SEBI’s Test of Fit and Proper Person: Dynamic Market, Dynamic Law – CorpLexia

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Jan 5, 2019
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The Securities and Exchange Board of India (“SEBI”), as the primary regulator of the securities market in India strives to create order and fairness in one of the fastest moving, complex, and ever fluctuating markets that is filled with the one of the most conniving bad elements. Yet, more or less, SEBI has performed its function to the letter of its preamble, that is, protecting the investor’s interests and promoting the healthy development of the securities market. This has, partly been achieved by enforcing an effective regime of stringent and dynamic provisions.

The point of analysis in this Article is one such dynamic power in the hands of SEBI, that is, the test of ‘fit and proper person’ under Schedule II of the SEBI (Intermediaries) Regulations, 2008 (“Intermediaries Regulations”) that finds application in various SEBI Regulations governing the registration of Mutual Funds, Depositories, Foreign Institutional Investors, etc. enlisted under Schedule IV of the Intermediaries Regulations.

1. SEBI (Intermediaries) Regulations, 2008

The test of fit and proper person is derived from Schedule II of the Intermediaries Regulations. In the past a similar test was situate under the SEBI (Criteria for Fit and Proper Persons) Regulations, 2004 which has now been repealed. Schedule II of the Intermediaries Regulation, 2008 reads as follows:

Criteria for determining a “fit and proper person” For the purpose of determining as to whether an applicant or the intermediary is a ̳fit and proper person, the Board may take account of any consideration as it deems fit, including but not limited to the following criteria in relation to the applicant or the intermediary, the principal officer, the director, the promoter] and the key management persons by whatever name called – integrity, reputation and character; absence of convictions and restraint orders; competence including financial solvency and networth; absence of categorization as a wilful defaulter.

It is clear from the bare perusal of this provision that what the Regulation means to impose is not a rigid structure but an abstract test and the consequent abstract power in the hands of SEBI as compared to fixed powers circumscribed by fixed rationale. The intent behind the same is to create a source of fluid power in the hands of SEBI that is free to make a reasoned decision on the basis of the laws and practice of the times and based on the very facts and circumstances pervading the impugned situation or practice, with reference to its primary object, that is, the protection of investors in securities and to promote the development of, and to regulate, the securities market and for matters connected therewith and incidental thereto.

This power in the hands of SEBI is to be understood in a three-fold sense (taking the case of the SEBI (Mutual Funds) Regulations, 1996):

  1. Firstly, where the relevant Regulation provides for the same, SEBI has the power to make a value judgement as to whether the concerned applicant is fit and proper to be granted a license or a registration in the first place.
  2. Secondly, it is the perpetual obligation of the Applicant to inform the board of of any material change in the information or particulars previously furnished, which have a bearing on the registration granted to it[1]. This means that the applicant is beholden to inform SEBI of any material change that has a bearing on its position as to the test of fit and proper person. This obligation is perpetual as the registration granted to the Applicant is subject to this condition among other[2].
  3. Thirdly, where the registered entity fails to inform the board of such material change, SEBI is empowered to order the cancellation of the registration of such entity under Section 12(3) of the SEBI Act, 1992 as was done in the case of Sahara Asset Management Company in the case discussed below.

1.1. The Span of the Test

The scope of the test extends to the determination in relation to the:

i. Applicant

ii. Intermediary

iii. Principal Officer(s)

iv. Directors

v. Key management persons, by whatever name called.

1.2. Relevant considerations for the Board

The Board may take note of any consideration as it deems fit, including but not limited to the following criteria in assessing whether the aforementioned parties are fit and proper person:

i. integrity, reputation and character;

ii. absence of convictions and restraining orders;

iii. competence including financial solvency and net worth;

iv. absence of categorization as a wilful defaulter.

Therefore, the Board is not bound by any rigid criteria in making a value judgement as to the test of ‘fit and proper’ person. In other words, offenders of acts which were considered to be particularly serious and injurious to the growth of a healthy securities market, shall not go unnoticed and act freely. Schedule II of the Intermediaries Regulation, in essence gives just powers in the hands of the Board to make indirect value judgement with the goal of protecting the interests of the investors and furthering the cause of a healthier securities market by analysing the ill-effect of granting a certificate/registration or continuing the same as the case may be.

All of these conditions which are prejudicial to the interest of investors and the growth of the securities market, must be prohibited from being introduced or sustained in the market, to uphold its healthy growth and wellbeing.

2. Case Laws

2.1. Sahara Asset Management Company P. Ltd. & Ors. Vs. SEBI[3]

In this case, SEBI had cancelled the certificate of registration of the Sahara Mutual Fund and Sahara Asset Management Company P. Ltd. under the provisions of Regulation 7(aa) R/w Regulation 22(b) of the SEBI (Mutual Funds) Regulations, 1996, owing to its finding that its sponsor company, Sahara India Financial Corporation Ltd. is not a fit and proper person to carry on the business of mutual funds on the basis of its relationship with its unfit & improper promoter-director, Mr. Subrata Roy Sahara who had, as has been clearly established, caused serious harm to the securities market by a wanton disregard of SEBI rules and regulations in making public issues in clear avoidance of SEBI Regulations that had a clear clear stipulations on the matters, and was failing in discharging its punitive liabilities, to SEBI and investors.

The Securities Appellate Tribunal (“SAT”) negatived contentions of the Appellant who had put forth that Mr. Sahara was only a shareholder and no longer a director, of the companies whose registration had been cancelled and in no way had any control over the working of the company, by relying on a holding of the Hon’ble Supreme Court where it had held that no matter in the Sahara Group of Companies could move without the cognizance of Mr. Sahara and he had absolute control over the matters of his company. Therefore, the order of SEBI cancelling the certificate of the two Sahara Companies by holding that their director as well as later, key management personnel, Mr. Sahara was the reason why the company was not a ‘fit and proper’ owing to his maligned integrity, reputation and character. Thus Mr. Sahara was found to be a key managerial person of the Sahara MF & Sahara AMC.

Further, the Tribunal validated SEBI’s piercing of the two companies’ corporate veils, to derive Mr. Sahara’s integrity, reputation and character by holding the following:

i. The mutual fund regulations state that the Sponsor Company as well as its Key Managerial Persons or Key Person who control the Company is to be fit and proper.

ii. In the securities market, SEBI Act empowers SEBI to take actions in the interest of protecting the interests of the investors and hence the lifting of the corporate veil to the extent to identify who controls the regulated entity cannot be faulted.

2.2. Limitations to the Test: Almondz Global Securities Ltd. Vs. SEBI[4]

In this case, SAT overturned SEBI’s Order and stipulated certain limitations on SEBI with regard to the test of fit and proper person. SEBI by its order, after holding that the appellant company as being not fit and proper for continuing the business of a Merchant Banker owing to the fact that there was a restraint order against the Appellant, by the Board which had been appealed against separately by the Appellant. The Restraint orders, now sub-judicebefore SAT, were arrived at because it had relied upon a statutory Auditor’s report and the statement issued by the two issuer companies, instead of looking at the bank statements before submitting the information to the Board.

The Board had under Regulation 7(gg) of the SEBI (Merchant Bankers) Regulations, 1992 R/w Schedule II(b) of the Intermediaries Regulations, denied the renewal of the registration of the Appellant as a Merchant Banker, thereby, destroying his business, after successive orders to the same effect.

SAT over-turned the order of the Board holding that, firstly, the offence of the Appellant is not serious enough for the Board to arrive at the rejection of the renewal of registration as a merchant banker, secondly, since the Board has been vested with wide discretion by the Regulations to make such a value judgment having large repercussions on the life of the Appellant Company and its employees, it must use that discretion sparingly and diligently, not as a wanton weapon in its arsenal.

The Tribunal opined that, the past is replete with instances where the value judgement exercised by the Board under the test of ‘fit and proper’ person, does not commensurate with the kind of aggravating factor/ offence that has been found by the Board, against the entity, wither being to sparing or to grave in its exercise.

There is no uniformity in the decision arrived at by the Board under this discretion. There are cases that range from a small warning to fines of Rupees 1 crore, owing to circumstance, that follows no standard of exercise.

The tribunal had opined that though this is a necessary power, in practice, it is turning into an exercise of arbitrariness with a lack of any appreciable formula, guiding such an order. It is plainly unjust and unfair that the law is being allowed to be applied depending upon who is the person being charged with a certain wrong.

In the application of this test, the Tribunal opined that for the Board to say that a person does not fulfil the criteria under Schedule II of the SEBI Intermediaries Regulations, SEBI must be absolutely certain that by not doing so, irreparable harm would be caused to the securities market for the simple reason that this punishment of being declared unfit is the ultimate punishment that can be imposed upon an intermediary.In such a situation the Board must look at the true rationale behind the imposition of punishment on companies, that should be to make companies law-compliant so as to ensure the interests of the securities markets are secured. SEBI should not view punishments from a prospective of thinning the herd, rather it should help in fostering a healthy environment where intermediaries act cautiously and responsibly under the overall supervision of the market regulator. The punishment should not only be just & reasonable but must fit the breach of law for which the entity is sought to be penalized.


This test of fit and proper person exists as a means of engaging a dynamic standard in an inherently dynamic market, where principally this test is utilised to determine whether an applicant under various regulations is a fit and proper person to receive or sustain registration with SEBI. It allows SEBI to make a value judgement guided by its core objectives, needs of the present, severity of the subject and any other factors that may merit consideration. But SEBI must not act rashly in the application of this test and must act according to certain standards that though are dynamic, they bring consistency to its powers. Failure to do the same would result in discrediting this just power, that is a substantial tool in SEBI’s arsenal as the primary regulator of the Indian securities market.


[1]Regulation 10(c), SEBI (Mutual Funds) Regulations, 1996.

[2]Ibid, Regulation 10.

[3]Securities Appellate Tribunal, Order dated 28.07.2017.

[4]SAT order dated 13.05.2016.

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Siddharth is the Founder of CorpLexia and serves as its Editor. He is a student of BBA LL.B (Hons.) and has a special focus on corporate, commercial, insolvency, arbitration, securities and competition laws. He can be reached at