Introduction: This article sheds light on the common errors that companies and professionals frequently make when dealing with capital account transactions under the Foreign Exchange Management Act (FEMA). These transactions include Foreign Direct Investment (FDI), Overseas Direct Investment (ODI), and External Commercial Borrowing (ECB). Lack of expert guidance often leads to non-compliance, resulting in substantial penalties. Drawing on practical experience, this article aims to compile the most prevalent mistakes and provide valuable insights.
1. The capital accounts transactions under FEMA can be classified as- Foreign Direct Investment (FDI), Overseas Direct Investment (ODI), External Commercial Borrowing (ECB). As per FEMA, there are certain compliance guidelines while availing these transactions by the Indian Entities. Often the companies fail to comply with the provisions accurately for lack of expert professional guidance and end up in landing in non- compliance and paying heavy penalties. This article is an endeavour to compile the common errors which the companies/ professionals normally make while handling the transactions under FEMA and is based on practical experience.
2. FEMA (Foreign Exchange Management Act), is an Act that consolidates and amends laws relating to foreign exchange transactions in India. FEMA regulates two types of transactions (a) Current Account Transactions and (b) Capital Account Transactions.
3. The Capital Account transactions mainly includes- i. Foreign Direct Investment (FDI) ii. Overseas Direct Investment (ODI) iii. External Commercial Borrowing (ECB).
4. A company/ LLP registered in India can avail FDI, make overseas investment and can borrow foreign funds by complying with the regulations under FEMA and as per RBI Master Directions is issued from time to time. Due care has to be taken while undertaking such transactions. Some of the precautions to be taken and the common mistakes done are discussed in following paras.
a) A company may take FDI in the form of equity shares, compulsorily convertible preference shares. LLPs are also permitted to avail the FDI. While availing the FDI, the following should be complied with due diligence –
i. Ensure the activities of your company/ LLP does not fall under prohibited category, gambling, betting, lottery etc. Which are sectors where FDI is not permitted.
ii. Ascertain activities of the company is under automatic route (where no RBI approval is required and only report has to be forwarded) or under approval route (where RBI prior approval is required), Also, ensure sector cap on the foreign holding is applicable or not.
iii. Avail the FDI funds in convertible foreign currency and instruct the foreign remitter not to convert the amount in INR before remittance. This will save considerable time in getting the amount credited in the account.
iv. Ensure the remitter to mention the purpose of the remittance as – Towards equity/ preference share capital. The purpose would be mentioned in the Foreign Inward Remittance Certificate (FIRC) which is issued by the bank once it receives foreign remittance.
v. A six pointer KYC of the remitter is required by your bank, before the amount gets credited. This is done through sending a SWIFT message by the receiving bank to the remitting bank, so ensure to ask the foreign investor to inform their bank to reply to the SWIFT message immediately.
vi. Once the funds is credited in the account, get the six pointer KYC and FIRC from the bank.
vii. Any amount received in excess, has to be refunded within 60 days of the receipt of the funds, else, after 75 days, an interest becomes payable on the excess amount.
viii. The reporting of the allotment to the overseas investor has to be in form FC GPR within 30 days of allotment of shares. The reporting is to be done on the FIRMS Portal.
ix. Ensure entire information as asked are filled up correctly in the form and is reported correctly.
x. Every year, an annual form called Annual Return on Foreign Liability and Assets (FLA) is required to be filed. Make sure to file FLA every year by 15th July. Any delay in filing will result in contravention of FEMA regulations.
b) A company may invest overseas to set up a Wholly Owned Subsidiary company or a Joint Venture. One needs to comply with the provisions relating to Overseas Direct Investment-
i. The amount to be invested by the company should not exceed 400% of its Net worth.
ii. Submit the ODI documents along with other documents to the AD Bank for making the remittance.
iii. Once the remittance is made, make sure to obtain the UIN (Unique Identification Number) issued by RBI.
iv. Make sure to obtain the share certificate / proof of investment for the investment made in the foreign entity and submit the copy to your AD bank within 60 days of remittance.
v. Submit the Annual Performance Report (APR) to your AD bank by 31st December every year.
vi. Submit FLA by 15th July every year.
c) External Commercial Borrowing is the loan fund which a company can avail from foreign lenders at a cheap rate. The following regulatory compliances are to be observed-
i. For ECB, you need to submit the ECB form to your AD Bank along with the ECB agreement and other documents.
ii. On submitting the documents, RBI allots you the LRN (Loan Registration No.). Please do not get the ECB amount in your account, till you receive the LRN.
iii. ECB proceeds to be utilised as per the details as mentioned in your ECB form.
iv. Make sure to make repayment of the interest and the principal amount as per the loan schedule.
v. Monthly return to be filed in ECB-2 by 7th day every month.
5. Any non-compliance of the regulations will result in contravention of FEMA provisions and you may have to go for compounding of contravention on payment of the requisite penalty.
Conclusion: Proper compliance with FEMA regulations is crucial for companies and professionals involved in capital account transactions. By familiarizing themselves with the compliance guidelines for FDI, ODI, and ECB, businesses can avoid costly mistakes. This article has compiled the most common errors encountered during such transactions, aiming to provide valuable insights based on practical experience. By heeding these lessons, companies and professionals can navigate the complexities of FEMA regulations, minimize non-compliance risks, and mitigate the potential penalties associated with contraventions.
Disclaimer: This article has been prepared in good faith on the basis of information available on the date of publication without any independent verification. The Author does not guarantee or warrant the accuracy, reliability, completeness or currency of the information in this publication nor its usefulness in achieving any purpose. The Author will not be liable for any loss, damage, cost or expenses incurred or arising by reason of any person using or relying on information in this publication. Readers are requested to consult a professional before taking any action.
(Author – Sonika Bharati, FCS, LL.B. is a Company Secretary in Practice from Delhi and can be contacted at firstname.lastname@example.org)