With a view to liberalize and promote ease of doing business in India, the Central Government and the Reserve Bank of India (RBI) have simplified the existing framework for overseas investment by persons resident in India and has notified the Foreign Exchange Management (Overseas Investment) Rules, 2022 (OI Rules) read with the Foreign Exchange Management (Overseas Investment) Regulations, 2022 (OI Regulations) and the Foreign Exchange Management (Overseas Investment) Directions, 2022 (OI Directions) in supersession of the Foreign Exchange Management (Transfer or Issue of Any Foreign Security) Regulations, 2004 and the Foreign Exchange Management (Acquisition and Transfer of Immovable Property Outside India) Regulations, 2015 (collectively OI Rules, OI Regulations and OI Directions are referred to as the (OI Regime).
While clarity on certain aspects may be forthcoming in the near future, prima facie some of the key observations under the OI Regime are as follows:
Overseas Direct Investment (ODI) in financial services activity: An Indian entity which is not engaged in financial services activity in India has been permitted to make ODI in a foreign entity which is directly or indirectly engaged in financial services activity (except banking or insurance), subject to the condition that such Indian entity has posted net profits during the preceding three financial years. This was earlier not permitted and is likely to open doors for many Indian entities looking to invest in overseas financial services activities.
It is also interesting to note that the condition relating to obtaining of approval (as may be required) from regulators of relevant financial services activities, in India and host country/jurisdiction for engaging in such financial services activities in the host country/jurisdiction, (as applicable to an Indian entity engaged in financial services activities which intends to undertake such activity), is currently not applicable to an Indian entity which proposes to undertake financial services activity in host country/jurisdiction and is not engaged in the same in India.
Prior to the OI Regime, an Indian entity engaged in the financial services activity had to mandatorily obtain approval from the Indian regulator and regulator of host country/jurisdiction for undertaking financial services activity in the host country/jurisdiction. Under the present OI Regime, regulatory approval only if required, under Indian law or laws of the host country/jurisdiction, will need to be obtained. Family offices will likely explore this opportunity to invest overseas in financial services activity through their core investment company (CICs) and non-banking financial company (NBFCs).
Clarity on definitions of Overseas Direct Investment (ODI) and Overseas Portfolio Investment (OPI):
Overseas Direct Investment (ODI) has been defined as:
Overseas Portfolio Investment (OPI) has been defined as:
OPI by a person resident in India in the equity capital of a listed entity, even after its delisting shall continue to be treated as OPI until any further investment is made in the entity.
Further, both in case of Indian entity and Resident Individuals specific investments have been identified as ODI and/or OPI. By defining the terms ODI and OPI, the Government has brought clarity on the distinction between the two, which has for long been debatable.
ODI-FDI investments: The OI Regime has permitted persons resident in India to make financial commitments in foreign entities that have invested prior to, or invest into India at any time post such investment, either directly or indirectly, through structures with up to two layers of subsidiaries. By restricting only the number of layers and not investment into India, it prima facie appears that investment by a person in Indian in foreign entity which invests back in India has been permitted by the Government.
However, resident individuals can make overseas investments by way of ODI only in an operating foreign entity (not engaged in financial services activity) which does not have subsidiary or step down subsidiary where the resident individual has control (as defined in the OI Regime) in foreign entity.
Deferred payment of consideration: The OI Regime has permitted deferred payment of consideration for acquisition or transfer of foreign securities, subject to certain conditions, which was earlier not permitted.
Write-off on account of disinvestment: The OI Rules have dispensed with the requirement of approval for write-off on account of disinvestment. This is expected to make the process of disinvestment much faster and smoother.
Pricing to be at arms’ length: The OI Rules require pricing to be done on arms’ length basis for any issue or transfer of equity capital of a foreign entity from a person resident outside India or a person resident in India to a person resident in India who is eligible to make such investment or from a person resident in India to a person resident outside India. The onus has been put on the AD bank to ensure compliance with arm’s length pricing taking into consideration the valuation as per any internationally accepted pricing methodology for valuation. Considering that the AD Banks will have flexibility to decide on this aspect, it is preferable that RBI specifies the guiding principles to determine ‘arms length pricing’.
ODI in Start- Ups: ODI in start-ups is permitted to be made only out of internal accruals of the investing entity or own funds of the resident individual. As per the OI Rules, this investment is permitted in ‘start-ups’ recognised as such under the laws of the host country/host jurisdiction. Not many countries specifically define what is or is not a ‘start-up’, so in any country where there is no specific definition, this condition becomes infructuous. The RBI may need to clarify its position in this regard.
Grandfathering of transactions: The OI Regime mentions thatany investment or financial commitment outside India made in compliance with the earlier regime and held as on the date of publication of the OI Rules shall be deemed to have been made under the OI Regime. However, if any investments or financial commitments have been made in the past which was not in accordance with the then prevailing law, then the OI Regime will not be applicable and specific compounding application will need to be made for the same.
Discontinuation of utilization of subsidiary / holding net worth: Prior to the OI Regime, an Indian entity for purposes of overseas investments, could utilize the networth of its Indian subsidiary/holding company to the extent not availed of by the holding company or the subsidiary company, subject to certain conditions. However, the OI Directions now specify that the concept of utilizing the net-worth of subsidiary / holding company by the Indian entity has been discontinued. This would impact large conglomerates where subsidiaries are typically used to structure foreign investments.
The OI Regime is expected to open avenues for investment by Indian residents in foreign country/jurisdiction, which were earlier restricted, and provide array of opportunities while structuring transactions.
The key provisions of the aforementioned OI Rules and OI Regulations have been summarized below:
|Key definitions | Overseas Investment, Financial Commitment, ODI, OPI||
|Non- applicability of the OI Rules||The OI Rulesdoes not apply to:
– out of Resident Foreign Currency Account; or
– out of foreign currency resources held outside India by a person who is employed in India for a specific duration irrespective of length thereof or for a specific job or assignment, duration of which does not exceed three years; or
– in accordance with Section 6(4) of FEMA.
|Classification of debt and non-debt instruments||
|Rights Issue and Bonus Issue||Any person resident in India who has acquired and continues to hold equity capital of any foreign entity in accordance with FEMAor the rules or regulations made thereundermay invest in the equity capital issued by such entity as a rights issue ormay be granted bonus shares subject to the OI Rules.
The person resident in India acquiring the rights may renounce such rights in favour of a person resident in India or a person resident outside India.
|Conditionalities for investment or financial commitment outside India||No person resident in India to make or transfer any investment or financial commitment outside India except as provided under FEMA read with the OI Rules and regulations made FEMA.
Investments made outside India by a person resident in India tobe made subject to the following conditionalities:
|No objection certificate (NOC) required in certain cases||
– has an account appearing as a non-performing asset; or
– is classified as a willful defaulter by any bank; or
– is under investigation by a financial service regulator or by investigative agencies in India, namely, the Central Bureau of Investigation or Directorate of Enforcement or Serious Frauds Investigation Office,
|Overseas Direct Investment (ODI) by Indian entity | Instruments for ODI, ODI in financial services activity, limits on financial commitment||
|Overseas Portfolio Investment (OPI) by an Indian entity||An Indian entity may make OPI which shall not exceed 50% of its net worth as on the date of its last audited balance sheet, subject to the following:
– acquisition of equity capital by way of rights issue or allotment of bonus shares;
– capitalization, within the time period, if any, specified for realization under FEMA, of any amount due towards the Indian entity from the foreign entity, the remittance of which is permitted under the Act or does not require prior permission of the Central Government or the RBI under FEMA or any rules or regulations made or directions issued thereunder;
– the swap of securities;
– merger, demerger, amalgamation or any scheme of arrangement as per the applicable laws in India or laws of the host country / host jurisdiction.
|Overseas Investment by resident individual||
|Overseas Investment by person resident in India other than Indian entity and resident individual||
|Overseas Investment in IFSC by person resident in India||Person resident in India may make overseas investment in an IFSC in the manner as laid down in Schedule I / II/ III/ IV of the OI Rules, subject to the following:
|Pricing guidelines||Issue or transfer of equity capital of a foreign entity from (i) a person resident outside India / person resident in India to a person resident in India who is eligible to make such investment; or (ii) person resident in India to a person resident outside India, is required to be at a price arrived on an arm’s length basis.
AD bank is required to ensure compliance with arm’s length pricing taking into consideration the valuation as per any internationally accepted pricing methodology for valuation before facilitating such transaction.
|Transfer or liquidation||Transfer by way of sale: A person resident in India holding equity capital is permitted to transfer such investmentby way of sale to a person resident in India, who is eligible to make such investment under the OI Rules, or to a person resident outside India.
Transfer under merger/ amalgamation/ demerger/ buyback: In case the transfer is on account of merger/ amalgamation/ demerger/ on account of buyback of foreign securities, such transfer or liquidation in case of liquidation of the foreign entity, shall have the approval of the competent authority as per the applicable laws in India or the laws of the host country / host jurisdiction.
Disinvestment by a person resident in India: Such divestment shall be subject to the following conditions:
The above conditions for disinvestment will not apply in case of a merger/ demerger / amalgamation between 2 or more foreign entities that are wholly-owned, directly or indirectly, by the Indian entity or where there is no change or dilution in aggregate equity holding of the Indian entity in the merged or demerged or amalgamated entity.
|Restructuring of balance sheet of person resident in India who has made ODI in a foreign entity, permitted by such foreign entity||Restructuring by foreign entity: Person resident in India who has made ODI in a foreign entity may permit restructuring of the balance sheet by such foreign entity, which has been incurring losses for the previous 2 years as evidenced by its last audited balance sheets, subject to ensuring compliance with reporting, documentation requirements and subject to the diminution in the total value of the outstanding dues towards such person resident in India on account of investment in equity and debt, after such restructuring not exceeding the proportionate amount of the accumulated losses.
Diminution in value to be certified: In case of such diminution where the amount of corresponding original investment is more than USD 10 million or in the case where the amount of such diminution exceeds 20% of the total value of the outstanding dues towards the Indian entity or investor, the diminution in value shall be duly certified on an arm’s length basis by a registered valuer as per the Companies Act, 2013 or corresponding valuer registered with the regulatory authority or certified public accountant in the host jurisdiction. The certificate dated not more than 6 months before the date of the transaction to be submitted to the designated AD bank.
|Restrictions and prohibitions of ODI is certain sectors||Prohibition on ODI in the following sectors:
Restriction on ODI in start-ups: Any ODI in start-ups recognized under the laws of the host country / host jurisdiction, to be made by an Indian entity only from the internal accruals whether from the Indian entity or group or associate companies in India and in case of resident individuals, from own funds of such an individual.
ODI not to result in a structure with more than 2 layers of subsidiaries: No person resident in India to make financial commitment in a foreign entity that has invested or invests into India, at the time of making such financial commitment or at any time thereafter, either directly or indirectly, resulting in a structure with more than two layers of subsidiaries. This restriction is not applicable to the classes of companies provided under Rule 2(2) of the Companies (Restriction on Number of Layers) Rules, 2017.
|Restriction on acquisition or transfer of immovable property outside India||
– held by a person resident in India who is a national of a foreign State;
– acquired by a person resident in India on or before the 8th day of July, 1947 and continued to be held by such person with the permission of the RBI;
– acquired by a person resident in India on a lease not exceeding 5 years.
(a) by way of inheritance;
(b) by way of purchase out of foreign exchange held in RFC account;
(c) by way of purchase out of the remittances sent under LRS. Such remittances under LRS may be consolidated in respect of relatives if such relatives, being persons resident in India, comply with the terms and conditions of the Scheme;
(d) jointly with a relative who is a person resident outside India;
(e) out of the income or sale proceeds of the assets, other than ODI, acquired overseas under FEMA.
(a) transfer such property by way of gift to a person resident in India who is eligible to acquire such property under the OI Rules or by way of sale;
(b) create a charge on such property in accordance with FEMA or the rules or regulations made thereunder or RBI directions issued from time to time.
The OI Rules have been notified vide MOF notification dated August 22, 2022 (available here).
Salient features of the OI Regulations have been discussed hereinbelow:
|Financial commitment by Indian entity by modes other than equity capital||Indian entity may lend or invest in any debt instrument issued by a foreign entity or extend non fund-based commitment to or on behalf of a foreign entity including overseas step down subsidiaries of such Indian entity subject to the following conditions within the financial commitment limit as prescribed in the OI Rules:
|Financial commitment by Indian entity by way of debt||An Indian entity may lend or invest in any debt instruments issued by a foreign entity subject to the condition that such loans are duly backed by a loan agreement where the rate of interest shall be charged on an arm’s length basis. “Arm’s length” means a transaction between two related parties that is conducted as if they were unrelated, so that there is no conflict of interest.|
|Financial commitment by way of guarantee||
– corporate or performance guarantee by such Indian entity;
– corporate or performance guarantee by a group company of such Indian entity in India, being a holding company (which holds at least 51% stake in the Indian entity) or a subsidiary company (in which the Indian entity holds at least 51% stake) or a promoter group company, which is a body corporate;
– personal guarantee by the resident individual promoter of such an Indian entity;
– bank guarantee, which is backed by a counter-guarantee or collateral by the Indian entity or its group company as above, and issued, by a bank in India.
– Where the commitment is extended by a group company, any fund-based exposure to or from the Indian entity shall be deducted from the net worth of such group company for computing its financial commitment limit
– Where the guarantee is extended by a promoter, which is a body corporate or an individual, the Indian entity shall be a part of the promoter group.
|Financial commitment by way of pledge or charge||Creation of pledge or charge: Indian entity, which has made ODI by way of investment in equity capital in a foreign entity is permitted to:
– its assets in India, including the assets of its group company or associate company, promoter or director, in favour of an AD bank or a public financial institution in India or an overseas lender as security for availing of the fund based or non-fund based facility or both, for any foreign entity in which it has made ODI or for its step down subsidiary outside India; or
– the assets outside India of the foreign entity in which it has made ODI or of its step down subsidiary outside India in favour of an AD bank in India or a public financial institution in India as security for availing of the fund based or non-fund based facility or both, for itself or any foreign entity in which it has made ODI or for its step down subsidiary outside India or in favour of a debenture trustee registered with SEBI in India for availing fund based facilities for itself.
Conditions for creation of pledge or charge:
|Acquisition or transfer of equity capital by way of deferred payment under the terms of the agreement||Deferred payment of consideration for equity capital:
Where a person resident in India acquires equity capital by way of subscription to an issue or by way of purchase from a person resident outside India or where a person resident outside India acquires equity capital by way of purchase from a person resident in India, and where such equity capital is reckoned as ODI, the payment of amount of consideration for the equity capital acquired may be deferred for such definite period from the date of the agreement as provided in such agreement subject to the following:
Indemnification of buyer:
The buyer may be indemnified by the seller up to such amount and be subject to such terms and conditions as may be mutually agreed upon and laid down in the agreement.
|Modes of payment||A person resident in India making OI may make payment:
|Obligations of person resident in India||
Designation of one AD Bank: All transactions relating to a particular UIN to be routed through AD Bank. Where more than one person resident in India makes financial commitment in the same foreign entity, all such persons shall route all transactions relating to that UIN through the AD bank designated for that
|Reporting requirements for Overseas Investment||
– financial commitment, whether it is reckoned towards the financial commitment limit or not, at the time of sending outward remittance or making a financial commitment, whichever is earlier;
– disinvestment within 30 days of receipt of disinvestment proceeds;
– restructuring within 30 days from the date of such restructuring.
– APR not required where (i) a person resident in India is holding less than 10% of the equity capital without control in the foreign entity and there is no other financial commitment other than by way of equity capital; or (ii) a foreign entity is under liquidation.
– APR shall be based on the audited financial statements of the foreign entity. APR may be submitted based on unaudited financial statements certified as such by the statutory auditor of the Indian entity or by a chartered accountant where the statutory audit is not applicable, if the person resident in India does not have control in the foreign entity and the laws of the host country/ host jurisdiction do not provide for mandatory auditing of the books of accounts.
– In case more than one person resident in India has made ODI in the same foreign entity, the person holding the highest stake in the foreign entity shall be required to submit APR and in case of holdings being equal, APR may be filed jointly by such persons.
– Person resident in India shall report the details regarding acquisition or setting up or winding up or transfer of a step down subsidiary or alteration in the shareholding pattern in the foreign entity during the reporting year in the APR.
|Delay in reporting | Submission/ filing can be made with late submission fee||Person resident in India who does not submit the evidence of investment within the specified timeline or does not make any filing within the specified time for OI, may make such submission / filing along with Late Submission Fee within such period as may be advised, and at the rates and in the manner as may be directed by the RBI from time to time. Such facility can be availed within a maximum period of 3 years from the due date of such submission / filing.
The OI Regulations also place a restriction on further financial commitment whether fund-based or non-fund-based, directly or indirectly, towards the foreign entity or transfer such investment till any delay in reporting is regularized.
The OI Regulations were notified vide RBI notification dated August 22, 2022 (available here).
Disclaimer: The information contained in this document is intended for informational purposes only and does not constitute legal opinion or advice. This document is not intended to address the circumstances of any individual or corporate body. Readers should not act on the information provided herein without appropriate professional advice after a thorough examination of the facts and circumstances of a situation. There can be no assurance that the judicial/quasi-judicial authorities may not take a position contrary to the views mentioned herein