Independence Criteria explained: this guide covers what it means, who it applies to, the step-by-step process, documents required, fees, due dates and penalties in India — so you can stay compliant with confidence and avoid costly mistakes.
Independence is defined almost entirely by what a person is not — and the relative tests reach further than most candidates expect.
The starting point
A non-executive director other than a nominee director of the company, can become an 'independent director': who, in the opinion of the board of directors, is a person of integrity and possesses relevant expertise and experience.
Note that this first limb is the only positive one, and it is a matter for the board's opinion. Everything that follows is a set of exclusions.
The exclusions in the independence criteria
- Who is or was not a promoter of the listed entity or its holding, subsidiary or associate company;
- who is not related to promoters or directors in the listed entity, its holding, subsidiary or associate company;
- who, apart from receiving director's remuneration, has or had no material pecuniary relationship with the listed entity, its holding, subsidiary or associate company, or their promoters, or directors, during the two immediately preceding financial years or during the current financial year;
- none of whose relatives has or had pecuniary relationship or transaction with the listed entity, its holding, subsidiary or associate company, or their promoters, or directors, amounting to two per cent or more of its gross turnover or total income or fifty lakh rupees or such higher amount as may be prescribed from time to time, whichever is lower, during the two immediately preceding financial years or during the current financial year;
- who is not less than 21 years of age.
Two features make this list far wider than a simple "no connection with the company" test.
The group reach. Almost every limb names the listed entity, its holding, subsidiary or associate company, and several add their promoters, or directors. A candidate with no dealings with the listed company at all can be disqualified by a relationship with a subsidiary they have never heard of — which is why the pre-appointment review must establish the group structure, not just the company.
The relative tests. Limb (4) is the one that catches people. A relative's transaction disqualifies at the lower of two per cent of gross turnover or fifty lakh rupees — and the lower figure will usually be the fifty lakh, because two per cent of a large group's turnover is a much bigger number.
The seventh condition goes further still, testing whether the person nor whose relative(s) has held key managerial personnel or employee positions in the group in any of the three financial years preceding appointment, or has been an employee, proprietor or partner of a firm of auditors or company secretaries in practice or cost auditors, or of any legal or a consulting firm that has or had any transaction with the group amounting to ten per cent or more of the gross turnover of such firm.
Note the asymmetry in that last measure. It is ten per cent of the firm's turnover, not of the company's — so a small consultancy with one large client is caught where a large firm doing the same work would not be.
The remaining limbs cover shareholding — holds together with his relatives two per cent or more of the total voting power — a non-profit connection, and being a material supplier, service provider or customer or a lessor or lessee of the listed entity.
The look-back periods in the independence criteria
| Test | Period |
|---|---|
| Material pecuniary relationship (person) | Two immediately preceding financial years or the current year |
| Relative's pecuniary relationship | Two immediately preceding financial years or the current year |
| KMP or employee of the group | Any of the three financial years preceding appointment |
| Employee, proprietor or partner of auditors, CS, cost auditors, or a legal or consulting firm | Any of the three financial years preceding appointment |
Two years for money, three years for employment. A candidate who left the group's payroll two years ago is not yet eligible.
Is an independent director a different kind of director?
No. An independent director is a director within the meaning of Companies Act and is governed by the rules and regulations prescribed in the Companies Act. However, by virtue of the guidelines issued by the Securities and Exchange Board of India for listed companies, an independent director is required to ensure compliance of various requirements of Corporate Governance as per the definition laid in Regulation 16(1)(b).
Common mistakes
- Testing the independence criteria against the listed entity alone and not the group.
- Applying two per cent of turnover where fifty lakh rupees is the lower figure.
- Using a two-year look-back for the employment tests.
- Measuring the consulting firm test against the company's turnover rather than the firm's.