The Ministry of Finance, Government of India has now classified instruments issued under Foreign Exchange Management Act, 1999 (FEMA) as debt and non-debt instruments and has notified the rules/ regulations in this regard.

The Finance Act of 2015 had proposed certain amendments to the Foreign Exchange Management Act, 1999. The Central Government (“CG”), vide sections 138 to 144 of Finance Act 2015, brought changes to FEMA. The said changes were not notified for long time. However, after a long delay, the amendments have finally been notified by the Central Government on October 15, 2019. On 15.10.2019, CG vide Notification Number S.O. 3715(E) notified Sections 139, 143(1) and 144 of Finance Act 2015, thereby inserting Section 6(2A) to FEMA, which gives power to CG to make rules with respect to regulating Non- Debt Instruments (“NDI”), and also amending Section 6(2)(a) of FEMA which gives power to Reserve Bank of India (“RBI”) to make regulations with respect to Debt Instruments. Further, sub-section (3) of Section 6 of FEMA has been omitted by with effect from 15-10-2019. [more particularly see our article “Central Government now empowered to specify classes of permissible capital account transactions in respect of Non- Debt Instruments” which was published on Tax Guru on 05.10.2010]

Pursuant to the amendments to FEMA through Finance Act, 2015, recently, the Ministry of Finance notified the Foreign Exchange Management (Non-debt Instruments) Rules, 2019 (“the Nondebt Instruments Rules”) vide Notification No. 3732(E) dated 17th October, 2019 and Foreign Exchange Management (Non-debt Instruments) (Amendment) Rules, 2019.  

The RBI issued the Foreign Exchange Management (Debt Instrument) Regulations, 2019 (“the Debt Instruments Regulations”). Consequent to issue of NDI Rules by Finance Ministry, RBI has issued Foreign Exchange Management (Mode of Payment and Reporting of Non-Debt Instruments) Regulations, 2019 vide Notification No. G.S.R 795(E) dated 17th October, 2019. The Regulation gives a clear picture about mode of payment, remittance of sale proceeds, reporting requirements etc. with respect to issue or transfer of securities.

Whilst the Non-debt Instruments Rules superseded the Foreign Exchange Management (Transfer or Issue of Security by a Person Resident Outside India) Regulations, 2017 (“the TISPRO Regulations”) as well as the Foreign Exchange Management (Acquisition and Transfer of Immovable Property in India) Regulations, 2018 (“the ATIP Regulations”), whereas the Debt Instruments Regulations only superseded the TISPRO Regulations.

The power is shifted to Finance Ministry for notifying any change in FDI Rules. Now the CG will make the rules and RBI will regulate the same. The primary intent behind the notification of the Non-debt Instruments Rules and the Debt Instruments Regulations was to give effect to the amendments proposed in the Finance Act, 2015. Notably, under the extant regulations, the RBI was only empowered to specify classes of permissible capital account transactions. However, the Finance Act, 2015, streamlining the power division between the RBI and the CG, gave the RBI the right to specify classes of capital account transactions, involving debt instruments and a similar power to the Central Government, in respect of non-debt instruments.

With the above changes and notifications, CG becomes governing body for Non-debt transactions like investment in equity of incorporated entities, capital participation in LLPs, acquisition and dealing immovable properties, contribution to trusts, investment in units of Alternative Investment Funds (AIFs) & equity oriented mutual funds, etc. And RBI becomes governing body for debt transactions like investment in government bonds, corporate bonds, borrowings by Indian firms through loans, etc.

Even after above changes, RBI still holds the responsibility of monitoring the foreign exchange related to non-debt instruments, and so it notified FEM (Mode of Payment and Reporting of Non-debt Instruments) Regulations, 2019.

Classification of Debt and Non-Debt Instruments under FEMA

The Rule 2(ai) of Non-debt Instruments Rules provides for an exhaustive list for instruments which are considered as non-debt instruments and includes

(i) all investments in equity instruments in incorporated entities: public, private, listed and unlisted;

(ii) capital participation in LLP;

(iii) all instruments of investment recognised in FDI policy notified from time to time;

(iv) investment in units of Alternative Investment Funds (AIFs), Real Estate Investment Trust (REITs) and Infrastructure Investment Trusts (InvIts);

(v) investment in units of mutual funds or Exchange- Traded Fund (ETFs) which invest more than fifty per cent in equity;

(vi) junior-most layer (i.e. equity tranche) of securitisation structure;

(vii) acquisition, sale or dealing directly in immovable property;

(viii) contribution to trusts; and

(ix) depository receipts issued against equity instruments.

As per the Rule 2(f) of Non-debt Instruments Rules, ‘debt instruments’ means all instruments other than non-debt instruments defined in clause (ai) of Rule 2 of Non-debt Instruments Rules.

It is to be noted that the Debt Instruments Regulations also separately give examples of certain debt instruments (such as dated government securities/ treasury bills; non-convertible debentures/ bonds issued by an Indian company; commercial papers issued by an Indian company etc.) which can be acquired by foreign portfolio investors, non-resident Indians, foreign central bank etc. As per the Rule 2(d) of Debt Instruments Regulations, ‘debt instruments’ means the instruments listed under Schedule 1 of the regulations.

A definition of “hybrid instruments” has been introduced in the Non-debt Instruments Rules which includes- “instruments such as optionally or partially convertible preference shares or debentures and other such instruments as specified by the Central Government from time to time, which can be issued by an Indian company or trust to a person resident outside India.”

It is pertinent to mention herein that, the term hybrid instruments has not been used in the Rules, therefore, the reason for inclusion of this definition is not clear.


Disclaimer: Nothing contained in this document is to be construed as a legal opinion or view of either of the authors whatsoever and the content is to be used strictly for educative purposes only.


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