to ₹100. Membership is open to individuals only — bodies corporate, trust, Hindu Undivided Family (HUF), and minors cannot be members of a Nidhi.

Rule 8 — Membership

• A Nidhi shall not admit a body corporate or trust as a member;
• A minor shall not be admitted as a member of a Nidhi (except that a deposit may be accepted in the name of a minor, if made by the natural or legal guardian);
• Every member shall hold at least 10 equity shares of the Nidhi, or shares worth ₹100, whichever is higher;
• A savings account holder and a recurring deposit holder shall be required to maintain the minimum shareholding in the Nidhi.

Rule 9 — Net Owned Funds (NOF)

Every Nidhi, at all times, shall maintain the Net Owned Funds of not less than ₹20 lakh. This is a prudential requirement — ensuring that the Nidhi has adequate capital to absorb losses before depositors' funds are affected. Failure to maintain NOF may trigger reg¬ulatory action, up to cancellation of Nidhi status.

Rule 11 — Branches

• A Nidhi may open branches only if it has earned net profits after tax continuously during the preceding three financial years;
• A Nidhi cannot open branches outside the district in which its registered office is located, unless it has complied with the requirement of minimum 3 years of continuous profits and has not defaulted in complying with applicable regulations;
• A Nidhi shall not open branches outside the State in which its registered office is located;
• Prior approval of the Regional Director is required to open a branch outside the district;
• Every branch opened shall be reported to the Regional Director and the Registrar of Companies within 30 days.

Rule 13 — Acceptance of Deposits

Rule 14 — Loans

• Loans only to members;
• Only against specified securities — gold/silver jewellery, immovable property (subject to property being not more than 50% of the total loan value), fixed deposit receipts, National Saving Certificates, post office savings certificates, insurance policies, etc.;
• Maximum loan amount linked to deposits: ₹2 lakh where the deposits are less than ₹2 crore; ₹7.5 lakh where deposits are between ₹2 crore and ₹20 crore; ₹12 lakh where deposits are between ₹20 crore and ₹50 crore; ₹15 lakh where deposits exceed ₹50 crore. These limits have been progressively liberalised to accommodate small business credit;
• Loan against gold — maximum 80% of the value of gold;
• Loan against immovable property — maximum 50% of the value of the property;
• Interest on loans — shall not exceed 7.5% above the highest rate of interest offered on deposits by the Nidhi.

Rule 15 — Rate of Interest

The rate of interest on any loan given by a Nidhi to its members shall not exceed 7.5 percentage points above the highest rate of interest offered by the Nidhi on any deposit, subject to the condition that such ceiling shall be applicable to all loans disbursed.

Accounting, Audit, and Compliance

• Every Nidhi shall, within 90 days from the close of the first financial year after its incorporation and where applicable, the second financial year, file a return of statutory compliances in Form NDH-1 with the Registrar, along with prescribed fee;
• Form NDH-3 — Half-yearly return to be filed within 30 days from the close of the half-year (ending 30 September and 31 March);
• Form NDH-4 — Application for declaration as Nidhi;
• Statutory audit under Chapter X of the Act applies, with rotation of auditors as per Section 139.

Restrictions Unique to Nidhis

Distinguishing Nidhis from Other Financial Entities

Regulatory Approach and Recent Reforms

The Nidhi Rules, 2014 have been amended multiple times — notably in 2019, 2022, and 2024 — to tighten regulation, enhance transparency, and weed out fraudulent entities masquerading as Nidhis. Major reforms include:

• Mandatory pre-registration approval (Form NDH-4) — prior to using the word 'Nidhi' in the name, companies must obtain formal declaration from the Central Government; this prevents the earlier practice of entities incorporating as 'Nidhi' companies and operating before getting declaration;
• Enhanced minimum paid-up capital — from ₹5 lakh to ₹10 lakh;
• Mandatory minimum Net Owned Funds of ₹20 lakh (previously ₹10 lakh);
• More stringent branch expansion criteria — requiring 3 years of continuous profitability;
• Periodic scrutiny by Regional Directors and possibility of cancellation of Nidhi declaration for non-compliant entities;
• Mandatory disclosure on the Nidhi's letterhead, notices, and advertisements that it is 'not regulated by the Reserve Bank of India' — an important consumer protection measure.

Dispute Resolution and Enforcement

Disputes between a Nidhi and its members are generally treated as company-law disputes, justiciable before the NCLT. The Regional Director plays a significant supervisory role — receiving complaints, conducting inquiries, and in severe cases, recommending cancellation of the Nidhi declaration (on which the Central Government may act under Section 406(2)).

A significant number of Nidhis that failed to comply with the revised Nidhi Rules have had their 'Nidhi' status withdrawn or have been directed to wind up. The Ministry of Corporate Affairs regularly publishes lists of declared Nidhis and of those whose status has been cancelled, enabling public verification.

Ongoing Policy Debate

The continued need for the Nidhi framework is periodically debated. Arguments in favour include financial inclusion for semi-urban populations, cultural familiarity with the mutual benefit model, and relatively lower systemic risk than NBFCs. Arguments against include regulatory arbitrage with NBFC rules, limited scale of operation, and occasional use of the Nidhi form to launder unregulated deposits. The 2019 and 2022 amendments strike a balance — tightening regulation while preserving the essence of the model. The Dhanlaxmi Bank experience and the collapse of several non-compliant Nidhis in Tamil Nadu and Kerala in 2018-20 have accelerated regulatory stringency.