RBI Circular Irons Out Two Kinks in its Overseas Investment Regime

On June 7, 2024, the Reserve Bank of India issued A. P (DIR Series) circular no. 09 (RBI Circular) in order to amend the Foreign Exchange Management (Overseas Investment) Directions, 2022 (FEMA OID 2022) and offer clarity on two crucial points.

Not just ‘Units’: Paragraph 1(ix)(e) of FEMA OID 2022 inter alia provided that any investment in an overseas fund, including sponsor contribution, shall be considered as Overseas Portfolio Investment (OPI) and has to be in units of such overseas fund. This had given raise to the position that when Indian residents invest in an offshore funds, they could invest only in ‘units’ of such fund. Since most offshore funds are set up as companies or limited partnerships issuing shares or partnership interest (rather than as trusts issuing units, as is the case in India), this language prevented investments in overseas funds. The RBI Circular amended Paragraph 1(ix)(e) of FEMA OID 2022 to make it clear that Indian residents can invest in units or any other instrument (by whatever name called) issued by an overseas investment fund.

Where only the fund manager (and not the Fund) is regulated: Further, Paragraph 1(ix)(e) of the FEMA OID 2022, required the overseas fund to be ‘duly regulated by the financial sector regulator in the host jurisdiction’. In many jurisdictions, only the fund manager is licensed or regulated, and the fund is not. So, Indian residents could not invest in a fund whose investment manager was regulated, if the fund itself wasn’t.  Now, the modified Paragraph 1(ix)(e)  contains an explanation to the effect that it is sufficient if the manager of the overseas fund is regulated for Indian residents to invest in such fund.

The RBI Circular has also modified paragraph 24(1) of FEMA OID 2022, which deals with overseas investment in an IFSC in India by a person resident in India, in order to clarify that Indian residents and unlisted Indian entities can invest in units or any other instrument (by whatever name called) issued by an investment fund or vehicle set up in an IFSC, as OPI.

The Foreign Exchange Management (Overseas Investment) Rules, 2022 (OI Rules), the Foreign Exchange Management (Overseas Investment) Regulations, 2022 (OI Regulations) and the Foreign Exchange Management (Overseas Investment) Directions, 2022 (OI Directions) govern overseas investments by Indian residents. Under these laws, India’s first International Financial Service Centre in GIFT City is treated as a jurisdiction outside India for the purpose of the Foreign Exchange Management Act, 1999. The OI Rules, OI Regulations and OI Directions had, when they were issued in 2022, amended and clarified India’s overseas investment regime, though some kinks were in vague. The RBI Circular has fixed two of such kinks and will be welcome by all stakeholders.

RBI’s circular of June 7, 2024 can be found here.

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