All About ODI and its Compliance for Investments in Foreign Companies

All About ODI and its Compliance for Investments in Foreign Companies . In August, 2022, the Ministry of Finance and the Reserve Bank of India notified the new overseas investment regime, and notified the Overseas Investment Rules, 2022 as well as the Overseas Investment Regulations, 2022. In this post, Compliance Calendar brings to you the highlights of rules of making Overseas Direct Investment in foreign entities and the associated compliance for investors in India. 
Overseas Direct Investment - Position until 2022 
The two regulating agencies in India for foreign investments are the Reserve Bank of India and the Ministry of Finance. The Foreign Exchange Management Act, 1999 is the primary legislation dealing with laws relating to foreign exchange, transfers and transactions involving cross-border currency exchange. 
Until 2022, the direct investments by residents in Joint Venture (JV) and Wholly Owned Subsidiary (WOS) abroad were being allowed, by way of section 6(3)(a) of FEMA Act. This was done in accordance with the Reserve Bank of India’s FEM (Transfer or Issue of any Foreign Security) Regulations, 2004. 
New liberalised norms for overseas investment in foreign entities 
The new rules passed in 2022 on Overseas Investment have certain investor friendly provisions. For instance, the term joint venture and wholly owned subsidiary have been replaced with the term foreign entity. Under the new rules, foreign entity is defined as an entity formed or registered or incorporated outside India. This is relevant because LLPs in several jurisdictions like the US are registered and not incorporated, and thus, the clarified definition irons out interpretative challenges with the old notification. The rules have also introduced a 10% voting rights test, to determine whether an overseas entity would be regarded as a  subsidiary or a step-down subsidiary. The new rules have also made a clear distinction between Overseas Direct Investment and Overseas Portfolio Investment. 
Meaning of Overseas Direct Investment 
Under the new rules, ODI can mean one of the following ways of investing outside India :

Investment by way of acquisition of unlisted equity capital of a foreign entity.

Subscription as part of the Memorandum of association of foreign entity

Investment in 10% or more of the paid up equity capital of a listed foreign entity

Investment with control where investment is less than 10% of the paid of equity capital of a listed foreign entity.

Acquisition through bidding or tender

Rights issue or bonus shares

Capitalisation of any realisation within a time period

Swap of securities

Merger, demerger, amalgamation, or any scheme

Definition of control - control refers to the right to appoint majority of the directors or control management or policy decisions exercisable by a person or rights or shareholders agreements or voting agreements that entitle the controller to have 10% or more of voting rights or in any other manner in the entity. 
Definition of foreign entity - Foreign entity refers to an entity formed or registered or incorporated outside India. It is important to note that it also includes International Financial Services Centre that have limited liability. The rules have added a new exemption, stating that the restriction of limited liability does not apply to an entity with core activities in a strategic sector. 
Overseas Portfolio Investment 
Overseas portfolio investment means an investment in foreign securities, other than by way of direct investment, but not in unlisted, debt instruments or a security issued by a person resident in India, who is not in an IFSC.
FEMA rules prohibit round tripping and investment in more than two layers of subsidiaries 
The new rule states that no person in India shall make a financial commitment in a foreign entity that invests in India, either directly or indirectly, resulting in a structure with more than two layers of subsidiaries. 
Pricing Guidelines for ODI - Arm’s-length pricing under FEMA 
The issue or transfer of equity capital of a foreign entity from a person resident outside India or from a person resident in India to a resident outside India shall be subject to a price arrived on an arm’s-length basis. The compliance has to be insured by the Authorised Dealer (AD) bank while taking into consideration, valuations arrived at using any internationally accepted pricing methodology for valuation.
Details of the RBI note on Pricing Guidelines 
The RBI under the FEM (Overseas Investment) Directions, 2022 provides following pricing guidelines to be followed for Overseas Direct Investment: 
AD Bank’s own policy on valuation

The rules specify that the AD bank, before facilitating an overseas investment related transaction, shall ensure compliance with the provisions contained in rule 16 of OI Rules. The AD banks shall operate as per their own board approved policy, and take into consideration the valuation as per any internationally accepted pricing methodology for valuation.

The AD bank must put in place a board approved policy within two months from the date of these directions.

The AD bank may provide for circumstances where the valuation may not be required, such as

(i) transfer on account of merger, amalgamation or demerger or liquidation, where the price has been approved by the competent Court/Tribunal as per the laws in India and/or the host jurisdiction or
 (ii) price is readily available on a recognised stock exchange, etc.

The policy shall also clearly provide for additional documents such as the audited financial statements of the foreign entity, etc. that may be taken by the AD banks for ascertaining bona-fides in cases involving write-off of the investment.

Limits on Financial Commitment permissible by an Indian entity
The Overseas Investment Rules, 2022 specify that the total financial commitment of the Indian entity in all foreign entities cannot exceed 400% of its worth as on the last audited balance sheet. This is aligned with Section 2(57) of the Companies Act and also includes security premium account, thus increasing the calculable limit for the Indian investing entity.

For this purpose, capitalisation of retained earnings is not included in calculation of the limit.

Net worth of the holding company as well as subsidiaries are not permitted to be used for computing worth.

Modes of Payments Allowable by the RBI for overseas investment 
An investor making overseas direct investment can use one or a combination of the following recognised ways of making overseas investment -

By remittance made through banking channels;

From funds held in an account maintained in accordance with the provisions of the Act;

By swap of securities;

By using the proceeds of American Depository Receipts or Global Depositary Receipts or stock-swap of such receipts or external commercial borrowings raised in accordance with the provisions of the Act and the rules and regulations made thereunder for making ODI or financial commitment by way of debt by an Indian entity.

Foreign Currency Account - An Indian entity may open, hold and maintain a Foreign Currency Account abroad for the purpose of making ODI. It is also to be noted that in case a branch of the Indian entity exists abroad, the remittance of funds can be done only for the normal business operations, and not for the purpose of using the branch for overseas investment.
Non-equity financial commitments by an Indian entity 
An Indian entity may lend or invest in any debt instrument issued by a foreign entity or extend the non-fund based commitment or on behalf of a foreign entity. However, this is subject to the following conditions:

The Indian entity must be eligible to make overseas direct investment and must have made such investment in the foreign entity.

The Indian entity should have acquired control in the foreign entity at the time of making this non-equity financial commitment.

Lending or investing in debt instruments is subject to the condition that the loans have a duly backed loan agreement where the rate of interest is charged on the basis of arm’s-length pricing.

If the financial commitment is by way of a guarantee, pledge, charge, it has to be subject to the guidelines in overseas investment regulations issued by the RBI.

Sectoral Restrictions on ODI 
The RBI has placed restrictions on persons residence in India for making an investment by the way of ODI in the following sectors

Where foreign entities engaged in real estate activity - this is defined as buying and selling of real estate and trading and transferable development rights. However, this does not include development of townships, construction of residential and commercial premises, roads, and bridges for selling or leasing.

Gambling in any form

Dealing with financial products linked to the Indian rupee, without specific approval of the RBI.

Restrictions on ODI in start-ups - Utilisation of internal funds only 
The new rules do not prohibit investment in startups by way of ODI. However, as per Rule 19 of the FEM (Overseas Investment) Rules, 2022, an investment in the startup recognised under the laws of the host country can only be made by an Indian entity from its internal accruals. This can be accruals from the Indian entity or the group or associated companies in India. In the case of individuals, this must be from the own funds of the individual.
Any ODI in startups in accordance with rule 19(2) of OI Rules shall not be made out of funds borrowed from others. Thus, the AD bank, before facilitating the transaction, shall obtain necessary certificates in this regard from the statutory auditors/chartered accountant of the Indian entity/investor. 
Remittance allowable for pre-incorporation expenses 
An Authorised Dealer Bank may allow remittance up to USD 100,000 per foreign entity. This can be capitalised or be recognised as receivables or accounted as expenses in the books of account of the company.
Compliance requirements for investors resident in India

Share certificates within six months - The investor in India is required to submit a share certificate, certificates, or relevant documents as evidence of investment within six months from the date of remittance.

Unique Identification Number - The UIN acts as a unique identifier of the Indian entity, making the investment and is a mandatory requirement by RBI to track transactions and their due verification. The investor is required to obtain a unique identification number before sending outward remittance or acquisition of equity capital, whichever is earlier. The transactions relating to UIN have to be routed through a designated authorised dealer.

Repatriation within 90 days - The investor shall realise and repatriate within 90 days, all dues receivable with respect to investment in such a foreign entity, consideration received on transfer or disinvestment or the realisable value of assets in case of liquidation.

Reporting Requirements for Overseas Direct Investment
An investor who has made overseas direct investment needs to report these by way of compliance through the specified forms.
No-Objection Certificate 
In order to prove that the individual investor or the Indian investing entity is not a defaulter with any bank, a no objection certificate from an AD bank is required.
Form FC 
Form FC has to be filed at the time of sending outward remittance or making a financial commitment, whichever is earlier. It is also required in case of disinvestment or restructuring must be done within 30 days of receipt of such disinvestment proceeds or the restructuring.
Form APR

An Annual Performance Report has to be filed every year for every foreign entity in which investment has been made.

Every investor resident in India is required to submit form APR by the end of 31st December of every year.

However, in case less than 10% of equity is held and without control, and there is no other financial commitment other than equity, this form can be dispensed with.

Audited financial statements are required to be filed, however, in case the host country’s laws do not make audited statements mandatory, unaudited financial statements may be acceptable.

In case the overseas direct investment is by one or more persons resident in India, the person holding the highest stake may file this form. In case of joint holdings and holdings being equal, a joint APR may be filed.

Details of setting up, acquisition, winding up, alteration shareholding pattern of the foreign entity are required to be reported in this form.

An Indian entity which has made an ODI shall also submit an Annual Return on Foreign Liabilities and Assets within such time as may be decided by the Reserve Bank from time to time, to the Department of Statistics and Information Management, Reserve Bank of India.

Form FLA 
An Indian entity making overseas direct investment is required to submit form FLA before 15 July of every year. 
Delay in Reporting 
Submission of forms after the last date can be done subject to a payment of late submission fees. However, this facility of late payment can only be availed within a period of three years from the due date of submission.
In case of delay pertaining to a period before August 2022 when the rules were notified, the submissions can be made for a period of three years, that is, until August 22, 2025. 
In case of a pending delay in existing reporting, the investor is barred from making further financial commitments towards the foreign entity or transfer such investment, until the delay in reporting is regularised.  
Tax Collected at Source (TCS) for ODI 
From October 1, 2023, a 20% tax collected at source is applicable for any remittance exceeding INR 7 lacs in a financial year. All overseas investments up to this limit are exempt from TCS. 
Financial planning for overseas direct investment can help investors not just save money but also reduce the risk of non-compliance at a later stage. Consult with our qualified tax professionals and chartered accountants at Compliance Calendar to get specific advice on the suitability, FEMA and tax implications and filing processes for overseas direct investments for your business.

In August, 2022, the Ministry of Finance and the Reserve Bank of India notified the new overseas investment regime, and notified the Overseas Investment Rules, 2022 as well as the Overseas Investment Regulations, 2022. In this post, Compliance Calendar brings to you the highlights of rules of making Overseas Direct Investment in foreign entities and the associated compliance for investors in India.

Overseas Direct Investment - Position until 2022

The two regulating agencies in India for foreign investments are the Reserve Bank of India and the Ministry of Finance. The Foreign Exchange Management Act, 1999 is the primary legislation dealing with laws relating to foreign exchange, transfers and transactions involving cross-border currency exchange.

Until 2022, the direct investments by residents in Joint Venture (JV) and Wholly Owned Subsidiary (WOS) abroad were being allowed, by way of section 6(3)(a) of FEMA Act. This was done in accordance with the Reserve Bank of India’s FEM (Transfer or Issue of any Foreign Security) Regulations, 2004.

New liberalised norms for overseas investment in foreign entities

The new rules passed in 2022 on Overseas Investment have certain investor friendly provisions. For instance, the term joint venture and wholly owned subsidiary have been replaced with the term foreign entity. Under the new rules, foreign entity is defined as an entity formed or registered or incorporated outside India. This is relevant because LLPs in several jurisdictions like the US are registered and not incorporated, and thus, the clarified definition irons out interpretative challenges with the old notification. The rules have also introduced a 10% voting rights test, to determine whether an overseas entity would be regarded as a subsidiary or a step-down subsidiary. The new rules have also made a clear distinction between Overseas Direct Investment and Overseas Portfolio Investment.

Meaning of Overseas Direct Investment

Under the new rules, ODI can mean one of the following ways of investing outside India :

Investment by way of acquisition of unlisted equity capital of a foreign entity.
Subscription as part of the Memorandum of association of foreign entity
Investment in 10% or more of the paid up equity capital of a listed foreign entity
Investment with control where investment is less than 10% of the paid of equity capital of a listed foreign entity.
Acquisition through bidding or tender
Rights issue or bonus shares
Capitalisation of any realisation within a time period
Swap of securities
Merger, demerger, amalgamation, or any scheme

Definition of control - control refers to the right to appoint majority of the directors or control management or policy decisions exercisable by a person or rights or shareholders agreements or voting agreements that entitle the controller to have 10% or more of voting rights or in any other manner in the entity.

Definition of foreign entity - Foreign entity refers to an entity formed or registered or incorporated outside India. It is important to note that it also includes International Financial Services Centre that have limited liability. The rules have added a new exemption, stating that the restriction of limited liability does not apply to an entity with core activities in a strategic sector.

Overseas Portfolio Investment

Overseas portfolio investment means an investment in foreign securities, other than by way of direct investment, but not in unlisted, debt instruments or a security issued by a person resident in India, who is not in an IFSC.

FEMA rules prohibit round tripping and investment in more than two layers of subsidiaries

The new rule states that no person in India shall make a financial commitment in a foreign entity that invests in India, either directly or indirectly, resulting in a structure with more than two layers of subsidiaries.

Pricing Guidelines for ODI - Arm’s-length pricing under FEMA

The issue or transfer of equity capital of a foreign entity from a person resident outside India or from a person resident in India to a resident outside India shall be subject to a price arrived on an arm’s-length basis. The compliance has to be insured by the Authorised Dealer (AD) bank while taking into consideration, valuations arrived at using any internationally accepted pricing methodology for valuation.

Details of the RBI note on Pricing Guidelines

The RBI under the FEM (Overseas Investment) Directions, 2022 provides following pricing guidelines to be followed for Overseas Direct Investment:

AD Bank’s own policy on valuation

The rules specify that the AD bank, before facilitating an overseas investment related transaction, shall ensure compliance with the provisions contained in rule 16 of OI Rules. The AD banks shall operate as per their own board approved policy, and take into consideration the valuation as per any internationally accepted pricing methodology for valuation.
The AD bank must put in place a board approved policy within two months from the date of these directions.
The AD bank may provide for circumstances where the valuation may not be required, such as

(i) transfer on account of merger, amalgamation or demerger or liquidation, where the price has been approved by the competent Court/Tribunal as per the laws in India and/or the host jurisdiction or

(ii) price is readily available on a recognised stock exchange, etc.

The policy shall also clearly provide for additional documents such as the audited financial statements of the foreign entity, etc. that may be taken by the AD banks for ascertaining bona-fides in cases involving write-off of the investment.

Limits on Financial Commitment permissible by an Indian entity

The Overseas Investment Rules, 2022 specify that the total financial commitment of the Indian entity in all foreign entities cannot exceed 400% of its worth as on the last audited balance sheet. This is aligned with Section 2(57) of the Companies Act and also includes security premium account, thus increasing the calculable limit for the Indian investing entity.

For this purpose, capitalisation of retained earnings is not included in calculation of the limit.
Net worth of the holding company as well as subsidiaries are not permitted to be used for computing worth.

Modes of Payments Allowable by the RBI for overseas investment

An investor making overseas direct investment can use one or a combination of the following recognised ways of making overseas investment -

By remittance made through banking channels;
From funds held in an account maintained in accordance with the provisions of the Act;
By swap of securities;
By using the proceeds of American Depository Receipts or Global Depositary Receipts or stock-swap of such receipts or external commercial borrowings raised in accordance with the provisions of the Act and the rules and regulations made thereunder for making ODI or financial commitment by way of debt by an Indian entity.

Foreign Currency Account - An Indian entity may open, hold and maintain a Foreign Currency Account abroad for the purpose of making ODI. It is also to be noted that in case a branch of the Indian entity exists abroad, the remittance of funds can be done only for the normal business operations, and not for the purpose of using the branch for overseas investment.

Non-equity financial commitments by an Indian entity

An Indian entity may lend or invest in any debt instrument issued by a foreign entity or extend the non-fund based commitment or on behalf of a foreign entity. However, this is subject to the following conditions:

The Indian entity must be eligible to make overseas direct investment and must have made such investment in the foreign entity.
The Indian entity should have acquired control in the foreign entity at the time of making this non-equity financial commitment.
Lending or investing in debt instruments is subject to the condition that the loans have a duly backed loan agreement where the rate of interest is charged on the basis of arm’s-length pricing.
If the financial commitment is by way of a guarantee, pledge, charge, it has to be subject to the guidelines in overseas investment regulations issued by the RBI.

Sectoral Restrictions on ODI

The RBI has placed restrictions on persons residence in India for making an investment by the way of ODI in the following sectors

Where foreign entities engaged in real estate activity - this is defined as buying and selling of real estate and trading and transferable development rights. However, this does not include development of townships, construction of residential and commercial premises, roads, and bridges for selling or leasing.
Gambling in any form
Dealing with financial products linked to the Indian rupee, without specific approval of the RBI.

Restrictions on ODI in start-ups - Utilisation of internal funds only

The new rules do not prohibit investment in startups by way of ODI. However, as per Rule 19 of the FEM (Overseas Investment) Rules, 2022, an investment in the startup recognised under the laws of the host country can only be made by an Indian entity from its internal accruals. This can be accruals from the Indian entity or the group or associated companies in India. In the case of individuals, this must be from the own funds of the individual.

Any ODI in startups in accordance with rule 19(2) of OI Rules shall not be made out of funds borrowed from others. Thus, the AD bank, before facilitating the transaction, shall obtain necessary certificates in this regard from the statutory auditors/chartered accountant of the Indian entity/investor.

Remittance allowable for pre-incorporation expenses

An Authorised Dealer Bank may allow remittance up to USD 100,000 per foreign entity. This can be capitalised or be recognised as receivables or accounted as expenses in the books of account of the company.

Compliance requirements for investors resident in India

Share certificates within six months - The investor in India is required to submit a share certificate, certificates, or relevant documents as evidence of investment within six months from the date of remittance.

Unique Identification Number - The UIN acts as a unique identifier of the Indian entity, making the investment and is a mandatory requirement by RBI to track transactions and their due verification. The investor is required to obtain a unique identification number before sending outward remittance or acquisition of equity capital, whichever is earlier. The transactions relating to UIN have to be routed through a designated authorised dealer.
Repatriation within 90 days - The investor shall realise and repatriate within 90 days, all dues receivable with respect to investment in such a foreign entity, consideration received on transfer or disinvestment or the realisable value of assets in case of liquidation.

Reporting Requirements for Overseas Direct Investment

An investor who has made overseas direct investment needs to report these by way of compliance through the specified forms.

No-Objection Certificate

In order to prove that the individual investor or the Indian investing entity is not a defaulter with any bank, a no objection certificate from an AD bank is required.

Form FC

Form FC has to be filed at the time of sending outward remittance or making a financial commitment, whichever is earlier. It is also required in case of disinvestment or restructuring must be done within 30 days of receipt of such disinvestment proceeds or the restructuring.

Form APR

An Annual Performance Report has to be filed every year for every foreign entity in which investment has been made.
Every investor resident in India is required to submit form APR by the end of 31st December of every year.
However, in case less than 10% of equity is held and without control, and there is no other financial commitment other than equity, this form can be dispensed with.
Audited financial statements are required to be filed, however, in case the host country’s laws do not make audited statements mandatory, unaudited financial statements may be acceptable.
In case the overseas direct investment is by one or more persons resident in India, the person holding the highest stake may file this form. In case of joint holdings and holdings being equal, a joint APR may be filed.
Details of setting up, acquisition, winding up, alteration shareholding pattern of the foreign entity are required to be reported in this form.
An Indian entity which has made an ODI shall also submit an Annual Return on Foreign Liabilities and Assets within such time as may be decided by the Reserve Bank from time to time, to the Department of Statistics and Information Management, Reserve Bank of India.

Form FLA

An Indian entity making overseas direct investment is required to submit form FLA before 15 July of every year.

Delay in Reporting

Submission of forms after the last date can be done subject to a payment of late submission fees. However, this facility of late payment can only be availed within a period of three years from the due date of submission.

In case of delay pertaining to a period before August 2022 when the rules were notified, the submissions can be made for a period of three years, that is, until August 22, 2025.

In case of a pending delay in existing reporting, the investor is barred from making further financial commitments towards the foreign entity or transfer such investment, until the delay in reporting is regularised.

Tax Collected at Source (TCS) for ODI

From October 1, 2023, a 20% tax collected at source is applicable for any remittance exceeding INR 7 lacs in a financial year. All overseas investments up to this limit are exempt from TCS.

Financial planning for overseas direct investment can help investors not just save money but also reduce the risk of non-compliance at a later stage. Consult with our qualified tax professionals and chartered accountants at Compliance Calendar to get specific advice on the suitability, FEMA and tax implications and filing processes for overseas direct investments for your business.