Overseas Investment by a Person Resident in India

"OVERSEAS INVESTMENT" (ODI)

Overseas Investment provides opportunities to the person resident in India to enhance the scale and scope of their business & operations globally through creations of new ventures which enables them to easier access to overseas technology, research, development and make their existence outside India to boost their brand value as well.

Legal framework of 'overseas investment' provides opportunities to persons resident in India (Indian entity, Resident Individuals and others) to create their ventures outside India in the form of wholly owned subsidiary company, step-down subsidiary company and special purpose vehicles (known as foreign entity) to make their overseas investments. Let's us understand legal framework through which a person resident in India may make an overseas investment outside India

Legal framework

The Government of India formulates rules which is administered and regulated by Reserve Bank of India under the provisions of FEM (Overseas Investment) Rules 2022, FEM (Overseas Investment) Regulations 2022 and FEM (Overseas Investment) Directions 2022. In addition to this, there are certain other regulations which are indirectly connected with the transactions undertaken by a person resident in India e.g. FEM (Realization, Repatriation and Surrender of Foreign exchange) Regulations 2015, FEM (Foreign currency accounts by a person resident in India) Regulations, 2015, FEM (Manner of Receipt and Payment) Regulations, 2016 and so on. In addition to abovesaid legal framework, resident individuals are supposed to comply the provisions laid down under the Liberalised Remittance Scheme (LRS) as well.

The abovesaid legal framework regulates all the transactions undertaken by a person resident in India in overseas direct investment, financial commitment in debt, financial commitment in guarantees, financial commitment in pledge & creation of charge, overseas portfolio investment and investment in immovable properties situated outside India, unless specifically otherwise exempted in this regard.

Key Definitions

In order to understand the legal framework of overseas investment, one needs to understand the key definitions which are as follows.

(a) The term 'Overseas Investment' is defined to mean an investment made by a person resident in India in financial Commitment and Overseas Portfolio Investment.

This definition clearly provides that investments made in the form of financial commitment and overseas portfolio investment shall be termed as Overseas Investment, hence we need to understand these two terms to understand overall definition of overseas investment as provided herein below.

(b) The term 'Financial Commitment' is used to mean an aggregate amount of investment, made by a person resident in India, by way of overseas direct investment and debt in foreign entities in which overseas direct investment is already made including extending of non-fund-based facilities, except the overseas portfolio investment.

The definition of financial commitment clearly provides that aggregate amount investment made by way of overseas direct investment and debt including non-fund-based facilities shall be termed as Financial Commitment whereas it has clearly excluded the amount of investment made by way of overseas portfolio investment. Further definition has clearly directed that investment by way of debt and non-fund-based facilities shall only be made in foreign entity when a person resident in India has already made the overseas direct investment in the foreign entity.

Hence it is clearly said that a person resident in India shall first make an overseas direct investment and then would be eligible to make financial commitment by way of debt including extending of non-fund facilities in foreign entities, accordingly they must satisfy the following conditions in this regard:

(i) the person resident in India is eligible to make ODI in foreign entity; (ii) has made ODI in foreign entity; and (iii) has acquired controls the foreign entity on or before making such financial commitment. Hence it becomes a prime condition that person resident in India must comply these conditions before making financial commitment in debt and non-fund-based facilities.

(c) The term 'Control' means:

• right to appoint majority directors; or
• right to control management; or
• right to exercise policy decisions
• by virtue of shareholding or management rights or shareholder's agreements or voting agreements entitling them to 10% or more of the voting rights or in any other manner.

by person or group of persons acting individual or in concert, directly or indirectly in foreign entity;

The above definition clearly states that any person, having any falling under any of abovesaid criteria, will be said to hold the control in a foreign entity.

(d) The term 'Overseas Direct Investment' (ODI) means investment made by a person resident in India in equity capital of a foreign entity by way of:

• acquisition of unlisted equity capital of foreign entity; or
• subscription as part of memorandum of association of foreign entity; or
• investment 10% or more of paid-up equity capital of listed foreign entity; or
• investment, with control, less than 10% or more of paid-up equity capital of listed foreign entity.

Above definition clearly states that investment in equity capital of any unlisted foreign entity shall be termed as overseas direct investment irrespective of the fact that whether person resident in India making such investment actually holds any control or not in such foreign entity.

Since holding 10% paid up equity capital is one of the criteria for defining 'control', hence a person resident in India making investment in paid-up equity capital of listed foreign entity, having control, irrespective of % of shareholding, shall be termed as overseas direct investment.

(e) The term 'Overseas Portfolio Investment' (OPI) means investment made by a person resident in India in foreign securities of a foreign entity, other than following investments made in:

• Overseas Direct Investment;
• Unlisted debt securities of foreign entity;
• Derivatives unless otherwise permitted by RBI;
• Commodities including Bullions Depository Receipts;
• Securities issued by a person resident in India except an IFSC.

Based on abovesaid clarification it is observed that investment made by a person resident in India in foreign securities of foreign entity may be termed as OPI subject to satisfaction of following conditions:

• Security must be issued by a foreign entity and;
• Investment is made in foreign entity without control and;
• Investment must be done in the securities of listed foreign entity.

(f) The term 'Indian Entity' means an entity incorporated and registered in India in the form of a Company defined under the Companies Act, 2013 or Limited Liability Partnership incorporated under the Limited Liability partnership Act, 2008 or Body corporate incorporated by any law for the time being in force and a registered partnership firm under the Indian Partnership Act, 1932.

(g) The term 'Foreign entity' means an entity formed or registered or incorporated outside India including International Financial Service Centers that has limited liability.

Permissible Limits

Indian Entity may invest in Financial Commitment including Overseas Direct Investment upto maximum limits of 400% of its Net Worth as on the date of last audited balance sheet and abovesaid limit shall include the amount raised by way of issuance of ADR, GDR, stock-swaps of such receipts and utilization of proceeds of external commercial borrowings as specified. However, the Financial Commitment exceeding USD 1 (One) billion (or its equivalent) in a financial year shall require prior approval of RBI even when the total financial commitment of Indian entity is within the eligible limits. Further Indian Entity may invest in the form of Overseas Portfolio Investment at maximum limit of 50% of its Net worth of last audited balance sheet only.

Financial Commitment, in the form of guarantee, being provided by the Indian entity or promoter of Indian entity shall be counted in the independent limits of Indian Entity whereas guarantee being extended by group company shall be counted in the independent limits of its group company only.

Resident Individual may invest maximum 2,50,000 USD in a financial year including all other current as well as capital account transactions subject to certain exceptions. Resident Individual may however, acquire shares of a foreign entity without any limits by way of gift or inheritance or employee stock option plan or employee benefits scheme or sweat equity shares subject to satisfaction of certain conditions as specified.

Indian Entity and Resident Individuals making investment in start-ups in a foreign entity shall be made only from the internal accruals or owned funds respectively.

Investment by Indian Entity

Indian Entity may make overseas direct investment by way of subscription to MoA or purchase of equity capital of listed or unlisted foreign entity or acquisition through bidding or tender procedure or acquisition of equity capital by way of rights issue or allotment of bonus shares or capitalization of any amount dues from foreign entity to Indian entity or swap of securities or mergers, demerger etc.

Indian Entity may make financial commitment by way of lending or investment in debt instruments duly backed-up by loan agreement. Further Indian entity shall not directly lend to its overseas SDS.

Indian Entity may make financial commitment by way of extending guarantee by itself or through its group company or by resident individual promoter or by bank in India.

Indian Entity may make financial commitment by way of pledge or creation of charge on the equity share capital held in foreign entity or its SDS or by way of creation of charge on the assets held by Indian entity in India or assets of foreign entity or its SDS.

Indian Entity may make overseas portfolio investment including reinvestment.

Investment by Resident Individual

Resident Individual shall make overseas direct investment in operating foreign entity only, which means the resident individual cannot make overseas direct investment in foreign entity engaged in financial services activity. Further resident individual shall not make overseas direct investment in a foreign entity which have its subsidiary or step-down subsidiary companies, where resident individual has control in foreign entity.

Hence it is understood that Resident Individual is not allowed to make overseas investment through creation of subsidiary or layer of step-down subsidiary companies i.e. indirect overseas investment by resident individual is not allowed, instead he/she is allowed to make overseas investment directly to a foreign entity engaged in a particular business activity and in case if he/she wish to invest overseas into another line of business activity or in another country then he/she wound need to incorporate an another entity to make further overseas investment having controls.

However, the conditions specified in above two paras, shall not be applicable in case of shares are acquired by resident individual by way of inheritance or sweat equity shares or minimum qualification of shares or under employee stock options plan or employee benefits scheme.

Resident Individual may invest, in the form of ODI and OPI, by way of capitalization of amount due from such foreign entity or swap of securities on account of merger, demerger, liquidation or rights issue or bonus shares or gift or inheritance or sweat equity shares or minimum qualification shares for holding a management post in foreign entity or shares under employee stock ownership plan or employee benefit scheme.

It is to be noted that investment being less than 10% of the paid-up equity capital of listed or unlisted foreign entity, without control, made by resident individual by way of inheritance or sweat equity shares or ESOPs shall be treated as OPI only.

Further, it is pertinent to note that resident individual shall not make any financial commitment by way of debt as per the direction number 21 in Part-III of FEM (Overseas Investment) Directions, 2022.

Obligations of a Person resident in India

• Person resident in India making ODI shall submit share certificates or other document evidencing such investment issued by foreign entity to AD Bank within 6 months of the date of remittance.
• Person resident in India shall obtain a Unique Identification Number for each of its foreign entity in which ODI is made.
• Person resident in India shall ensure that all remittance shall be through only one AD Bank by all the person resident in India.
• Person resident in India having ODI in foreign entity shall ensure, unless reinvested, to realize and repatriate all dues receivable from foreign entity or consideration received on account of transfer or disinvestment of ODI within 90 days of the due date of amount receivable.

Reportings Requirements by a person resident in India

• Form FC while sending outward remittance or financial commitment by person resident in India;
• Form FC within 30 days of the date of receipts of disinvestment by person resident in India;
• Form FC within 30 days of the date of restructuring by person resident in India;
• APR Return by end of 31st December of every accounting year by person resident in India;
• FLA Return by Indian Entity by 15th July of every financial year.

APR Reporting

Annual Performance Report shall be based on audited financial statements of foreign entity, however if a person resident in India (i) does not have control in foreign entity and (ii) host country or host jurisdiction does not require mandatory auditing of books of accounts of foreign entity, then where both abovesaid conditions are fulfilled, APR return may be submitted based on the unaudited financial statements of foreign entity duly certified by the statutory auditor of Indian entity or by a chartered accountant, where statutory audit is not applicable.

However, a person resident in India, having ODI, neither hold the control in foreign entity nor made any financial commitment other than equity, shall not be required to file APR return.

In a practical scenario, it is observed that in majority of cases where a person resident in India, making overseas direct investment in foreign entities, hold control in foreign entities, hence it may be seen in many cases that financial statements of foreign entities would be required to be audited in order to file Annual Performance Report of each foreign entity. It is well stated in the rules & regulations that unaudited financial statements shall be subject to the certification by the statutory auditor of Indian Entity or chartered accountant, however it is not clarified that whether statutory auditor of Indian entity can audit the financial statements of foreign entity in case of APR filing is based on the audited financial statements. In general parlance it is seen that person qualified to be an auditor of the host country eligible to audit the accounts of foreign country however what about those host countries where the law is silent. A much-needed clarity is needed in this respect.

Round-tripping investment

In erstwhile oversease investment's legal framework it was not allowed, under automatic route, to make round-tripping investment i.e. Indian entity making overseas direct investment in foreign entity which in turn directly or through its step-down subsidiary, making investment in India. However, as per rule 19(3) of FEM (Overseas Investment) Rules, 2022 allows a person resident in India may, except resident individual, under automatic approval, to make such investment up to maximum two layers of subsidiaries.

There is a question arises as to whether Indian entity or foreign entity be termed as parent company for the purpose of limiting maximum two layer of subsidiaries companies. However, when we interpretate text of the provisions of rule 19(3), it appears that restriction is imposed on 'a person resident in India' to ensure that financial commitment, if made, in foreign entity which in turn make investment in India, directly or indirectly, not to go beyond two layer of subsidiaries and hence based on this interpretation, person resident in Indian appears to be treated as parent company for the purpose of this compliances, however clarity is needed for better understanding of the subject.

Late Submission Fees

In case a person resident in India does not submit share certificate or does not make requisite reportings within the specified time period, may submit or report the same within a period of three years from the due date of such submission or reporting along with the payment of late submission fees. Further future transactions shall be restricted unless the delay in reportings are regularized.

No Objection Certificate

Any person resident in India having an account of Non-Performing Assets (NPA) or classified as willful defaulter or under an investigation by a financial regulator or agency shall obtain NOC from respective authority before making any financial commitment or undertaking disinvestment.

Certificate required from statutory auditor / Chartered Accountant

• Certificate from statutory auditor or chartered accountant would be required in case the person resident in India making overseas Direct Investment in start-ups to ensure that investment is not made out of the funds borrowed from others.
• Certificate from statutory auditor or chartered accountant is required at the time of filing of Annual Performance Report based on the unaudited financial statements and so on.

Acquisition of Immovable property

An Indian Company having an overseas office may acquire an immovable property outside India for business purpose or for residential purpose of its staff. Further a person in India may acquire an immovable property on a lease not exceeding five years without any approval.

A person resident in India may acquire an immovable property situated outside India from a person resident in India by way of a gift or inheritance.

A person resident in India may acquire an immovable property situated outside India from a person resident outside India by way of:

• by way of inheritance;
• by way of purchase out of the foreign exchange held in RFC Account;
• by way of purchase out of remittance sent under the LRS Scheme;
• out of income or sale proceeds of the assets, except ODI, acquired overseas earlier.

Disclaimer: This article is published in the best interest of the professional & corporate fraternity and an endeavor is made to update and spread the awareness of the provisions of laws only. The articles contain solely the view point of author to his best understanding on the subject and no part of it can neither be taken as an opinion and nor be used as a piece of evidence at all.

The author is a Corporate Lawyer, a qualified company secretary and law graduate, practicing in corporate and regulatory matters since more than a decade and associated with a consultancy firm known as JSK Bizcon LLP, a corporate consultancy firm. He can also be reached at csvivarthdosar@gmail.com, compliance@jskbizcon.com