INTRODUCTION
On 22nd August 2022, the Finance Ministry notified the Foreign Exchange Management (Overseas Investment) Rules, 2022 (“Rules”). The Rules have been enacted in supersession of the Foreign Exchange Management (Transfer of Issue of Any Foreign Security) Regulations 2004 and the Foreign Exchange Management (Acquisition and Transfer of Immovable Property Outside India) Regulations, 2015.
SIGNIFICANT CHANGES INTRODUCED THROUGH THE RULES
Liberalised Remittance Scheme
The Liberalised Remittance Scheme (“LRS”) was introduced by the Reserve Bank of India (RBI) in 2004 in order to regulate capital outflow from India. The position as on date with respect to LRS has been provided under Schedule III of the Rules which provides that a resident individual may make an overseas direct investment (“ODI”) subject to the overall ceiling under the LRS scheme. The overall ceiling remains under the scheme remains USD 2,50,000, however, the means and locations for such remittances have been clearly defined and limited by the Rules. The previous position was that a resident individual could invest up to 10% in a foreign holding or an unlisted investment company. Currently, as per rule 1 sub-rule 2 of Schedule III of the Rules, overseas investment must be made by way of an ODI in an operating foreign entity not engaged in financial services activity, and which does not have a subsidiary or a step-down subsidiary in which the said resident individual has control.
Overseas Portfolio Investment
Overseas Portfolio Investment (“OPI”) was not defined in the previous framework, hence, investments were primarily made in listed foreign companies. However, with the enactment of the recent Rules, OPI has been defined as an investment in foreign securities, but not in any unlisted debt instruments or any security issued by a person resident in India who is not in an International Financial Services Centre (“IFSC”) The concept of OPI has thus been significantly widened and includes reinvestment as a means of making OPI by a listed Indian company as well as shares or interest acquired by resident individuals in the form of sweat equity shares or under Employee Stock Ownership Plans. It is specifically provided that OPIs which result in acquisition of less than 10% equity without control in the foreign entity, need not adhere to the reporting requirements provided for under the Foreign Exchange Management (Overseas Investment) Regulations, 2022 (“Regulations”). The OPI compliances have been relaxed to facilitate ease of doing business.
Prohibited Activities and Round Tripping
Persons resident in India are specifically debarred from making ODIs in foreign entities engaged in real estate activity, gambling in any form, and dealing with financial products linked to the Indian rupee without specific approval of the RBI. In order to address the practice of round tripping, the Rules provide that a person resident in India cannot make financial commitment in a foreign entity that has invested in an Indian entity, either directly or indirectly resulting in a structure with more than two layers of subsidiaries. Accordingly, a situation where an Indian company eventually ends up indirectly holding a stake in another Indian company through its holding in a foreign entity as a by-product, would also be under the regulator’s radar.
The Regulation further provides that a person resident in India having ODI in a foreign entity, shall realise and repatriate to India, all dues receivable from the foreign entity with respect to investment in such foreign entity, the amount of consideration received on account of transfer or disinvestment of such ODI and the net realisable value of the assets on account of the liquidation of the foreign entity as per the laws of the host country or the host jurisdiction, as the case may be, within ninety days from the date when such receivables fall due or the date of such transfer or disinvestment or the date of the actual distribution of assets made by the official liquidator.
Gifting
While previously acquiring foreign securities by way of a gift from a person resident in India was only permitted in so far as the person transferring the gift was a relative, the current Rules provides that a person resident outside India may also bequeath foreign securities to an Indian resident by way of a gift in accordance with the provisions of the Foreign Contribution (Regulation) Act, 2010.
CONCLUSION
The approach of the Finance Ministry in enacting the Rules and Regulations is prima facie aimed at promoting investments abroad in a controlled manner. However, it is important to note that highly speculative avenues such as derivatives trading and investment in cryptocurrencies has been restricted and requires specific approval of RBI. This will prove to be a roadblock for resident individuals who frequently invest and trade in cryptocurrencies abroad. The practice of incorporating foreign holding companies has also been clamped down upon, thereby changing the market practice significantly.
DISCLAIMER
This alert has been written for general information of our clients and should not be treated as a substitute for legal advice. We recommend that you seek proper legal advice prior to taking any action pursuant to this alert. We disclaim all liability for any errors or omissions. For further clarifications, you may write to Mallika Noorani (Mallika.noorani@parinamlaw.com) Ankita Singh (Ankita.singh@parinamlaw.com) and Rhea Tewary (rhea.tewary@parinamlaw.com).
