1. Introduction
In recent years, Indian companies have significantly increased their overseas investments due to opportunities in high-growth foreign markets, strategic industries like oil, steel, and healthcare, and the pursuit of new technologies. The Government of India has allowed investments up to 400% of a company’s net worth under the automatic route, which has helped drive this growth.
For professionals dealing with tax and compliance, it is essential to understand the regulatory and reporting requirements for Overseas Direct Investment (ODI).This article aims to provide a structured overview of the current ODI framework under the Foreign Exchange Management (Overseas Investment) Rules, 2022 and related regulations.
2. Legal Framework Governing ODI
- RBI Authority: The Reserve Bank of India (RBI) oversees the overseas investments made by Person Resident in India (PRI). A PRI is defined in the later part of the article.
- Governing Laws:
- Foreign Exchange Management (Overseas Investment) Rules, 2022 (OI Rules) – Notified on 22nd August 2022.
- Foreign Exchange Management (Overseas Investment) Regulations, 2022 (OI Regulations).
3. Key Definitions
- Overseas Investment: This pertains to a Financial Commitment and Overseas Portfolio Investment by a PRI.
- ODI (ODI): ODI essentially means taking an ownership stake in a foreign entity by purchasing shares of an unlisted company, subscribing its Memorandum of Association (MoA), or holding 10% or more in a listed foreign entity. However, even if the shareholding is less than 10%, once control is exercised, the investment is treated as ODI.
- Overseas Portfolio Investment (OPI): OPI refers to smaller investments made outside India, which do not qualify as ODI. It is permitted only in listed shares of foreign entity. If a PRI holds below 10% in a listed foreign entity and does not participate in management or control, the investment will be treated as OPI.
- Financial Commitment (FC): FC is a broader term that captures not just equity investment but also loans, guarantees, and other non-cash facilities extended to the overseas entity. For example, this may include providing a corporate guarantee, issuing a letter of credit (LC), or a standby letter of credit (SBLC) in support of the foreign entity.
- Person Resident in India (PRI)[1]: An individual who resides in India for more than 182 days during the preceding financial year, but excludes:
(A) A person who has gone out of India or is staying out of India:
for employment, or
for running a business or profession, or
for any other reason that shows he intends to stay outside India for an uncertain period.
(B) A person who has come to or is staying in India, but not:
for employment in India, or
for running a business or profession in India, or
for any other reason that shows he intends to stay in India for an uncertain period.
4. Eligible Indian Entities for ODI
- Companies defined under Companies Act, 2013
- Body corporates
- Limited Liability Partnerships (LLPs) and partnership firms
- Resident individuals
- Registered trusts and societies
5. Modes of ODI
An Indian entity can undertake ODI by investing in the equity capital of a foreign entity through the following modes:
– Subscription to MoA of a foreign entity or purchase of listed or unlisted equity capital of a foreign entity
– Rights issue or bonus shares
– Acquisition through bidding or tender
– Capitalisation of dues
– Swap of securities
– Merger, demerger, amalgamation, or arrangement
6. Automatic Route vs. Approval Route
While most transactions fall under the Automatic Route, which does not require prior RBI approval, provided the investment is in a foreign entity engaged in bonafide business activities and not operating in strategic sectors, however, certain transactions necessitate prior approval of the RBI before making the overseas investment. Such cases are categorized under the Approval Route.
- Automatic Route: In this route no prior RBI approval is needed if investment is made in a bonafide business abroad (not in restricted/prohibited sectors).
- Approval Route: Under the Approval Route, the applicant must submit a proposal to the RBI through the Authorised Dealer (AD) bank. The AD bank must upload the proposal along with Form FC in the online OID application, generate a transaction number, and forward the proposal to the RBI in physical or electronic form (via email) quoting the transaction number.
RBI approval is required in cases such as:
- When the FC of an Indian entity exceeds USD 1 billion in a fiscal year, even if the total commitment is within the automatic route limit
- When an Indian entity invests in all foreign entities exceeding 400% of its net worth as of the last audited balance sheet
- When an investment is made in prohibited or restricted sectors, such as real estate, gambling, or financial products linked to the Indian Rupee, without prior RBI approval
- In cases of investment or FC in specified restricted countries (e.g., Pakistan) or in strategic sectors as notified by the Central Government
7. Bonafide Business Activities & Strategic Sectors
Two important terms to understand in the context of overseas investment are Bonafide Business Activity and Strategic Sectors.
- Bonafide Business Activity: Any business activity permissible under Indian law and host country or jurisdiction.
- Strategic Sectors: Theses includes energy, natural resources such as oil, gas, coal, mineral ores, submarine cable systems, and start ups and any other sector(s) as notified by the Central Government.
8. ODI in Debt vs. Debt as Financial Commitment
It is pertinent to note that ODI is permitted only in the equity instruments of a foreign entity. However, once such ODI is made by a PRI, the PRI may also extend FC to its foreign subsidiary in the form of a loan.
However, once ODI exists, FC may also include:
- Debt: An Indian entity may extend a loan to a foreign entity, subject to the execution of a loan agreement and the charging of interest on an arm’s length basis.
- Guarantees: An Indian entity can provide guarantees to third parties on behalf of the foreign entity.
It is important to note that guarantee is initially a non-funds based commitment, however when the guarantee is invoked, it becomes fund based lending like a loan, to the extent of amount invoked.
- Non-fund based commitments: These generally do not involve a direct outflow of funds. These typically include instruments such as guarantees (corporate or performance guarantees), LC, SBLC, or other similar financial commitments that do not immediately result in the transfer of funds but may create a contingent liability.
- Pledge/charge on assets or shares: India entity may pledge the equity capital of foreign entity in favour of AD bank or public financial institution in India or an overseas lender for availing find or non-fund based facilities for itself or for any foreign entity.
9. Obligations of PRI
- To obtain Unique Identification Number (UIN) in which ODI is intended to be made before sending outward remittance or acquisition of equity capital in a foreign entity, whichever is earlier
- To ensure submission of share certificates or evidence of investment within 6 months of remittance
- To report financial commitment at the time of sending outward remittance or making financial commitment whichever is earlier
- To ensure reporting of disinvestment within 30 days of receipt of the proceeds
- To ensure restructuring is reported within 30 days of its occurrence
10. Conclusion
ODI is a key enabler for Indian businesses eyeing global expansion. While introduction of Late Submission fee (LSF) for reporting delays under the Foreign Exchange Management Act, 1999 (FEMA) has brought relief for both the authorities and Indian parties, the compliance and reporting responsibilities remain stringent. Professionals must ensure proper structuring, adherence to RBI norms, and tax implications to avoid penal consequences while facilitating cross-border growth.
Citation:
[1]: Section 2(v) of the Foreign Exchange Management Act (FEMA), 1999
Author Bio
