10 – Key provisions related to Foreign Direct investment into India

FDI (Foreign Direct Investment) is a major source of non-debt financial resource for the economic development of any nation and is thus a channel of economic growth. FDI attracted its significance with the globalization framework adopted by many economies.

From India perspectives, we adopted the globalization framework with the Industrial revolution since 1991 when Govt. introduced various reforms for the economic development of the Country.

Since 1991, the regulatory environment and the process to get FDI has consistently been eased to make it investor-friendly, projecting India as one of the fastest-growing economies of the world.

The Government with the intent to attract and promote foreign investments has put in place FDI regulations in India with a framework that is transparent and comprehensible.

Foreign investment into a domestic entity on a strategic basis is subject to FDI policy in India.

Foreign investors can invest directly in India, either on their own or through joint ventures in virtually all the sectors except in a very small list of activities where foreign investment is prohibited.

FDI in the majority of the sectors is under the automatic route, i.e. allowed without any requirement of seeking regulatory approval prior to such investment.

As per statistics released by the Department for Promotion of Industry and Internal Trade (DPIIT), FDI equity flow in India stood more than US$ 521 billion from the middle of April 2000 to December 2020, which clearly speaks that the Govt’s effort on ease of doing business and relaxing FDI policy have given results.

During the first 3 quarters of FY 2020-21, India received FDI of more than USD 51 billion (40% growth over last year) across segments and from across investors, primarily from Mauritius, Singapore, USA, Netherlands, Japan, UK, Germany, Cyprus, UAE and Cayman island. (Source DPIIT statistics)

FDI, as distinguished from Foreign Portfolio Investment, has the intent and objective of establishing a ‘lasting business interest’ in an enterprise.

A foreign entity or a person resident outside India can start its business operations in India by either having an office in India or by incorporating a subsidiary either as a Joint Venture (JV) or a wholly-owned subsidiary.

In case of the first option, the Foreign entity would need to comply with extant FEMA guidelines related to setting up a Branch office or Liaison office or Project office in India.

2nd option of subsidiary set up in India requires compliance with Foreign Exchange Management (Non-Debt Instruments) Rules, 2019 (“NDI Rules“) and extant FDI Policy-2020

NDI Rules: https://taxguru.in/rbi/foreign-exchange-management-non-debt-instruments-rules-2019.html

FDI Policy: https://taxguru.in/rbi/consolidated-fdi-policy-effective-october-15-2020.html

NDI rules define the term FDI as below:

“FDI” or “Foreign Direct Investment” means investment through equity instruments by a person resident outside India in an unlisted Indian company; or in ten per cent or more of the post issue paid-up equity capital on a fully diluted basis of a listed Indian company;

Thus in the case of a listed company, foreign investment to be FDI has to be 10% or more. Foreign investment less than 10% is viewed as Foreign Portfolio Investment.

10 Key provisions:

1. Entry route:

Depending upon the business segment, this may be either an automatic route or approval route as stated in the FDI Policy.

Investments can be made by non-residents in the equity shares/fully, compulsorily and mandatorily convertible debentures/fully, compulsorily and mandatorily convertible preference shares of an Indian company, through the automatic route or the government route.

Under the automatic route, the non-resident investor or the Indian company does not require any approval from the Government of India for the investment.

Under the government route, prior approval of the Government of India is required. Proposals for foreign investment under the Government route, are considered by the respective administrative ministry/department.

Procedure for Government Approval

Foreign Investment Facilitation Portal (FIFP) is the new online single point interface of the Government of India for investors to facilitate Foreign Direct Investment.

Application for approval has to be as per Standard Operating Procedure (SOP):

https://dipp.gov.in/foreign-direct-investment/foreign-investment-promotion-board-facilitation-portal

2. Sectoral caps:

Sectoral cap basically indicates the ceiling up to which there can be foreign holding in an entity. FDI Policy lays down sectoral caps for respective segments, both under automatic and approval route of FDI.

3. Eligible investor:

Any person resident outside India except ones with beneficial ownership from Countries sharing land border with India directly or indirectly can make a foreign direct investment into India.

An entity of a country, which shares a land border with India or where the beneficial owner of investment into India is situated in or domiciled in or is a citizen of any such country – can invest only under the Government approval route.

In the event of the transfer of ownership of any existing or future FDI in an entity in India, directly or indirectly, results in the beneficial ownership falling within the restriction/purview of the above, such transfer also requires Government approval.

During April-20, given the pandemic crisis impacting economic situations in the country, Govt. amended the NDI Rules and subjected prior approval of the respective Ministry of Govt. in case of investment coming in from land border Countries either directly or indirectly.

4. Pricing guidelines:

 Issuance or Transfer of Equity instrument has to comply with pricing guidelines, which mandates the following:

  • Issuance of transfer of Equity instruments has to be at fair value or more to a Non-resident. Transfer from a non-resident to a resident has to be at fair value or less. Transfer from resident to a non-resident has to be at fair value or more.
  • Fair value needs to be certified by a CA or Cost accountant or SEBI Regd. Merchant Banker in case of unlisted company or LLP, following internationally accepted valuation method and on an arm’s length basis.
  • In the case of listed companies, pricing guidelines as laid down under SEBI Regulation needs to be complied with.
  • In case of issuance of equity instruments by an Indian company to its overseas subscriber to Memorandum of associations, separate valuation certification is not required and equity instruments can be issued at face value.

5. Equity Instruments

Equity shares: Equity shares issued following the provisions of the Companies Act, 2013 and will include partly paid equity shares issued on or after July 8, 2014.

Share warrants: Share warrants issued on or after July 8, 2014

Debentures: ‘Debentures’ means fully, compulsorily and mandatorily convertible debentures.

Preference shares: ‘Preference’ shares mean fully, compulsorily and mandatorily convertible preference shares.

6. Convertible note:

Convertible Note is an additional option available to Start-up companies to raise funding.

Key features:

    • It’s a debt instrument and gives an option to the investor to seek repayment or conversion into Equity within 5 years of investment.
    • Sectors that are under approval route of FDI, will require prior approval of the Govt, for issuing convertible notes.
    • The convertible note can be issued only by Start-ups companies registered with DPIIT, in terms of the definition given by DPITT in its notification [G.S.R. 127(E) dated 19th February 2019 issued by the DPIIT, Ministry of Commerce and Industry].
    • The amount of investment has to be Rs 25 lacs or more.
    • Reporting in form CN is required to be done within 30 days.

This being a debt instrument, valuation of a convertible note is not required at the time of issuance, rather valuation is required only upon conversion into Equity.

7. Requirement of KYC:

KYC of Remitter or investor of funds is required to come from the overseas bank to the beneficiary bank in India, giving KYC information of the remitter or investor in the format prescribed by RBI.  On receipt of KYC, the beneficiary bank is required to issue the KYC information so received, on its letterhead to the investee entity, which needs to be submitted along with FCGPR reporting to RBI on the SMF-Reporting portal.

In case of remitter entity/person being different from the investor, while KYC of both remitter and investor is required, additionally NOC is also required from remitter stating that remitter has no objection if Equity instruments are issued to a different entity (investor), along-with rationale thereof.

In case there is a nominee shareholder, then the KYC of the nominee is also required to be submitted with the RBI, even if he is not the remitter.

If the nominee is an Indian resident, then the KYC of the nominee is not required to be submitted with the RBI.

8. Right issue or Bonus Issue:

-A person resident outside India already having investment in an Indian company may invest in equity instruments (other than share warrants) issued by such company as a rights issue or a bonus issue, provided that, –

(a) the offer made by the Indian company complies with the provisions of the Companies Act, 2013;

(b) such issue shall not result in a breach of the sectoral cap applicable to the company;

(c) the shareholding based on which the rights issue or the bonus issue is held in compliance with NDI Rules / FEMA Regulations and FDI registration no. for the original/initial FDI is in place.

(d) in the case of a listed Indian company, the rights issue to a person resident outside India shall be at a price determined by the company;

(e) in the case of an unlisted Indian company, the rights issue to a person resident outside India shall not be at a price less than the price offered to persons resident in India;

9. ESOP – Shares of Indian companies:

An Indian company may issue “employees’ stock option” and/ or “sweat equity shares” to its employees or directors or employees or directors of its holding company or joint venture or wholly-owned overseas subsidiary or subsidiaries who are resident outside India subject to complying below:

(a) the scheme complies with SEBI guidelines or the Companies (Share Capital and Debentures) Rules, 2014, as the case may be;

(b) the “employee’s stock option” or “sweat equity shares” complies with sectoral cap and entry route as per extant FDI Policy.

(c) reporting is furnished in the form ESOP within 30 days of grant or exercise of ESOPs

10. Reporting Requirements

Within 30 days from the date of issue of equity instruments, a report in Form FC-GPR needs to be filed on the RBI’s FIRMS portal online, along with supporting documents like Valuation certificate, KYC, FIRC & Board resolution for issuing equity instruments to an overseas investor. Equity instruments must be issued within 60 days of receipt of the inward remittance, failing which fund should be returned by the next 15 days, thus by a maximum of 75 days of receipts, funds can be returned. There is no concept of refund in the case of LLP.

In case of Transfer of Equity instruments from Resident to Non-resident or vice versa, Form FCTRS is required to be filed to RBI within 60 days of the remittance of consideration.

RBI has issued a ‘User Manual’ covering operational instructions/guideline to be followed for the creation of access id and reporting submission. The user manual is available on the RBI website:

https://rbidocs.rbi.org.in/rdocs/FEMAMASTER/PDFs/SMF-FIRMS347E34AF5938415DAD0904E0584FB5A1.PDF

Reporting forms:

1. Entity Master Form (“EMF“) – The EMF form records details of all the foreign investment received by an Indian company on a given date. On successfully filing the EMF, the name of the Indian company is automatically included in RBI’s list of companies, that have received foreign investment. Only those companies whose names appear on this list can report details of any subsequent foreign investment received by them.

2. Foreign Currency-Gross Provisional Return (“FC-GPR“) – This form has to be filed when an Indian company issues equity instruments to a non-resident. Form FC-GPR has to be filed with the RBI, within 30 days from the date of issuance of equity instruments. Equity instruments must be issued within 60 days of receipt of inward remittance. (Form LLP (I) in case of LLP)

3. Foreign Currency-Transfer of Shares (“FC-TRS“) – This form is required to be filed to RBI, when the shares of an Indian company are transferred by a non-resident shareholder to an Indian resident or vice versa, within 60 days from the date of remittance of the consideration. (Form LLP (II) in case of LLP)

4. Form Downstream Investment (“Form DI”) – Investments made by an Indian company that is foreign-owned and controlled (“FOCC”) in another Indian company, is considered as indirect foreign investment and called ‘downstream investment’.

The Indian FOCC making such downstream investment is required to file Form DI with the RBI, within 30 days from the date on which it remits the investment amount.

5. Annual Return on Foreign Liabilities and Assets (“FLA”) – The FLA form records the foreign assets and liabilities of the Indian company, as at the end of a financial year. Every Indian company that has received foreign direct investment or has made an overseas direct investment, is required to report its foreign assets and liabilities in this Form FLA with the RBI on or before the 15th day of July of each year.

Consequence of no reporting or delayed reporting:

Non-compliance of NDI Rules read with FDI Policy and extant FEMA regulation attracts penalty provisions under FEMA and requires non-compliances to be compounded [Compounding application needs to be following the instruction given in RBI Master Direction- Compounding of contraventions under FEMA, 1999.

At times, there is a delay in filing of the reporting to RBI, beyond the timeline prescribed, which in order to ensure that only serious offenders are brought to penal action, RBI introduced the concept of Late Submission Fees (LSF) vide FEMA 20  (R) Notification dated 7th November 2017

The amount of late submission fee depends upon the period of delay and is calculated as per the slab rate provided in the regulation.

LSF was a welcomed initiative as this would result in benefits both for the reporting entity and the regulator as cases that involve non-compliance only on account of reporting delays needn’t be subjected to the Compounding procedure.

Prior to the introduction of LSF, FEMA regulations provided for compounding as the only remedy for making good the default of delayed reporting.

The late submission fee is for reporting delays only. If there is any other contravention, then the same would be proceeded against as per the procedure laid down in sections 13 and 15 of FEMA, 1999.

Defaults involving delay in reporting:

Delay in submission of form FC-GPR / FCTRS / ESOP/ CN / DI / FLA / LLP (I) and LLP II.

Defaults involving Contravention of FEMA Provisions: (Few examples)

  • Delay in allotment of shares to a person resident outside India beyond 60 days
  • Taking on record of transfer of Equity instruments from resident to non-resident or vice versa without reporting of Form FCTRS.

*****

Disclaimer: The views expressed above are personal. While the above covers a summary of key provisions, reference must be made to NDI Rules, extant FDI Policy and FEMA regulations while undertaking FDI -Foreign exchange transactions.

Author Details: CA Mukesh Dhoot, ICAI M# 400769. cell no. 9769257670, [email protected]

Author Bio

Qualification: CA in Job / Business
Company: N/A
Location: Mumbai, Maharashtra, India
Member Since: 30 Apr 2021 | Total Posts: 1

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