RBI Release FQAs on Foreign Investments in India and FEMA

RBI Release FQAs on Foreign Investments in India & FEMA: These FAQs attempt to put in place the common queries that users have on the subject in an easy to understand language. However, for conducting a transaction, the Foreign Exchange Management Act, 1999 (FEMA) and the Regulations made or directions issued thereunder may be referred to. The relevant principal regulations are the Foreign Exchange Management (Transfer or Issue of Security by a Person Resident outside India) Regulations, 2000 issued vide Notification No. FEMA 20/2000-RB dated May 3, 2000, as amended from time to time.

I. Foreign Investments

Q 1: How can an Indian company receive foreign investment?

Answer: The routes under which foreign investment can be made is as under:

Automatic Route: Foreign Investment is allowed under the automatic route without prior approval of the Government or the Reserve Bank of India, in all activities/ sectors as specified in the Annex B of Schedule 1 to Notification No. FEMA 20.
Government Route: Foreign investment in activities not covered under the automatic route requires prior approval of the Government which are considered by the Foreign Investment Promotion Board (FIPB), Department of Economic Affairs, Ministry of Finance. Application can be made in Form FC-IL, which can be downloaded from http://www.dipp.gov.in. Plain paper applications carrying all relevant details are also accepted. No fee is payable.

Q 2: What are the instruments for receiving foreign investment in an Indian company?

Answer: An Indian Company can receive foreign investment by issue of

Equity shares issued in accordance with the provisions of the Companies Act, 2013;
Fully and mandatorily convertible preference shares, and fully and mandatorily convertible debentures. The price/ conversion formula of convertible instruments should be determined upfront at the time of issue of the instruments and should not in any case be lower than the fair value worked out, at the time of issuance of such instruments, in accordance with FEMA 20
Partly paid equity shares and warrants issued by an Indian company in accordance with the provision of the Companies Act, 2013 and the SEBI guidelines, as applicable, The pricing and receipt of balance consideration shall be as stipulated in terms of A.P.(DIR Series) Circular No.3 dated July 14, 2014 as modified from time to time.

The above shall be known as “FDI compliant instruments” and can contain an optionality clause subject to a minimum lock-in period of one year or as prescribed for the specific sector, whichever is higher, but without any option or right to exit at an assured price.

Non-convertible/ optionally convertible/ partially convertible preference shares issued as on and up to April 30, 2007 and optionally convertible/ partially convertible debentures issued up to June 7, 2007 till their original maturity are reckoned to be FDI compliant instruments. Non-convertible/ optionally convertible/ partially convertible preference shares issued after April 30, 2007 and optionally convertible/ partially convertible debentures issued after June 7, 2007 shall be treated as debt and shall require conforming to External Commercial Borrowings guidelines regulated under Foreign Exchange Management (Borrowing and Lending in Foreign Exchange Regulations), 2000, as amended from time to time.

Q 3: Whether extension of compulsorily convertible preference shares (CCPS) or compulsorily convertible debentures (CCDs) requires RBI approval?

Answer: Tenor of convertible instruments will be guided by the instructions framed under the Companies Act, 2013 and the rules framed thereunder. However, the investee company should ensure that the price/ conversion formula of convertible capital instruments is determined upfront at the time of issue of the instruments. The price at the time of conversion should not in any case be lower than the fair value worked out, at the time of issuance of such instruments, in accordance with the extant FEMA regulations.

Q 4: What is a convertible Note?

Answer: A Convertible Note is an instrument issued by a start-up company evidencing receipt of money initially as debt, which is repayable at the option of the holder, or which is convertible into such number of equity shares of such startup company, within a period not exceeding five years from the date of issue of the convertible note, upon occurrence of specified events as per the other terms and conditions agreed to and indicated in the instrument.

Q 5: Who can invest in a convertible Note and what are the instructions in this regard?

Answer: A person resident outside India (other than an individual who is citizen of Pakistan or Bangladesh or an entity which is registered/ incorporated in Pakistan or Bangladesh), may purchase convertible notes issued by an Indian start-up company for an amount of twenty five lakh rupees or more in a single tranche. A start-up company engaged in a sector where foreign investment requires Government approval may issue convertible notes to a non-resident only with approval of the Government. The amount of consideration should be received by inward remittance through banking channels or by debit to the NRE/ FCNR (B)/ Escrow account maintained by the person concerned.

Q 6: What are the modes of payment allowed for receiving Foreign Direct Investment in an Indian company?

Answer: An Indian company issuing shares/ convertible debentures to a person resident outside India shall receive the amount of consideration by:

inward remittance through normal banking channels;
debit to NRE/ FCNR (B) account of a person concerned maintained with an AD Category I bank;
debit to non-interest bearing Escrow account in Indian Rupees in India which is opened with the approval from AD Category – I bank and is maintained with the AD Category I bank on behalf of residents and non-residents towards payment of share purchase consideration;
conversion of royalty/ lump sum/ technical know-how fee due for payment or conversion of ECB;
conversion of pre-incorporation/ pre-operative expenses incurred by the a non-resident entity up to a limit of five percent of its capital or USD 500,000 whichever is less;
conversion of import payables/ pre incorporation expenses/ can be treated as consideration for issue of shares with the approval of FIPB;
against any other funds payable to a person resident outside India, the remittance of which does not require the prior approval of the Reserve Bank or the Government of India: and
Swap of capital instruments, provided where the Indian investee company is engaged in a Government route sector, prior Government approval shall be required

If the shares or convertible debentures are not issued within 180 days from the date of receipt of the inward remittance or date of debit to NRE/ FCNR (B)/ Escrow account, the amount shall be refunded. Further, Reserve Bank may on an application made to it and for sufficient reasons permit an Indian Company to refund/ allot shares for the amount of consideration received towards issue of security if such amount is outstanding beyond the period of 180 days from the date of receipt.

Q 7: Which are the sectors where foreign investment is prohibited?

Answer: Foreign investment is prohibited in the following sectors:

Lottery Business including Government / private lottery, online lotteries, etc.
Gambling and Betting including casinos etc.
Chit funds
Nidhi company
Trading in Transferable Development Rights (TDRs)
Real Estate Business or Construction of Farm Houses
Manufacturing of Cigars, cheroots, cigarillos and cigarettes, of tobacco or of tobacco substitutes
Activities / sectors not open to private sector investment e.g. (I) Atomic energy and (II) Railway operations (other than permitted activities mentioned in entry 18 of Annex B).

Note: Foreign technology collaboration in any form including licensing for franchise, trademark, brand name, management contract is also prohibited for Lottery Business and Gambling and Betting activities.

Q 8: What are the guidelines for transfer of existing shares from non-residents to residents or residents to non-residents?

Answer: The term ‘transfer’ is defined under FEMA, 1999 as “sale, purchase, acquisition, mortgage, pledge, gift, loan or any other form of transfer of right, possession or lien” {Section 2 (ze) of FEMA, 1999}.

The following share transfers are allowed without the prior approval of the Reserve Bank of India subject to the conditions laid down in FEMA 20:

Transfer by way of sale or gift between a person resident outside India (not being a NRI or an OCB) and any person resident outside India;
Prior Government approval shall be obtained for any transfer in case the company is engaged in a sector which requires Government approval.
Transfer of shares by way of sale or gift by a NRI to any NRI;
Prior Government approval shall be obtained for any transfer in case the company is engaged in a sector which requires Government approval
Transfer by way of gift by a person resident outside India to a resident;
Transfer by way of sale on a recognized stock exchange by a person resident outside India;
Transfer by way of sale or gift by a resident to a person outside India subject to conditions prescribed in Regulation 10 of FEMA 20;

Q 9: What if the transfer of shares from resident to non-resident does not fall under the above category?

Answer: The cases have to be approved by Government of India or the Reserve Bank

(a) Transfer of Shares by Resident which requires Government approval

(1) Transfer of shares of companies engaged in sector falling under the Government Route.

(2) Transfer of shares resulting in foreign investments in the Indian company, breaching the sectoral cap applicable.

(b) Transfer of shares requiring prior permission of the Reserve Bank

(1) A person resident in India, who intends to transfer any security, by way of gift to a person resident outside India, has to obtain prior approval from the Reserve Bank.

(2) Any other case not covered by General Permission.

Q 10: What is the method of payment and remittance/ credit of sale proceeds in case of transfer of shares between resident and non-resident?

Answer:

The sale consideration in respect of the shares purchased by a person resident outside India shall be remitted to India through normal banking channels.
In case the buyer is a Foreign Institutional Investor (FII) / Foreign Portfolio Investor (FPI), payment can be made by debit to its Special Non-Resident Rupee Account.
In case the buyer is an NRI, the payment shall be remitted to India through normal banking channel or by way of debit to his NRE/FCNR (B) accounts. If the shares are acquired on non-repatriation basis by NRI, the consideration can also be paid by debit to his NRO account.
The sale proceeds of shares (net of taxes) sold by a person resident outside India) may be remitted outside India.
In case of FII/ FPI the sale proceeds may be credited to its special Non-Resident Rupee Account.
In case of NRI, if the shares sold were held on repatriation basis, the sale proceeds (net of taxes) may be credited to his NRE/ FCNR (B) accounts and if the shares sold were held on non-repatriation basis, the sale proceeds should be credited only to his NRO account subject to payment of taxes.
The sale proceeds of shares (net of taxes) sold by an erstwhile OCB may be remitted outside India directly if the shares were held on repatriation basis and if the shares sold were held on non-repatriation basis, the sale proceeds may be credited to its NRO (Current) Account subject to payment of taxes, except in the case of erstwhile OCBs whose accounts have been blocked by Reserve Bank.

Q 11: Are the investments and profits earned in India repatriable?

Answer: All foreign investments are repatriable (net of applicable taxes) except in cases where the investment is made or held on non-repatriation basis or where the sectoral condition specifically mentions non-repatriation.

Further, dividends/ profits (net of applicable taxes), on foreign investments, being current income can be remitted outside India through an Authorised Dealer bank.

Q 12: What are the guidelines on issue and valuation of shares in case of existing companies?

Answer: The pricing shall be as per the following guidelines:

(1) The price of shares issued by an Indian company or transferred from a person resident in India to a person resident outside India shall not be less than:

the price worked out in accordance with the relevant SEBI guidelines in case of a listed Indian company;
the valuation of capital instruments done as per any internationally accepted pricing methodology for valuation on an arm’s length basis duly certified by a Chartered Accountant or a SEBI registered Merchant Banker, in case of an unlisted Indian Company.

Note: in case of convertible capital instruments, the price/conversion formula of the instrument should be determined upfront at the time of issue of the instrument. The price at the time of conversion should not in any case be lower than the fair value worked out, at the time of issuance of such instruments, in accordance with the extant FEMA regulations.

(2) The price of shares transferred by a person resident outside India to a person resident in India shall not exceed:

the price worked out in accordance with the relevant SEBI guidelines in case of a listed Indian company;
the valuation of capital instruments done as per any internationally accepted pricing methodology for valuation on an arm’s length basis duly certified by a Chartered Accountant or a SEBI registered Merchant Banker, in case of an unlisted Indian Company.

Note: The guiding principle would be that the person resident outside India is not guaranteed any assured exit price at the time of making such investment/ agreement and shall exit at the price prevailing at the time of exit.

(3) In case of swap of shares, subject to the condition that irrespective of the amount, valuation involved in the swap arrangement will have to be made by a Merchant Banker registered with SEBI or an Investment Banker outside India registered with the appropriate regulatory authority in the host country.

(4) Where shares in an Indian company are issued to a person resident outside India in compliance with the provisions of the Companies Act, 2013, by way of subscription to Memorandum of Association, such investments shall be made at face value subject to entry route and sectoral caps.

These pricing guidelines shall not be applicable for investment by a person resident outside India on non-repatriation basis.

Q 13: What are the other modes of issues of shares for which general permission is available?

Answer: FDI compliant instruments, as applicable can be issued by Indian companies as follows:

ESOP
Sweat Equity
Bonus
Rights
Swap of Shares
On merger/ de-merger/ amalgamation etc of Indian companies
Against any other funds payable to a person resident outside India, the remittance of which does not require the prior approval of the Reserve Bank or the Government of India.

Q 14: Can a foreigner set up a partnership/ proprietorship concern in India?

Answer: Only NRIs are allowed to set up partnership/ proprietorship concerns in India on non-repatriation basis.

Q 15: Can a foreign investor invest in Rights shares issued by an Indian company at a discount?

Answer: There are no restrictions under FEMA for investment in Rights shares issued at a discount by an Indian company, provided the rights shares so issued are being offered at the same price to residents and non-residents. The offer on right basis to the persons resident outside India shall be:

in the case of shares of a company listed on a recognized stock exchange in India, at a price as determined by the company; and
in the case of shares of a company not listed on a recognized stock exchange in India, at a price which is not less than the price at which the offer on right basis is made to resident shareholders.

Q 16: Can an AD bank allow pledge of shares of an Indian company held by non-resident investor in favour of an Indian bank or an overseas bank or NBFC?

Answer: Yes, the same has been allowed vide the instructions and subject to compliance with the terms and conditions as mentioned in the AP (Dir. Series) Circular No 57 dated May 2, 2011 and A.P. (DIR Series) Circular No.141 dated June 6, 2014.

Q 17: Is a non-resident permitted to acquire shares on stock exchange?

Answer: The following persons can acquire FDI compliant instruments on the stock exchanges:

FPIs and FIIs registered with SEBI
NRIs
A non-resident, other than portfolio investor, is eligible to acquire shares on stock exchange through a registered broker subject to the condition that the non-resident investor has already acquired and continues to hold the control in accordance with SEBI (Substantial Acquisition of Shares and Takeover) Regulations i.e. he has complied with the minimum stake requirement under SEBI Regulations as per instructions contained in AP (DIR Series) Circular No. 38 dated September 6, 2013.

Q 18: What will be the modes of payment for non-residents permitted to acquire shares on stock exchange?

Answer: Non-Residents permitted to acquire shares under the scheme can use following modes for payment of shares:

by way of inward remittance through normal banking channels, or
by way of debit to the NRE/ FCNR account of the person concerned maintained with an authorised dealer/ bank;
by debit to non-interest bearing Escrow account (in Indian Rupees) maintained in India with the AD bank in accordance with Foreign Exchange Management (Deposit) Regulations, 2000;
the consideration amount may also be paid out of the dividend payable by Indian investee company, in which the said non-resident holds control, provided the right to receive dividend is established and the dividend amount has been credited to specially designated non-interest bearing rupee account for acquisition of shares on the floor of stock exchange.

Q 19: What are the instructions for transfer of shares against deferred payment?

Answer: In case of transfer of shares between a resident buyer and a non-resident seller or vice-versa, not more than twenty five per cent of the total consideration can be paid by the buyer on a deferred basis within a period not exceeding eighteen months from the date of the transfer agreement. The amount deferred can also be either in the form of an indemnity or an Escrow. In all cases the pricing guidelines should be complied with.

Q 20: What is the concept of downstream investment and Indirect Foreign Investment?

Answer: Downstream investment is investment by one Indian company in another Indian company. If the investor company is not owned and not controlled by resident Indian citizens or owned or controlled by persons resident outside India then such investment shall be “Indirect Foreign Investment” for the investee company.

Q 21: What will be the composition of ‘direct foreign investment’?

Answer: The concept ‘direct foreign investment’ means foreign investment received by an Indian company from a person resident outside India in terms of Schedules 1, 2, 2A, 3, 6, 8 and 10 of the Notification No. FEMA.20/2000-RB dated May 3, 2000, as amended from time to time.

Q 22: Whether an Indian company (owned and controlled by non-residents) investing in non-FDI compliant instruments issued by another Indian company will be considered as Indirect Foreign Investment for the investee company?

Answer: This investment shall not be considered as indirect foreign investment for the investee company.

Q 23: Since the instructions were issued by RBI in 2013 for the period commencing from February 13, 2009, what is the status of investment made prior to the issue of the instructions?

Answer: Downstream investment made in accordance with the guidelines in existence prior to February 13, 2009 would not require any modification to conform to these regulations. All other investments, after the said date, would come under the ambit of these regulations. Downstream investments made between February 13, 2009 and June 21, 2013 which is not in conformity with these regulations should have been intimated to the Reserve Bank by October 3, 2013 for treating such cases as compliant with these regulations.

II. Foreign Portfolio Investment

Q 24: What are the regulations regarding Portfolio Investments by registered Foreign Portfolio Investors (FPIs)?

Answer: Investment by FPI registered in accordance with SEBI guidelines including deemed RFPI [erstwhile FII) is permitted. Investment by individual FPIs should be less than 10 per cent of the paid up capital of the Indian company on a fully diluted basis. The aggregate investment by FPIs should not exceed 24 per cent of the paid up capital of an Indian Company on a fully diluted basis. The aggregate limit of 24 percent can be increased by the Indian company concerned up to the sectoral cap/ statutory ceiling, as applicable, with the approval of its Board of Directors and its General Body through a resolution and a special resolution, respectively.

Q 25: What are the regulations regarding Portfolio Investments by NRIs?

Answer: Non- Resident Indian (NRIs) can purchase or sell FDI compliant instruments of Indian companies on the Stock Exchanges under the Portfolio Investment Scheme. For this purpose, the NRI has to apply to a designated branch of a bank, which deals in Portfolio Investment. All sale/ purchase transactions are to be routed through the designated branch.

An NRI can purchase shares up to 5 per cent of the paid up capital of an Indian company on a fully diluted basis. All NRIs taken together cannot purchase more than 10 per cent of the paid up value of the company. The aggregate limit of 10 percent can be increased by the Indian company concerned up to 24 percent, with the approval of its Board of Directors and its General Body through a resolution and a special resolution, respectively.

III. Investment in other securities

Q 26: Can persons resident outside India invest in Government Securities/ Treasury bills/ corporate debt/ other securities?

Answer: Foreign Portfolio Investors (FPIs), Non-Resident Indians (NRIs), Foreign Central Banks, Multilateral Development Bank, Long term investors like Sovereign Wealth Funds (SWFs), Multilateral Agencies, Endowment Funds, Insurance Funds, Pension Funds which are registered with SEBI Long Term Investors may invest in other securities as specified in Schedule 5 to Notification No FEMA 20.

IV. Foreign Venture Capital Investment

Q 27: Where can a Foreign Venture Capital Investor (FVCI) invest?

Answer: A SEBI registered Foreign Venture Capital Investor may purchase

securities, issued by an Indian company engaged in any sector mentioned at the answer to question 28 and whose securities are not listed on a recognised stock exchange at the time of issue of the said securities;
securities issued by a start-up, irrespective of the sector in which it is engaged;
units of a Venture Capital Fund (VCF) or of a Category I Alternative Investment Fund (Cat-I AIF) or units of a scheme or of a fund set up by a VCF or by a Cat-I AIF, subject to the terms and conditions as may be laid down by the Reserve Bank.

Q 28: How can an FVCI make the investment?

Answer: An FVCI may

purchase the securities/ instruments mentioned above either from the issuer of these securities/ instruments or from any person holding these securities/ instruments;
invest in securities on a recognized stock exchange subject to the provisions of the SEBI (FVCI) Regulations, 2000, as amended from time to time;
acquire, by purchase or otherwise, from, or transfer, by sale or otherwise, to, any person resident in or outside India, any security/ instrument it is allowed to invest in, at a price that is mutually acceptable to the buyer and the seller/ issuer; and
receive the proceeds of the liquidation of VCFs or of Cat-I AIFs or of schemes/ funds set up by the VCFs or Cat-I AIFs.

Q 29: Which are sectors in which a Foreign Venture Capital Investor is allowed to invest?

Answer: An FVCI can invest in an Indian company engaged in

Biotechnology
IT related to hardware and software development
Nanotechnology
Seed research and development
Research and development of new chemical entities in pharmaceutical sector
Dairy industry
Poultry industry
Production of bio-fuels
Hotel-cum-convention centres with seating capacity of more than three thousand.
Infrastructure sector.

Q 30: How can the FVCI make payment for the investment?

Answer: The amount of consideration for all investment by an FVCI has to be made through inward remittance from abroad through banking channels or out of funds held in a foreign currency account and/ or a Special Non-Resident Rupee (SNRR) account maintained by the FVCI with an AD bank in India. The foreign currency account and SNRR account shall be used only and exclusively for transactions under the relevant Schedule.

Q 31: How can the sale/ maturity proceeds taken by the FVCI?

Answer: The sale/ maturity proceeds (net of taxes) of the securities may be remitted outside India or credited to the foreign currency account or a Special Non-resident Rupee Account of the FVCI maintained.

V. Investment in Investment Vehicle

Q 32: What is an investment vehicle?

Answer: Investment Vehicle is an entity registered and regulated under relevant regulations framed by SEBI or any other authority designated for the purpose and shall include Real Estate Investment Trusts (REITs) governed by the SEBI (REITs) Regulations, 2014, Infrastructure Investment Trusts (InvIts) governed by the SEBI (InvIts) Regulations, 2014 and Alternative Investment Funds (AIFs) governed by the SEBI (AIFs) Regulations, 2012.

Q 33: Who can invest in an investment vehicle and what is the manner of investment?

Answer:

Any person resident outside India may invest in units of Investment Vehicles subject to the conditions laid down in Schedule 11 to Notification No FEMA 20.
A person resident outside India who has acquired or purchased units of an investment vehicle may sell or transfer in any manner or redeem the units as per regulations framed by SEBI or directions issued by the Reserve Bank.
Units may be issued against swap of capital instruments of a Special Purpose Vehicle (SPV) proposed to be acquired by such Investment Vehicle.
The consideration for such investment shall be made by an inward remittance through banking channels or swap of shares of a Special Purpose Vehicle or out of funds held in NRE or FCNR (B) account maintained by the investor, if eligible to maintain the same.
The sale/ maturity proceeds (net of taxes) of the units may be remitted outside India or may be credited to the NRE or FCNR (B) account, as the case may be.

Q 34: What are the provisions with regard to Downstream investment for an investment vehicle?

Answer:

Investment made by an Investment Vehicle into an Indian company or an LLP will be indirect foreign investment for the investee company or the LLP, as the case may be, if either the Sponsor or the Manager or the Investment Manager (i) is not owned and not controlled by resident Indian citizens or (ii) is owned or controlled by persons resident outside India. The extent of investment by persons resident outside India in the corpus of the Investment Vehicle will not be a factor to determine as to whether downstream investment of the Investment Vehicle concerned is indirect foreign investment or not.
An Alternative Investment Fund Category III with foreign investment shall make portfolio investment in only those securities or instruments in which an FPI is allowed to invest under the Act, rules or regulations made thereunder.