Most candidates think insider trading is about trading. Regulation 3 of the SEBI (Prohibition of Insider Trading) Regulations, 2015 corrects that instinct at the threshold: the wrong can be complete the moment unpublished price sensitive information (UPSI) leaves the right hands, whether or not anyone ever places an order. It builds two mirror-image prohibitions — one aimed at the tipper who leaks, the other at the tippee or outsider who extracts — and then carves out a single, tightly policed exception for communication in furtherance of "legitimate purposes", duties or legal obligations. This chapter unpacks the text of Regulation 3 sub-clause by sub-clause, traces its enforcement through the leading decisions, and shows why the Supreme Court in Balram Garg v. SEBI made the regulator's life considerably harder.
Where Regulation 3 sits in the PIT scheme
The 2015 Regulations are built on a small number of operative prohibitions. Regulation 3 governs the flow of information; Regulation 4 governs trading while in possession of UPSI; Regulations 5 to 6 deal with trading plans and disclosures; and Regulations 8 to 9 require codes of fair disclosure and conduct. Regulation 3 is the upstream control: if UPSI never leaks, the downstream trading prohibition rarely needs to bite. The drafting committee chaired by Justice N.K. Sodhi deliberately placed the communication prohibition first, reflecting the philosophy that information asymmetry — not merely profit — is the mischief the law targets. For the doctrinal foundations of who counts as an "insider" and what amounts to "UPSI", see Definitions: insider, connected person, UPSI, and for how the 1992 framework evolved into this design, the chapter on the evolution from the 1992 Regulations. The hub page collects the whole series at SEBI PIT notes.
The key conceptual point for exams: Regulation 3 is a conduct prohibition that does not require any actual securities transaction. A leak that is never traded upon is still a completed contravention. That makes Regulation 3 the natural pleading ground for SEBI when it cannot prove a trade but can show the information moved.
Regulation 3(1): the prohibition on the tipper
Regulation 3(1) provides: "No insider shall communicate, provide, or allow access to any unpublished price sensitive information, relating to a company or securities listed or proposed to be listed, to any person including other insiders except where such communication is in furtherance of legitimate purposes, performance of duties or discharge of legal obligations." Three verbs do the work — communicate, provide, and allow access. The third is the broadest: an insider who leaves a deal file on a shared drive, or fails to wall off a data room, can "allow access" without ever speaking a word. The prohibition runs even to other insiders, which embeds a need-to-know discipline within the organisation rather than merely at its perimeter.
The official Note appended to Regulation 3(1) makes the rationale explicit: the provision "is intended to cast an obligation on all insiders who are essentially persons in possession of unpublished price sensitive information to handle such information with care and to deal with the information with them when transacting their business strictly on a need-to-know basis." The Note is interpretive, not operative, but tribunals treat it as a reliable guide to legislative intent. The phrase "securities … proposed to be listed" extends the reach to pre-IPO situations, closing a gap that troubled the 1992 regime.
Regulation 3(2): the prohibition on procurement
Regulation 3(2) is the mirror image: "No person shall procure from or cause the communication by any insider of unpublished price sensitive information, relating to a company or securities listed or proposed to be listed, except in furtherance of legitimate purposes, performance of duties or discharge of legal obligations." Note the change of subject — not "insider" but "no person". The procurement limb deliberately reaches outsiders who have no fiduciary relationship with the company at all. A journalist, a rival bidder, a hedge fund analyst, or a relative who actively pumps an insider for information falls within Regulation 3(2) even though none of them is an "insider" in the classic sense.
The accompanying Note explains the design: the provision is "intended to impose a prohibition on unlawfully procuring possession of unpublished price sensitive information. Inducement and procurement of unpublished price sensitive information not in furtherance of one's legitimate duties and discharge of obligations would be illegal under this provision." The verb "procure" imports an element of active solicitation — passively overhearing UPSI is not procurement. This active-conduct requirement matters enormously in evidence: SEBI must show the tippee did something to extract the information, not merely that he happened to come into possession of it.
The legitimate-purposes exception and Regulation 3(2A)
Both prohibitions carry the same escape valve: communication or procurement "in furtherance of legitimate purposes, performance of duties or discharge of legal obligations". Originally undefined, this phrase invited abuse — almost any leak could be dressed up as serving some business purpose. The SEBI (Prohibition of Insider Trading) (Amendment) Regulations, 2018, effective 1 April 2019, plugged the gap by inserting Regulation 3(2A): "The board of directors of a listed company shall make a policy for determination of 'legitimate purposes' as a part of 'Codes of Fair Disclosure and Conduct' formulated under regulation 8."
An Explanation supplies an illustrative, non-exhaustive list. The term "legitimate purpose" includes sharing UPSI in the ordinary course of business by an insider with partners, collaborators, lenders, customers, suppliers, merchant bankers, legal advisors, auditors, insolvency professionals or other advisors or consultants — but only "provided that such sharing has not been carried out to evade or circumvent the prohibitions of these regulations." The proviso is the sting in the tail: a board policy cannot launder a leak that was, in substance, a circumvention. The duty to frame the policy ties Regulation 3 to the Code of Fair Disclosure under Regulation 8, making the legitimate-purpose carve-out an auditable, written standard rather than an ad hoc plea.
Regulation 3(2B): the recipient becomes an insider
The 2018 amendment also inserted Regulation 3(2B): "Any person in receipt of unpublished price sensitive information pursuant to a 'legitimate purpose' shall be considered an 'insider' for purposes of these regulations and due notice shall be given to such persons to maintain confidentiality of such unpublished price sensitive information in compliance with these regulations." This is a deeming provision of real consequence. A lawyer or auditor who lawfully receives UPSI to do the company's work is thereby converted into an insider, and becomes subject to the trading prohibition in Regulation 4 for as long as the information remains unpublished.
The practical effect is to make the chain of confidentiality self-perpetuating: every lawful recipient inherits the same restrictions as the original holder. This dovetails with the expanded definition of "insider", which already captures connected persons and anyone in possession of UPSI. Regulation 3(2B) closes the loop for the new category of legitimate recipients, ensuring that the legitimate-purposes gateway does not become an exit from the regulatory net.
Regulation 3(3): the transaction-driven exception
Regulation 3(3) carves out a distinct, deal-specific channel. Notwithstanding anything else in Regulation 3, UPSI may be communicated, provided, allowed access to or procured in connection with a transaction that would either (i) entail an obligation to make an open offer under the takeover regulations where the board of directors of the listed company is of informed opinion that sharing of such information is in the best interests of the company; or (ii) not attract an open-offer obligation but where the board is of informed opinion that sharing is in the best interests of the company and the UPSI is disseminated to be made generally available at least two trading days prior to the proposed transaction, in such form as the board determines to be adequate and fair to cover all relevant and material facts.
This is the due-diligence gateway. In an open-offer (takeover) situation the acquirer can be shown the target's books before the trigger, because the market will in any event learn of the deal through the offer machinery. In the non-open-offer case — a strategic investment or private placement, say — SEBI insists on a pre-transaction public disclosure with a two-trading-day window, so the information asymmetry is dissolved before any trade. The Note clarifies that the board "would cause public disclosures of such unpublished price sensitive information well before the proposed transaction to rule out any information asymmetry in the market."
Regulation 3(4): confidentiality and standstill obligations
Regulation 3(4) governs what must accompany any 3(3) disclosure: "For purposes of sub-regulation (3), the board of directors shall require the parties to execute agreements to contract confidentiality and non-disclosure obligations on the part of such parties and such parties shall keep information so received confidential, except for the purpose of sub-regulation (3), and shall not otherwise trade in securities of the company when in possession of unpublished price sensitive information." Two obligations are imposed on the recipient — a contractual confidentiality undertaking and a standstill on trading. The recipient of due-diligence UPSI may use it only for the contemplated transaction and is barred from trading on it otherwise.
For aspirants, the structure to remember is the staircase: Regulation 3(3) opens the door for legitimate deal-related sharing; Regulation 3(4) bolts on the contractual safeguards; and the deemed-insider rule in 3(2B) ensures the recipient remains within the regulatory perimeter throughout. The architecture reflects a settled SEBI policy that disclosure for genuine corporate purposes is permissible only if it is documented, time-bound, and accompanied by trading restraint.
Regulation 3(5): the structured digital database
Regulation 3(5), as substituted by the 2020 amendment effective 17 July 2020, requires that the board of directors or head(s) of the organisation of every person required to handle UPSI ensure that a structured digital database (SDD) is maintained, containing the nature of the UPSI and the names of such persons who have shared the information along with the Permanent Account Number (PAN) or other authorised identifier. The pre-2020 version captured only the names of recipients; the amendment expanded the database to record the nature of the information too, creating a far more granular audit trail.
SEBI's follow-up circulars and the connected provisions require the SDD to be non-tamperable, time-stamped with an audit trail, maintained internally (not outsourced to third-party servers outside India), and preserved for a period of not less than eight years after completion of the relevant transactions. The SDD has become SEBI's principal forensic tool: in enforcement it asks first whether the entity maintained a compliant database, and a defective or back-dated SDD is itself a contravention. The practical lesson — and a favourite examiner's point — is that Regulation 3(5) converts the abstract need-to-know principle of Regulation 3(1) into a concrete, electronically auditable record.
Early enforcement: Hindustan Lever Ltd v. SEBI
Although decided under the 1992 Regulations, Hindustan Lever Ltd v. SEBI (Appeal Nos. 1 and 2 of 1998, 1998 (18) SCL 311 (AA)) remains the foundational Indian insider-trading decision and frames the policy that Regulation 3 now codifies. HLL purchased about 8 lakh shares of Brooke Bond Lipton India Ltd (BBLIL) from the Unit Trust of India on 25 March 1996, roughly two weeks before the public announcement of the HLL–BBLIL merger. SEBI held that HLL was an insider in possession of UPSI (the merger being price-sensitive information) and directed compensation to UTI.
On appeal, the Securities Appellate Authority ruled substantially in HLL's favour, accepting that as a dominant common shareholder HLL's knowledge of a merger it was itself driving did not make its purchase the kind of secretive exploitation the law targets. The decision is doctrinally important for two reasons relevant to Regulation 3: it confirmed that information about mergers and amalgamations is paradigmatic UPSI, and it foreshadowed the "best interests of the company" reasoning later embedded in Regulation 3(3). It is the case from which the modern statutory definition of UPSI ultimately grew.
Rakesh Agarwal v. SEBI: the legitimate-corporate-purpose defence
Rakesh Agarwal v. SEBI, (2004) 49 SCL 351 (SAT) (also reported (2004) 1 Comp LJ 193 SAT), is the conceptual ancestor of the legitimate-purposes exception. Agarwal, the managing director of ABS Industries Ltd, was negotiating Bayer A.G.'s acquisition of a controlling stake. While in possession of that UPSI, shares were acquired through his brother-in-law I.P. Kedia and tendered into Bayer's open offer. SEBI held Agarwal liable for insider trading. The SAT set aside SEBI's order, reasoning that Agarwal's object was to ensure the Bayer deal — and thereby the company's interests — went through, rather than to make a personal secret profit.
The decision is double-edged. On one hand it injected a notion of purpose and intent into a framework SEBI had argued was strict-liability; on the other, the "best interests of the company" rationale it pioneered is now expressly housed in Regulation 3(3) as the gateway for deal-related communication. Students should read Rakesh Agarwal alongside the later Supreme Court decision in SEBI v. Abhijit Rajan, which revived the relevance of motive in the trading context, and note that the 2015 drafting has converted a judicially-improvised defence into a structured, board-supervised exception.
Dilip Pendse v. SEBI: proving the leak
Dilip Pendse v. SEBI is the cautionary tale on evidence. Pendse, then managing director of Tata Finance Ltd, was alleged to have passed UPSI about heavy losses in the subsidiary Nishkalpa to his wife and an associated entity, who then sold shares before the losses became public. SEBI proceeded on the inference that an insider with motive and opportunity must have tipped his close relatives. The SAT was unpersuaded: it held that insider-trading allegations, though civil in form, carry a quasi-criminal gravity and must be established with a heightened degree of probability, and that the failure to permit cross-examination and the absence of cogent proof of communication were fatal to SEBI's case.
For Regulation 3 this case crystallised the central evidentiary difficulty: communication of UPSI is almost always invisible. SEBI rarely has the email or the call recording; it has timing and relationship. Pendse warned that proximity plus suspicious trading is not, without more, proof that the tipper communicated and the tippee procured. That theme would be decisively settled by the Supreme Court nearly two decades later.
Balram Garg v. SEBI: the burden of proving communication
Balram Garg v. Securities and Exchange Board of India, Civil Appeal No. 7054 of 2021, decided 19 April 2022 (2022 INSC 441; (2022) 9 SCC 425), is the most important authority on Regulation 3 to date. SEBI alleged that Balram Garg, managing director of PC Jeweller Ltd, had communicated UPSI to relatives who traded ahead of negative announcements in 2018. SEBI's case rested on the parties' relationship and the pattern and timing of their trades — classic circumstantial reasoning.
The Supreme Court reversed the SAT and exonerated the appellants. It held that to establish a charge of communication of UPSI under Regulation 3, SEBI must produce cogent material — "letters, emails, witnesses, etc." — and that mere proof of frequency or timing of trades, or of a familial relationship, cannot by itself discharge the burden of proving that UPSI was in fact communicated from tipper to tippee. The Court also addressed the definitional question, holding that some of the relatives were not "immediate relatives" who were financially dependent on or consulted the insider, and so could not be presumed to be connected persons. The takeaway, repeatedly tested in examinations, is that Balram Garg raised SEBI's evidentiary bar: the regulator must prove the communication, not merely invite an inference of it. Read it against the "preponderance of probabilities" standard discussed next, because the two decisions sit in productive tension.
Standard of proof: Kishore Ajmera and preponderance
The counterweight to Balram Garg is SEBI v. Kishore R. Ajmera, (2016) 6 SCC 368. There the Supreme Court held that the standard of proof in SEBI's regulatory proceedings is the civil standard of preponderance of probabilities, not the criminal "beyond reasonable doubt", and that an allegation may be established "by inferring a logical process of reasoning from the totality of the attending facts and circumstances" where direct evidence is unavailable. In the manipulation context the Court was generous to circumstantial proof.
How do the two reconcile? Kishore Ajmera permits inference; Balram Garg insists that, for the specific charge of communication of UPSI under Regulation 3, the inference must rest on cogent material rather than relationship-and-timing alone. The reconciliation favoured by commentators is that the standard of proof remains preponderance, but the quantum and quality of evidence needed to satisfy it for an invisible act of communication is higher than for an observable trading pattern. For a contravention of Regulation 4 SEBI can largely rely on the trade itself; for Regulation 3 it must reach behind the trade to the leak.
SEBI v. Abhijit Rajan and the role of motive
Though primarily a Regulation 4 trading case, SEBI v. Abhijit Rajan, 2022 SCC OnLine SC 1241 (decided 19 September 2022), bears directly on how Regulation 3 conduct is assessed. Rajan, chairman and managing director of Gammon Infrastructure Projects Ltd, sold GIPL shares while holding UPSI about the termination of shareholders' agreements with Simplex. The Supreme Court upheld the SAT's exoneration, holding that the motive to make an unfair gain, the direction of the trade and the reason it was carried out are all relevant; Rajan's sale was a distress sale compelled by a corporate debt restructuring package to save the parent company, not an exploitation of UPSI.
The decision is controversial — critics argue the 2015 Regulations are framed as strict-liability and do not require proof of profit motive — but for Regulation 3 it underlines a consistent judicial instinct: courts will look at why information moved or a trade occurred before condemning it. That instinct is exactly what the legitimate-purposes exception in Regulation 3(1)–(2A) and the best-interests gateway in Regulation 3(3) attempt to capture in statutory form. Together with Balram Garg, Abhijit Rajan marks a judicial tightening of SEBI's enforcement latitude in the post-2015 era.
Exam framework and common traps
For a Regulation 3 problem, work through this sequence. First, identify whether the actor is a tipper (apply 3(1) — insider only) or a procurer/tippee (apply 3(2) — any person). Second, ask whether the impugned communication falls within a legitimate purpose, performance of duty, legal obligation, or the deal gateway of 3(3); recall that 3(2A) requires a written board policy and that the proviso defeats any sharing designed to circumvent the regulations. Third, if 3(3) applies, check the 3(4) confidentiality-and-standstill agreements and the 3(2B) deeming of the recipient as an insider. Fourth, on evidence, apply Kishore Ajmera (preponderance) as moderated by Balram Garg (cogent material needed for communication).
Common traps: (a) forgetting that Regulation 3 needs no actual trade — the leak alone is the wrong; (b) confusing 3(1) and 3(2) — only an insider can violate 3(1), but anyone can violate 3(2); (c) assuming relatives are automatically connected persons after Balram Garg; (d) overlooking that the SDD under 3(5) must record the nature of the UPSI, not just names, post-2020; and (e) treating the legitimate-purpose list as exhaustive when the Explanation is expressly illustrative. Cross-reference the Code of Fair Disclosure for the policy-making duty and the PIT hub for the full scheme.
Frequently asked questions
Does Regulation 3 require an actual trade to be completed?
No. Regulation 3 prohibits the communication and procurement of UPSI, not trading. The contravention is complete the moment an insider communicates UPSI without a legitimate purpose, or a person procures it, even if no securities are ever bought or sold. Trading while in possession of UPSI is separately governed by Regulation 4.
What is the difference between Regulation 3(1) and Regulation 3(2)?
Regulation 3(1) binds only an insider and prohibits communicating, providing or allowing access to UPSI (the tipper's offence). Regulation 3(2) binds any person and prohibits procuring UPSI from, or causing its communication by, an insider (the tippee's or outsider's offence). The procurement limb deliberately reaches people who are not themselves insiders.
What does 'legitimate purposes' mean under Regulation 3(2A)?
Since the 2018 amendment (effective 1 April 2019), every listed company's board must adopt a policy defining legitimate purposes within its Code of Fair Disclosure. The Explanation illustratively includes sharing UPSI in the ordinary course of business with partners, lenders, customers, suppliers, merchant bankers, legal advisors, auditors and similar advisors, provided the sharing is not a device to evade or circumvent the regulations.
What did the Supreme Court hold in Balram Garg v. SEBI on proving communication of UPSI?
In Balram Garg v. SEBI (Civil Appeal No. 7054 of 2021, 19 April 2022), the Court held that SEBI must produce cogent material such as letters, emails or witnesses to prove that UPSI was communicated from tipper to tippee. Mere proof of the timing or pattern of trades, or of a family relationship, cannot by itself establish a Regulation 3 contravention.
When can UPSI lawfully be shared for a corporate transaction?
Regulation 3(3) permits sharing UPSI in connection with a transaction that triggers an open offer under the takeover regulations (where the board forms an informed opinion it is in the company's best interests), or a non-open-offer transaction where the board so opines and the UPSI is publicly disseminated at least two trading days before the transaction. Recipients must sign confidentiality and standstill agreements under Regulation 3(4).
What is a structured digital database under Regulation 3(5)?
It is a non-tamperable, time-stamped electronic record that the board or organisation head must maintain, capturing the nature of the UPSI and the names and PAN (or other identifier) of persons with whom it is shared. Post the 2020 amendment it must record the nature of the information, not just names, and must be preserved for at least eight years. A defective or back-dated database is itself a contravention.