Introduction

The practice of pledging shares has gained significant traction in India as promoters and investors increasingly use their holdings to raise funds or secure obligations. However, pledging shares in listed companies is not merely a financing event—it attracts a range of disclosure and procedural compliances under the SEBI (Prohibition of Insider Trading) Regulations, 2015 (SEBI Insider Trading Regulations) and the SEBI (Substantial Acquisition of Shares and Takeovers) Regulations, 2011 (SAST Regulations). This article explores the legal framework surrounding pledges, recent regulatory clarifications, key judicial developments, and frequently asked questions around such transactions.

What Constitutes a Pledge of Shares?

A pledge is a form of bailment under the Indian Contract Act, 1872, where goods are delivered as security for payment of debt or performance of promise. The goods may be in form of shares of a company. In dematerialized form, this entails electronically marking shares as “encumbered” in favour of a lender or pledgee without transferring beneficial ownership.

Pledge of Shares in case of listed entities

From the perspective of a listed entity, the creation of a pledge on shares will have an implications under the following regulations:

• SEBI Insider Trading Regulations
• SEBI SAST Regulations
• SEBI LODR Regulations

Treatment of “pledge’ under SEBI Insider Trading Regulations:

Although pledging does not amount to a sale, since ownership is not immediately transferred and vested in the pledgee but SEBI nevertheless treats the creation, invocation, and revocation of a pledge under the definition of word “trading” as defined under Regulation 2(1)(l) of the PIT Regulations. This interpretation arises due to its potential to alter market control, voting rights, and investor perception. Notably, the earlier framework of SEBI Insider Trading Regulations used the word “dealing” instead of “trading”; however, SEBI consciously broadened the scope by adopting the later expression, which is intentionally wide to prevent the misuse of unpublished price-sensitive information (UPSI), even through indirect dealings like pledging.

SEBI, in its FAQ dated 31st December 2024, has outlined the following reasons for considering a pledge as trading:

“Trading as defined under Regulation 2 (1) (l) means and includes subscribing, buying, selling, dealing, or agreeing to subscribe, buy, sell, deal in any securities, and "trade" shall be construed accordingly. The term trading is widely defined to include dealing in securities and intended to curb the activities based on unpublished price sensitive information (UPSI) which are strictly not buying, selling or subscribing, such as pledging etc. Hence, trading would include creation/invocation/revocation of pledge.”

As per the FAQ, all actions related to a pledge, i.e., creation/invocation/revocation will be treated as trading. So, from the SEBI Insider Trading Regulations perspective, any action related to pledge of equity shares will require the following consideration:

• Pre-clearance
• Trading window and contra trade
• Disclosures

Pre-Clearance for Both Legs of Pledge Transaction

Under Regulation 9 of the SEBI Insider Trading Regulations, designated persons must obtain pre-clearance before executing any trade exceeding the monetary threshold (if any) set out in the company’s Code of Conduct. Although pre-clearance traditionally applies to buy/sell transactions, since pledging also qualify as “trading” under the regulations, the condition is equally applicable to it. 

The question that needs to be examined is whether revocation or invocation of the pledge also requires pre-clearance. In general understanding, revocation or invocation of a pledge is a natural consequent act to the creation of the pledge, since the pledge once created, will either be revoked or invoked; there is no other associated action.

Therefore, once pre-clearance is given for the creation of a pledge on the equity shares, it is, in a way, a pre-clearance for the revocation or invocation of the pledge as well, given that they are natural consequent actions. However, since a pledge can be used as a tool to abuse the provisions of the SEBI Insider Trading Regulations, as a matter of caution, pre-clearance will also be required only for the invocation of the pledge, not for its revocation. The question that becomes important is whether the requirement of preclearance will overrule the rights created under the pledge agreement or whether the compliance officer can refuse to give pre-clearance in case of invocation of a pledge by the lender?

Lastly, the requirement of seeking pre-clearance will not apply to any person who is not a designated person of the company.

Trading Window Closure

As per Schedule B to the SEBI Insider Trading Regulations, no designated person shall trade in equity shares of a listed entity while the trading window is closed. However, there are some exceptions to this, one of which is the pledge of shares. As per para (4) of Schedule B, trading window restrictions in respect of a pledge of shares shall not apply for a bona fide purpose such as raising of funds, subject to pre-clearance by the compliance officer and compliance with the respective regulations made by the Board.

Where a compliance officer believes that a pledge is being created for a bona fide purpose , it may allow the creation of a pledge during the trading window closure. It is important to note that such a pledge can be created even when the designated person is holding any USPI. Another important point is that a bona fide purpose is not limited to raising funds; it can be any reason that a compliance officer believes is bona fide.

The burden of proving that the transaction was executed in good faith and not based on UPSI lies with the pledgor or pledgee, as clarified in SEBI’s FAQ dated December 31, 2024.

Application of Contra Trade Provisions to Pledge Transactions

SEBI Insider Trading Regulations prohibit designated persons from executing a contra trade—i.e., entering into an opposite transaction within six months of a previous trade in the same security. Though pledge do not involve a change in ownership, SEBI has not exempted such transactions from the contra trade restrictions. While this may seem overly restrictive—given that pledging is a common financing activity—SEBI’s stance is to close potential loopholes where insiders could exploit UPSI.

The rationale behind applying contra-trade provisions in case of pledge-related transactions is to prevent insiders from circumventing the spirit of insider trading regulations. If an insider could, for example, buy shares, pledge them at a higher margin, and then allow the lender to invoke the pledge and sell the shares are trading at a higher price within 6 months, without attracting contra-trade restrictions, it would create a loophole for a potential misuse of the UPSI. Therefore, to ensure that insiders do not profit from short-term movements in the Company’s stock price based on privileged information, these transactions are being brought under the ambit of contra-trade restrictions. 

Hence, contra trade provisions are extended to pledges to prevent indirect profiteering from insider knowledge.

The restrictions related to countertrade for cases related to the pledge of shares raise the following questions:

• Whether the creation of a pledge is contra, if the previous transaction was that of a buy?
• If the answer to above is in affirmative, would the contra trade provisions also apply to the revocation or invocation of pledge undertaken subsequent to its creation?

Whether the creation of a pledge is contra, if the previous transaction was that of a buy?

As explained above, a contra transaction denotes an opposite transaction to the one undertaken prior to it. So, if it’s a sale, contra would be purchase and vice-versa. In case of creation and revocation of pledge, since there is no change of ownership unless the pledge is invoked, determining a contra transaction is challenging. If the last transaction is the purchase of shares, can one say that the creation of a pledge of the said shares would not amount to a contra; creation doesn’t amount to a sale. A similar rationale would apply to the revocation of the pledge upon repayment of the underlying debt by the pledgor.

In one of the earlier FAQs released in year 2015, while answering to a question on contra trade, SEBI has equated pledge of shares with that of sell of shares. The relevant text is reproduced:

“Where  a  designated  person  purchases  some  shares  (say  on   August  01,  2015),   acquires  shares  later  under  an  ESOP  (say   on  September  01,  2015 )  and  subsequently  sells/pledges (say on October 01 , 2015) shares so acquired under ESOP, the sale will not be a contra trade but will be subject other provisions of the Regulations, however, he will not  be  able  to  sell  the  shares  purchased  on  August  01,  2015  during  the  period  of  six  months from August 01, 2015.”

In subsequent FAQs released in 2024, SEBI has not referred to the aforementioned situation while answering a similar question, reflecting a rethinking on this topic. Which seems to be the right direction as the creation of a pledge shouldn’t be equated with the sale of shares.

Accordingly, creation of a pledge shall not be considered for the purpose of contra trade, and only if the pledge is invoked, then it should be contra to a transaction related to the purchase of shares (excluding exercise of ESOPs), if any, undertaken during the previous six months.

In the context of the invocation of the pledge, the recent ruling of Hon’ble Supreme Court of India in the matter related to PTC India Financial Services Limited versus Venkateswarlu Kari and another, becomes very pertinent. In this matter, the Hon’ble Court has held that mere invocation of the pledge and subsequent change of beneficial ownership records will not change ownership from pledgor to pledgee. The pledgee is required to either bring up suit or give a notice of sale to the pledgor. Upon the expiry of the notice, the invocation will become effective, and the pledgee may sell the shares. It is only on the sale of shares that the transaction should be said to be contra. Nonetheless, since SEBI has not provided much clarity on the issue, as a precautionary measure, the pledgor should seek exemption from contra trade restrictions from the compliance officer if such a transaction is being undertaken within six months of creation.

Disclosures Under SEBI Insider Trading Regulations

Any person who has been designated as a designated person under the SEBI Insider Trading Regulations by the company shall be subject to disclosure required under the said regulations.

The requirement to disclose the trade related to the pledge will trigger when the value of the securities acquired or disposed whether in one transaction or a series of transactions over any calendar quarter, aggregates to a traded value in excess of ten lakh rupees. Earlier the designated person executing such trade was required to intimate the company, which in turn would have to inform the stock exchanges, but with the introduction of system-driven disclosures, the requirement to disclose to exchanges has now been automated.

As soon as the value of trade within a quarter breaches the ten lakh rupees, the depositories will trigger an automated disclosure to the stock exchanges, where the shares of the company are listed. While disclosure to stock exchanges has been automated, companies continue to obtain such disclosure from their designated person within two days of the trade in Form C. One needs to review the code of conduct framed by a company under the SEBI Insider Trading Regulations in order to understand the disclosure requirements.
Key points that need to be kept in mind:

• For the purpose of disclosure, the closing market price of the share on the date of creation of the pledge shall be considered for the purpose of determining the value of the trade.  Example: If shares worth ₹15 lakh are pledged for a ₹10 lakh loan, the disclosure value is ₹15 lakh.
• Date of creation of pledge shall be the date of pledge agreement or marking of pledge on the demat account or handing over the share certificates to the pledgee, whichever is earlier.
• Creation of pledge and its release or invocation within a quarter will have to be aggregated to determine the requirement to disclose to the company.

This is also about compliances related to the creation of a pledge under the SEBI Insider Trading Regulations. In the following Article, we will discuss compliance related to pledges under other laws. Stay tuned.