This article is written by Advocate Shamika Vaidya pursuing Diploma in M&A, Institutional Finance and Investment Laws (PE and VC transactions) from Lawsikho.com. Here she discusses the starting operating in India as a Foreign Company under the FDI route.
India was the 10th largest recipient of global FDI in 2017 and topmost destination for Greenfield Capital Investment according to the UNCTAD’s Investment Trends Monitor (2018).
India received $37.3 billion capital inflow in 2017-18 and remains a preferred destination for FDI (See story here). Considering the burgeoning investments through FDI, this article discusses the various routes through which a foreign entity can enter India through FDI and specifically focuses on how a foreign company commences operations in India under the FDI route.
Routes of investment
- Automatic Route
- Approval/ Government Route
- Automatic route implies sectors with liberalized regulations. Under the automatic route, foreign investors do not require any prior approval from the Reserve Bank of India and the Government of India.
- There are certain sectors that are notified by the government where the investments can be done through the automatic route.
- Petroleum and Natural Gas, Industrial Parks are few of the sectors which allow 100% foreign direct investment.
- 100% FDI was allowed in the automatic route for mining and exploration in metal and non-metal sectors. This enhanced the FDI inflow in those sectors as mining constituting paramount contributor to the economy. (See here)
- Under the approval route, a foreign investor has to acquire prior permission from the government and the concerned sectoral authorities.
- Considerations by the Foreign Investment Promotion Board (FIPB) are taken into account and Department of Economic Affairs, Department of Industrial Policy & Promotion assist the approving agencies.
- Investment up to Rs. 5000 crore are sent to the FIPB, if the investment exceeds the threshold then it is sent to Cabinet Committee on Economic Affairs.
- FDI in Pharma brownfield investment FDI is permitted and approval is needed beyond, similarly, in private sector banks, 79% of FDI is permitted out of which approval is needed beyond 49%.
In a greenfield investment, a company commits its capital in a foreign country in establishing a new manufacturing facility, sales office. Therefore the operations are commenced from scratch. This is precarious as it involves the establishment of new arrangements.
In a brownfield investment, a company commences its operations in a foreign country by means of purchasing or collaborating with entities. Therefore, it either acquires, merges or initiates a joint venture with a foreign company. Therefore, the investment is in the already build a production facility.
Entities where FDI is permitted
A foreign company can invest in India through the FDI route in the following entities;
- Incorporated Companies
- Limited liability Partnership
- One person Company and partnership firm
- FDI in small scale industries
Procedural for Approval
On 29th June 2017, The Department of Industrial Policy and Promotion released a Standard Operating Procedure for filing and processing of FDI proposals. (SOP by DIPP)
- Under the approval route, a proposal has to be filed along with requisite documents to the sectoral authority. The format of the proposal is available on the Foreign Investment Facilitation Portal (FIFP).
- Pursuant to the filing, DIPP forwards it to the Reserve Bank of India and concerned ministry department. The ministry department uploads its comments on the FIPB website.
- All the proposals are forwarded to the Ministry of External Affairs (MEA) and Department of Revenue (DoR).
- A security clearance is mandatory for investments in certain sectors like media.
- Proposals exceeding the threshold with equity inflow of INR 5000 crore are to be sent to the Cabinet Committee on Economic Affairs for their approval.
- After scrutiny of the proposal, the sectoral department either grants the approval letter or rejects the application.
- The Home Ministry has given security clearances to more than 6,200 proposals that include 134 Foreign Direct Investment plans in defense, telecom, and few more sectors. Whereas, it has disposed of more than 4,600 security clearances including 134 FDI in the government approval route. (See here)
Operations as an Indian Company
- By setting up a wholly owned subsidiary
- Joint Venture with an Indian entity/person
Operation as a foreign company
- Project Office
- Branch Office
- Liaison Offices
Reserve Bank Of India Master Regulations- Establishment of Branch Office (BO)/Liaison Office(LO)/Project Office (PO) or any other place of business in India by foreign entities expounds the procedure and regulations for setting up the above-mentioned offices.
- If a foreign country has secured a contract from an Indian company to execute a project in India then it can open a project office in India. For the same, it needs to permission from the RBI.
- The contract under which the project is sanctioned should specifically provide payment in foreign currency.
- The Project Office has to submit Annual Activity Certificate (AAC) at the end of March 31st every year to the AD Category -I bank.
Bank Accounts by the Project Office
- A project office can open two foreign currency accounts, one denominated in USD and other in the home currency, both have to be maintained by the same AD bank and can be scrutinized by the concurrent auditor of the bank.
- The permissible debits to the account shall be payment of project related expenditure and credits shall be foreign currency receipts from the Project Sanctioning Authority, and remittances from parent/group company abroad or Bilateral/Multilateral International Financing Agency.
- It is the responsibility of AD bank to ensure that only the approved debits and credits are allowed in the Foreign Currency Account and the account is subjected to 100 percent scrutiny by the Concurrent Auditor of the AD banks.
- Foreign Currency accounts have to be closed at the completion of the Project.
- Project office can open a non-interest bearing foreign currency account subject to certain conditions as mentioned in the RBI master regulations.
- Project related conditions
- The project has to funded by inward remittance from abroad.
- It has to be funded by bilateral or multilateral International Financing Agency.
- The project has to be cleared by an appropriate authority
- The term loan granted to the company awarding the contract to the project should be through a Public Institution or bank in India.
Procedure for applying LO/BO
- Section 6(6) of the Foreign Exchange of Management Act, 1999 has endowed RBI the power to regulate, prohibit, restrict the establishment of a branch office.
- The application to set up Project office/ Branch Office and Liaison Office in India are to be submitted in Form FNC (Annex B) to a designated Category-I bank.
- Due-Diligence is exercised by the Banks with regards to the antecedents of the promoter, sources of funds, compliance with KYC norms and whether the entity adheres to the eligibility criteria.
- Further, the bank forwards the application to the General Manager of the Reserve bank of India for allotment of Unique Identification Number (UIN).
- Pursuant to the UIN, the bank issues an approval letter to the entity to establish LO/BO in India.
- The approval elapses in case the office is not opened within six months pursuant to the approval.
- Branch Office is an elegant means for a company to acquire a large customer base in foreign companies. A branch office has a wider scope for business promotion and expansion than a liaison office.
- Unlike the later, the former can do more activities and earn profits giving it a purview to represent the parent company credibly before the targeted company.
- A branch office is considered to be a part of the foreign company and doesn’t have a separate entity. Section 2(42) of the Companies Act defines a foreign company as a company incorporated outside India carrying its business in India through an agent, the branch office is the agent of a foreign company and therefore comes under the scope of the definition.
- A branch office can carry out activities like export and import, carrying out research work, representing a foreign country in India and acting as buying selling agent etc.
- A Branch office is proscribed from carrying out few activities like manufacturing, retail trade activities etc.
- The non-resident entity should have a track record during the immediately preceding five years in the home country.
- The entity should have a net worth more than USD 100000 or equivalent.
- A Branch Office may approach AD- I bank to open an account in India for operations.
- Foreign Companies can set up a branch office in the Special Economic Zone (SEZ). These units are allowed in the sector where 100% FDI is permitted.
- In a recent amendment to the FEMA regulation by the RBI, few sectors like telecom, defense, and private security sectors do not require permission from RBI if they have acquired approvals from the concerned ministry and regulator. (Read more at)
- A Liaison Office is also known as a representative office is set up with the objective to explore business opportunities and understand other aspects. It can only collect information about future market opportunities and possibilities and provide information about the parent company to its prospective vendors and customers.
- A liaison office can only undertake the following activities;
- Representing the parent company in India
- Promoting Import and export to India
- Act as a communication channel between parent and Indian companies.
- A liaison office cannot
- Undertake business activities
- Cannot earn any income in India
- A profit making track record during immediately preceding three financial years in the home country.
- Net worth of the parent company should not be less than USD 50,000 or its equivalent.
- It has to obtain (PAN) Permanent Account Number from Income Tax Authorities on setting up an office.
- A foreign entity can open a liaison office in India for a period of three years if it further wants to extend the validity it has to comply with certain conditions.
Application for extension of time
A request has to be sent to the AD Bank I under whose jurisdiction the office is located. The bank can extend the period for further three years only if the office has submitted AAC for previous years and the account is operated in accordance with terms as stipulated in the approval letter.
- In, Bar Council Vs. A. Balaji & Ors, an interim order was passed by the Hon’ble Supreme Court stating RBI should not permit foreign law firms from opening its liaison office in India. Notwithstanding firms which were already granted permission prior to the date of the interim order, no fresh permissions were to be granted by till final disposal of the matter by the Hon’ble Supreme Court.
Application for additional offices and activities BO/LO
- An application has to be submitted to the AD Category -I bank in an FNC form.
- If the number of offices exceeds 4 a justification is to be given and needs prior approval from the RBI.
- One of the offices has to be identified as a nodal office which can coordinate the activities of all other offices.
- For carrying out additional activities, the activity along with the justification to the RBI through the designated bank.
The Liaison Office/ Branch Office have to submit Annual Activity Certificate (AAC) at the end of March 31st every year to the AD Category -I bank and Director General of Income Tax (International Taxation).
It is a contentious matter before tribunals and courts whether LO and PO are permanent establishments in India. A lot depends on the tax treaties, activities and compliance carried out by the offices. Recently, GST council also proposed to exempt the BO/PO/LO from GST and the notification on the same will be issued shortly. (Read here)
Companies looking forward to promoting themselves, increase customer base, carry out surveys and working on short term projects chose to enter the Indian market without incorporating.
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