The New "Fit and Proper" Criteria for Directors#
Historically, the disqualification of a director under Section 164 of the Companies Act, 2013, was largely based on objective, quantitative events—such as the company failing to file financial statements for three years, or the director being convicted of an offense carrying a specific prison sentence.
The Corporate Laws (Amendment) Bill 2026 is set to introduce a more subjective, qualitative threshold: the "Fit and Proper" criteria.
Understanding the "Fit and Proper" Test#
Borrowing concepts previously seen only in highly regulated sectors like banking (RBI) and securities (SEBI), the Ministry of Corporate Affairs is extending the "fit and proper" requirement to standard corporate boards.
While the exact rules are being drafted, the criteria will likely require boards (particularly the Nomination and Remuneration Committee) to assess a potential or existing director on:
- Financial Integrity: History of willful defaults, involvement in economic offenses, or unresolved serious financial disputes.
- Honesty and Ethical Behavior: Any past strictures passed by regulatory bodies (like SEBI, CCI, or NFRA) against the individual.
- Conflict of Interest: Undisclosed or severe conflicts of interest that could compromise fiduciary duties.
The Board's New Responsibility#
This amendment shifts significant responsibility onto the company itself.
- Boards will be required to conduct thorough due diligence before appointing a director.
- Companies may need to obtain detailed self-declarations from directors annually regarding their "fit and proper" status.
- If a director fails this qualitative test, they may face immediate disqualification, even if they haven't triggered the traditional automatic disqualifications under Section 164.
Impact on Corporate Governance#
This move is designed to clean up corporate boards and prevent individuals with dubious track records from hiding behind the technicalities of the law. However, it also raises concerns about subjectivity. Clear guidelines will be essential to ensure the "fit and proper" test is not misused in board disputes or hostile takeovers.
For companies, the immediate action plan involves updating their internal HR and Board nomination policies to incorporate background checks and qualitative assessments for all key managerial personnel.