Corporate Law Newsletter – Note On Dematerialization Of Securities: August 2025
I. Meaning of Dematerialization
Dematerialization refers to the process of converting physical share certificates and other securities into electronic form. Once dematerialized, the securities are held in a demat account maintained with a depository participant (“DP”), thereby eliminating the need for physical certificates. The dematerialized securities are recorded and maintained in the electronic systems of depositories. There are two recognized depositories in India currently, namely the National Securities Depository Limited (“NSDL”) and the Central Depository Services (India) Limited (“CDSL”).
II. Legal Framework
In India, dematerialization of securities is governed by the following legislations:
- The Depositories Act, 1996;
- The SEBI (Depositories and Participants) Regulations, 2018; and
- Provisions of the Companies Act, 2013, and relevant MCA circulars and notifications.
III. Mandatory Dematerialization For Private Companies (Applicability)
A. Applicability
The Ministry of Corporate Affairs (“MCA”), through the Companies (Prospectus and Allotment of Securities) Second Amendment Rules, 2023 (notification dated October 27, 2023, read with notification dated February 12, 2025), introduced rule 9B relating to the issue and dematerialization of securities by private companies.
Key provisions include:
1. Applicability for companies: Applicable to all private companies, excluding:
- Small companies
- Government companies
2. Important Clarifications:
- Holding companies and subsidiary companies cannot qualify as small companies even if they meet the capital and turnover thresholds.
- Section 8 companies (non-profit organizations) cannot qualify as small companies.
- Companies governed by special acts cannot qualify as small companies. Producer companies have been granted a special five-year extension as per MCA notification dated September 20, 2024.
B. Timeline for Compliance
The timeline for compliance is as follows:
- Original deadline: A company that was not a small company as of March 31, 2023, was required to comply within 18 months of the closure of that financial year (i.e., by September 30, 2024).
- Extended deadline: Through notification dated February 12, 2025, MCA had extended the deadline to June 30, 2025 (“Compliance Date”).
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1 Small Companies are defined as private companies with:
(a) paid-up share capital not exceeding INR 4,00,00,000 (Indian Rupees Four Crores) and;
(b) turnover not exceeding INR 40,00,00,000 (Indian Rupee Forty Crores) (as per profit and loss account for the immediately preceding financial year).
C. Key Compliances
- Private companies must issue securities only in dematerialized form after the Compliance Date.
- Companies must facilitate the dematerialization of all existing securities by securing an International Securities Identification Number (ISIN).
- For any offer for issue of securities, buyback, bonus, or rights issue after the Compliance Date, companies must ensure that the entire holding of their promoters, directors, and key managerial personnel (KMP) has been dematerialized.
- Any holder of securities intending to transfer their securities after the Compliance Date must first dematerialize them.
- Any person subscribing to new securities after the Compliance Date must ensure all their existing securities are held in dematerialized form.
IV. Admission of Company in the Depository System before Dematerialization- Procurment of Sin
- Companies which issue any kind of security are known as ‘Issuer’ in the Depository system. Only those securities, which are admitted into the Depository system are available for dematerialization to the holders of such securities or can be allotted in electronic record form by the issuer.
- The company is required to make an application to secure ISIN with a depository for each type of securities and inform all its existing security holders about such facility.
- ISIN is a unique 12-digit alphanumeric identification allotted for each type of security. Different types of securities issued by the same company (e.g., equity shares, preference shares, debentures) will have different ISINs. In India, ISINs are issued by both NDSL and CDSL.
A. Understanding ISIN
ISIN is a unique 12-digit alphanumeric identification allotted for each type of security. Different types of securities issued by the same company (e.g., equity shares, preference shares, debentures) will have different ISINs. In India, ISINs are issued by both NDSL and CDSL.
B. Process for Procurement of ISIN
The steps for obtaining an ISIN are as follows:
- Board Resolution: Pass a board resolution approving dematerialization of securities.
- Appointment of RTA: Engage a Registrar and Transfer Agent (RTA) to manage shareholder records and liaison with the depositories. Note that while appointing an RTA is recommended, it is not mandatory if the company has an in-house arrangement.
- Execution of Agreements: Tri-partite agreement between the company, depository (NSDL/CDSL), and the RTA.
- Documentation: Submit required documents to the RTA and the depository.
- Fee Payment: Pay applicable fees to the RTA and the depository.
V. Process of Dematerialization
A. Process for Companies
- Obtain ISIN: Follow the process outlined in Section IV above.
- Notify Shareholders: Inform all existing security holders about the dematerialization facility and the ISIN number.
- Process Dematerialization Requests:
- Verify dematerialization requests received from the RTA.
- Approve valid requests and return them to the RTA.
- Maintain records of approved dematerialization requests.
4. Ongoing Compliance:
- File Form PAS-6 with the registrar of companies within 60 (sixty) days from the conclusion of each half-year (by May 30th for October-March period and by November 29th for April-September period).
- Ensure timely payment of fees to the depository and RTA.
- Maintain a security deposit of not less than 2 (two) years’ fees with the depository and RTA.
- Immediately notify the depositories of any difference observed between issued capital and capital held in dematerialized form.
B. Process for Shareholders
- Open a Demat Account:
- Select a (“DP”) registered with either NSDL or CDSL.
- Complete the account opening formalities including KYC (identity proof, address proof, bank details).
- Provide PAN details (mandatory for opening a demat account)2.
2. Submit Dematerialization Request:
- Fill out the dematerialization request form (“DRF”) provided by the DP.
- Deface the physical certificates by writing “SURRENDERED FOR DEMATERIALISATION”.
- Submit the DRF along with the defaced certificates to the DP.
3. Verification and Processing:
- The DP verifies the DRF and certificates for completeness and accuracy.
- The DP verifies the signature on the DRF against the specimen signature with the account opening form.
- The DP forwards the request to the RTA/company for further processing.
- Upon verification and approval by the company/RTA, the DP credits the securities to the demat account.
4. Confirmation: Receive confirmation of the dematerialization through a transaction statement provided by the DP.
VI. Purpose and Benefits
- Dematerialization offers numerous benefits to both companies and shareholders:
A. For Shareholders
- Risk Elimination: Eliminates risks associated with physical certificates such as loss, theft, forgery, damage, or fake securities.
- Convenience: Provides easier and faster transfers without the need for physical movement of certificates.
- Automated Corporate Benefits: Dividends, interest payments, bonus shares, stock splits, and other corporate benefits are automatically credited to the demat account.
B. For Companies
- Enhanced Transparency: Improved visibility of shareholding patterns helps identify true owners of securities.
- Fraud Prevention: Reduces risks of fraudulent activities such as backdated transfers, improper pledges, and benami shareholdings.
- Operational Efficiency: Streamlines share transfer processes and reduces administrative burden.
- Simplified Corporate Actions: Facilitates smoother execution of corporate actions like rights issues, bonus issues, and buybacks.
- Environmental Benefits: Reduces paper usage by eliminating SH-4 forms, share certificates, stamps, e-SBTR, and creating folios in register, thereby promoting environmental sustainability.
VII. Implications of Non-Compliance
Non-compliance with the dematerialization requirements can result in the following consequences:
A. Penalties
As per Section 450 of the Companies Act, 2013, non-compliance with Rule 9B can result in:
- A penalty of INR 10,000 (Indian Rupees Ten Thousand) for the company and every officer in default.
- In case of continuing default, a further penalty of INR 1,000 (Indian Rupees One Thousand) per day.
- Maximum penalty of INR 2,00,000 (Indian Rupees Two Lakhs) for a company and INR 50,000 (Indian Rupees Fifty Thousand) for officers in default.
B. Operational Restrictions
- Companies cannot make offers for issue of securities, buyback securities, or issue bonus or rights shares until payments to depositories or RTAs are made.
- After the compliance date, securities can only be transferred in dematerialized form, restricting the liquidity of physical securities.
- Shareholders cannot participate in new issues, bonus shares, or rights offers without first dematerializing their existing holdings
C. Estimated Costs
- One-time setup fees for obtaining ISIN and depository connectivity.
- Annual maintenance fees to depositories and RTAs.
- Security deposit (equivalent to approximately two years of fees).
- Processing fees for dematerialization requests.
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