Raising funds through preference shares can feel like the perfect middle path—no dilution like equity, no repayment pressure like loans. But there’s a catch. Preference shares must be redeemed, and how, when, and from where that redemption happens is strictly regulated.
That’s where Section 55 of the Companies Act, 2013 steps in. It governs the issue and redemption of preference shares, sets clear timelines, prohibits irredeemable instruments, and ensures shareholder protection through financial discipline. Whether you’re a founder, CFO, or compliance professional, understanding this section early saves you from future restructuring stress.
What Is Section 55 of the Companies Act, 2013?
Section 55 deals with provisions relating to redemption of preference shares.
At its core, it establishes preference shares as temporary capital, not permanent equity.
The law:
- Prohibits irredeemable preference shares
- Mandates redemption within 20 years
- Prescribes sources of redemption
- Requires the creation of a Capital Redemption Reserve (CRR)
In simple terms, it is a contract giving the right to redeem preference shares, and both the company and shareholder are bound by it.
Why Redemption Rules Exist
Preference shareholders accept lower risk in exchange for fixed returns.
In return, the law ensures:
- Their capital is protected
- Redemption is predictable
- Companies don’t misuse preference funding as perpetual capital
Section 55 maintains this balance between corporate flexibility and investor safety.
Prohibition on Irredeemable Preference Shares
This is non-negotiable.
Under Section 55:
- Irredeemable preference shares are not allowed
- Every preference share must carry clear redemption terms
This ensures companies cannot indefinitely defer repayment of capital.
Time Limit for Redemption
Standard Rule
Preference shares must be redeemed within 20 years from the date of issue.
Infrastructure Project Exception
For infrastructure companies:
- Redemption period may exceed 20 years
- Conditions apply:
- Minimum 10% redemption annually after the 20th year
- Compliance with prescribed rules
This flexibility exists because infrastructure projects need longer capital horizons.
Sources of Redemption Under Section 55
Redemption cannot happen casually. The Act strictly controls where the money comes from.
Allowed Sources
Preference shares can be redeemed from:
- Profits available for dividend, or
- Proceeds of a fresh issue of shares
Borrowed funds cannot be used for redemption.
Capital Redemption Reserve (CRR) Explained
When Is CRR Created?
If redemption is done out of profits, the company must transfer an amount equal to the nominal value to Capital Redemption Reserve.
Why CRR Matters
CRR:
- Protects the company’s capital base
- Cannot be used for dividend distribution
- Can only be used for issuing fully paid bonus shares
This reserve maintains financial discipline after redemption.
Premium on Redemption
Sometimes preference shares are redeemable at a premium.
In such cases:
- Premium must be paid from:
- Profits available for dividend, or
- Securities premium account
CRR only covers the face value, not the premium amount.
Procedural Compliance Companies Often Miss
From experience, redemption issues rarely arise from intent—they arise from missed steps.
Common requirements include:
- Board resolution approving redemption
- Ensuring Articles of Association permit redemption
- Updating statutory registers
- ROC filings after redemption
Missing even one step can invalidate the redemption.
Preference Shares vs Equity: A Practical Perspective
Preference shares:
- Offer fixed returns
- Carry repayment obligation
- Do not provide ownership control
Section 55 ensures they remain quasi-debt instruments, not disguised equity.
Real-Life Insight
I’ve seen startups postpone redemption hoping “future profits will cover it.”
But without CRR planning, redemption becomes a compliance headache right when cash flow matters most. Section 55 rewards planning, not last-minute corrections.
Key Takeaways for Companies
- Redemption planning starts at the time of issue
- Irredeemable preference shares are not permitted
- Redemption must follow strict sources and timelines
- CRR is mandatory when profits are used
Ignoring these rules affects not just compliance—but investor trust.
Conclusion
Section 55 of the Companies Act, 2013 plays a quiet but powerful role in corporate finance. By governing the issue and redemption of preference shares, it protects investors while enforcing capital discipline within companies.
When handled correctly, preference shares remain a smart funding tool. When misunderstood, they become a future liability.
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