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Redemption of Debentures: Meaning, Sources and Rules regarding Redemption

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What is Redemption of Debentures?

Repayment of debentures to the debenture holders or discharge of the liability on account of debentures is known as the redemption of debentures. They are normally redeemed at the expiry of the period for which they were originally issued. The company may also redeem the debentures before the expiry of the fixed period either by instalments or by purchasing them in the open market if authorised by its articles of Association and the terms of issue.

Sources of Finance for the Redemption of Debentures 

Following are the sources for the redemption of Debentures:

  • Redemption from the proceeds of fresh issue of shares and debentures
  • Redemption of debentures out of Capital
  • Redemption of debentures out of Profits

1. Redemption from the proceeds of fresh issue of shares and debentures:

 A company may decide to issue new equity shares, preference shares or debentures when it is in need of additional funds for the redemption of debentures. In order to redeem the old debentures, the proceeds of the fresh issue of share capital and debentures are utilised. In such a type of redemption, the financial position of the company is not adversely affected.
 

2. Redemption of Debentures out of Capital: 

In Redemption of Debentures out of Capital, no profits are transferred to Debenture Redemption Reserve, as no profits are set aside for the redemption of debentures.

In view of Section 71 of the Companies Act, 2013 and the Securities and Exchange Board of India (SEBI), guidelines requiring the creation of a Debenture Redemption Reserve equivalent to at least 25% of the amount of debentures issued before redemption commences, it is not possible to redeem debentures purely out of capital.

3. Redemption of Debentures out of Profits: 

When an amount equal to debentures issued (i.e., 100% of the amount of debentures) is transferred from the Profit and Loss Appropriation Account to a newly opened account named Debenture Redemption Reserve Account, it is known as Redemption out of profits. It is called redemption out of profits because the transfer of profit to Debenture Redemption Reserve (DRR) reduces the amount of profit available for dividends, which means that the profits set aside for DRR is not available for payment of dividend, but would be utilised to redeem the debentures.
 

Amount of Debenture Redemption Reserve [DRR]:

According to Rule 18(7)(b) of the Companies (Share Capital and Debentures) Rules, 2014, the following companies are required to create DRR:

Minimum Debenture Redemption Reserve [DRR] – 0%

Minimum Debenture Redemption Reserve [DRR] 25%

All India Financial Institutions regulated by the Reserve Bank of India (RBI) Other Companies (listed or unlisted)
Banking Companies Non-Banking Financial Companies (NBFC) and other financial institutions covered by Section 2(72) of the Companies Act, 2013 for publicly issued debentures
Non-Banking Financial Companies (NBFC) and other financial institutions covered under Section 2(72) of the Companies Act, 2013 for publicly issued debentures

Rules regarding Debenture Redemption Reserve

The following points should be kept in mind while creating Debenture Redemption Reserve:

  • DRR should be created with 25% of the nominal value of debentures if it is mentioned that redemption is out of capital.
  • DRR should be created with 100% of the nominal value of debentures if it is mentioned that redemption is out of profits.
  •  25% of the nominal value of debentures is to be transferred to the DRR account if nothing is mentioned about the source of redemption.
  • A total of 100% of the nominal value of debentures is to be transferred to the DRR account if, in any particular question, DRR already exists with more than 25% of the nominal value of debentures.

Illustration:

Rockstar Ltd., (listed on Stock Exchange) has outstanding 10,00,000, 9% Debentures of 100 each due for redemption on 30th October 2019.

Solution: The company have to create DRR for a equal to 25% sum value of debentures due for redemptions, i.e., 2,50,000 before redemption.

Minimum Debenture Redemption Reserve Investments[Rule 18(7)(c)]

According to Rule 18(7)(c), every company required to create a Debenture Redemption Reserve shall also require to invest or deposit an amount equal to 15% of the amount of its debenture maturing during the year ending 31st March of the next year in specified securities on or before 30th April of the current year.

Permissible deposits or investments in Specified Securities are as follows: 

  • In deposits with any Scheduled Bank, free from any charge.
  • In unencumbered securities of the central government or any state government
  • In unencumbered securities mentioned in sub-clauses (a) to (d) and (ee) of section 20 of the Indian Trusts Act, 1882
  • In unencumbered bonds issued by any other company which is notified under sub-clause (f) of Section 20 of the Indian Trusts Act, 1882.

Note: The amount deposited or invested can be used only for the purpose of redemption of debentures due for redemption during the year ending on 31st March of the next year. 

For Example, Virat Ltd., (listed on Stock Exchange) has outstanding 9% Debentures of 100 each due for redemption on 30th October, 2018.

In the given example the company have to create DRR for a sum equal to 25% of value of debentures due for redemptions, i.e., 2,50,000 before redemption. Further, the company is also required to deposit or invest 1,50,000 (15% of the amount of debenture due for redemption during the next year which is 10,00,000) in specified securities on or before 30th April 2018.


Last Updated : 05 Apr, 2023
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