Aayush Ambasht*, Param Kailash** and Sudiksha Moorthi***
INTRODUCTION AND BACKGROUND
With the ideation of the Gujarat International Finance Tec-City (“GIFT City”) project in 2007, the dream signalled a shift in corporate legislative intent, underlying a forefront initiative to create a global financial hub. The gateway for global financial services in the Indian economy witnessed over eighty (80) fund managers setting up shop, committed to over $30 billion and investments exceeding $2.93 billion over the course of the last three (3) years. This development is poised to facilitate international trade and investment, particularly through its International Financial Services Centre (“IFSC”), which allows for tax incentives and simplified regulations as part of its broader economic strategy. However, key players in the landscape sought regulatory clarity regarding overseas investments, and the consequent alignment of such clarity with the goal of creating an IFSC was crucial.
On June 7, 2024, the Reserve Bank of India (“RBI”), by way of a Circular, amended (the “Amendment”) the Foreign Exchange Management (Overseas Investment) Directions, 2022 (“FEM Directions”).
Through this Amendment, the apex financial regulator seeks to widen the net for foreign investments made by Category-1 Authorised Dealer (“AD”) banks, boosting the thrust for IFSCA’s GIFT City corridor. Authorised Dealer Category-1 (“AD-1”) banks play a pivotal role in this investment mobilisation process by facilitating Overseas Direct Investment (“ODI”) and Overseas Portfolio Investment (“OPI”) transactions. As entities authorised by the RBI, AD-1 banks provide essential services such as currency exchange, remittance processing, and compliance with foreign exchange regulations. By offering tailored financial products and services, AD-1 banks enhance the operational efficiency of businesses within GIFT City, thereby contributing significantly to the overall success of this ambitious initiative to position India as a leading global financial hub.
This article seeks to delve into the intricacies of these changes and elaborate upon the specific infusion of flexibility provided to both resident Indians and overseas funds for foreign investment opportunities. It shall highlight key takeaways from the Circular, its effects on the ease of doing business in India, navigate cross-jurisdictional lessons and discern concluding remarks on the matter at hand.
MEANING OF OVERSEAS PORTFOLIO INVESTMENT
According to the FEM Directions, OPI means investment other than ODI in foreign securities. In this regard, the term ODI has been defined to expressly include, inter alia, investment in ten percent (10%) or more of the paid-up equity capital of a listed foreign entity or investment with control where investment is less than ten percent (10%) of the paid-up equity capital of a listed foreign entity.
It is to be further noted that:
a) OPIs shall not include derivatives (unless prescribed by RBI), unlisted debt instruments, any security issued by a person resident in India who is not in an IFSC, or any commodities, including bullion depository receipts.
b) OPIs made by resident Indians in a listed entity, even after its delisting, shall continue to be treated as OPIs until any further investment is made in the entity.
c) OPIs may be made by unlisted entities as well as by way of reinvestments provided under Schedule II of the FEM Directions.
d) OPIs shall include any investment made overseas in accordance with Schedule IV of the OI Rules in securities as stipulated and registered by the Securities and Exchange Board of India in the form of mutual funds, venture capital funds and alternative investment funds.
e) OPIs must be made within the overall limit for the liberalised remittance scheme in terms of Schedule III of the FEM Directions.
BRIEF OVERVIEW OF THE AMENDMENT
Pursuant to this Amendment coming into force, key changes from the same are as follows:
a) Investments (including sponsor contributions) in the form of units or any other instrument “by whatever name called” issued by an overseas fund, which is “duly regulated” by the financial regulator in the host jurisdiction, will be treated as an OPI. The same shall be made by way of investment funds or vehicles, subject to restrictions imposed thereunder by Schedule V of the FEM Directions. This will apply to resident Indians (including individuals and both listed and unlisted entities).
b) Investments (including sponsor contributions) in the form of units or any other instrument “by whatever name called”issued by an overseas fund which is set up in an IFSC are permitted to be made by resident Indians (including individuals and both listed and unlisted entities). This shall constitute treatment as OPI.
In summary, the Amendment provides for a wider range for Indian residents to invest in instruments issued by overseas funds, with increased flexibility in fund structure as well. Residents shall not be limited towards investment solely through units, wherein any instrument can qualify as long as the host country's financial regulator regulates the same.
RATIONALE BEHIND THE AMENDMENT
By virtue of this Amendment, the RBI cushions overseas portfolio investments to be modelled across a broader formulation of instruments, not limited to units or any other prescribed form of securities in any particular jurisdiction. Therefore, such a liberalised regime ensures diversified market participation as well as greater flexibility for leveraging foreign exchange routes, underscoring global accessibility to the IFSC’s GIFT City for resident Indians (including individuals and both listed and unlisted entities).
ANALYSIS AND IMPLICATIONS
While the erstwhile directions governing the definitive compliance considerations of overseas investments left some unaddressed concerns for AD banks, the new regime clears the air on pertinent nuances.
Firstly, the regime clarifies what constitutes "duly regulated” investments (including sponsor contributions), which shall also include “funds whose activities are regulated by financial sector regulator of the host country or jurisdiction through a fund manager.” Based on the sentiment set by this explanation, flexibility from the purview of - jurisdiction, nature of financial instruments/units (inserting - “by whatever name called”), and end-user fund structures have been provided to fund managers. Secondly, since the extant directions that curbed overseas investments in “any foreign entity/its subsidiaries engaged in banking or insurance” have been waived, the larger impetus to diversify control within transactional arrangements (regardless of any sectoral restriction) has been granted. Thirdly, this Amendment signals an overall alignment with modalities for portfolio management services charted out in the IFSCA (Fund Management) Regulations, 2022, resulting in uniformity of financial regulation.
Be that as it may, navigating unaddressed complexities with this consolidation mechanism is deemed urgent. In light of the same, a litmus test for disclosures, security creation, and tax treatment must be devised for transactions involving obligations pertaining to changes in control, share swaps, and/or acquisitions of foreign entities. Further, outlining a stringent code of conduct for fund managers is critical for ensuring corporate governance, transparency, and risk management. Additionally, addressing the investment computation conundrum by way of Exchange Earners’ Foreign Currency Accounts (as maintained by AD banks) must be made by the regulator from a monetary settlement and book-keeping perspective. Also, prescribing requisite ticket sizes vis-à-vis corpus limits for making such overseas investments shall help harmonise ease of doing business and valuation floodgates that may likely arise.
While accounting for the specific impact that the Amendment funnels into foreign investment landscapes, the change proves to be satisfactory and permits harmonious integration into foreign jurisdictions and their respective regulatory compliances. In lieu of the need for global alignment, it must be noted that the Amendment permits investment onto variable capital company funds set up in states enforcing Clear-Tax Systems such as Delaware, and in other cases, Double Tax Avoidance Agreements (“DTAA”), as witnessed in the case of India’s DTAA with Singapore. Lessons from such notable global regulatory frameworks may be structurally incorporated in the Indian scenario, which shall help leverage business interlinkages and overall tax management.
In brief, the shift signifies concurrence with foreign jurisdictions by expanding the scope of the form of investments used, underlying an increased reliance upon fund managers to impose ethical financial conduct and regulatory compliance. The FEM Directions highlight its key rationale of remaining aligned with the essence of a liberal regulatory environment and developing ease in the execution of business activities, naturally ensuring integration with global jurisdictions and overseas portfolio expansion opportunities in the GIFT City.
CONCLUDING REMARKS
With the current shift in dynamics for tailoring foreign portfolio investments, RBI’s approach in this regard is undoubtedly forthcoming from the ends of strategic investment allocation at a global scale. However, the aforementioned Amendment's sanctity awaits market response regarding navigating ambiguities in private equity injection or forecasting its potential upside returns. Given India’s changing regulatory environment alongside overseas investment interest for IFSCA’s GIFT City opportunity, this move furnishes a bright way forward for consolidating international investment discipline with Indian money markets.
(*) Aayush Ambasht is a Penultimate year law student at Symbiosis Law School, Pune. He is keenly interested in understanding the intricacies associated with Projects and Finance. He can be contacted via email at aayushambasht@outlook.com for any discussion related to the article.
(**) Param Kailash is a Penultimate year law student at Symbiosis Law School, Pune. He has a keen interest in reading, researching and writing on recent developments related to the area of Investment Laws and Mergers and Acquisitions. He can be contacted via email at parambkailash@outlook.com for any discussion related to the article.
(***) Sudiksha Moorthi is a Penultimate year law student at Symbiosis Law School, Pune. She has a keen interest in researching and construing various aspects of International Criminal Law while delving into Indian corporate developments. She can be contacted via email at sudikshamoorthi@gmail.com for any discussion related to the article.
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