The Reserve Bank of India (‘RBI’), vide its Circular dated May 12, 2021 (‘Circular’), permitted sponsor contribution from a sponsor Indian party in an Alternative Investment Fund (AIF) set up in an overseas jurisdiction, including International Financial Services Centres (IFSCs). This is a big boost to India’s first and only approved IFSC – Gujarat International Finance-Tec City (‘GIFT City’) located at Gandhinagar, Gujarat. GIFT City is an emerging global financial and IT services hub, supported by state-of-the-art infrastructure and conceptualised as a fin-tech hub with the intent of creating large growth and employment in Gujarat.
In India, the role of IFSC, i.e. GIFT City, is to undertake financial services transactions that are currently carried on outside India by overseas financial institutions and overseas branches/ subsidiaries of Indian financial institutions.
Being a special jurisdiction, established under the Special Economic Zones (SEZ) Act, 2005, a unit set up in IFSC is treated as a ‘person resident outside India’ (i.e. non-resident) whereas a domestic unit is treated as a ‘person resident in India’. As such, IFSC like GIFT City enjoys the benefits of a non-resident under exchange control provisions. Due to: (a) the non-resident status of GIFT City; and (b) Foreign Exchange Management (Transfer or Issue of any Foreign Security) Regulations, 2004 (“ODI Regulations”), which do not permit investment by an Indian party into an overseas firm in the financial services sector, under automatic route, Indian entities could not set-up and invest funds in GIFT City.
Now, vide the Circular, RBI has decided that any sponsor contribution from a sponsor Indian party in an AIF set up in an overseas jurisdiction, including IFSCs in India, as per the laws of the host jurisdiction, will be treated as Overseas Direct Investment. This will provide a much-needed respite on erstwhile impediments, such as the time-consuming requirement of RBI approval or potential risk of round-tripping. Permitting sponsor investment via automatic route will also be beneficial in accelerating fund set up and serve as an incentive to Indian parties.
However, it is pertinent to note that in terms of the Circular, an Indian party can set up AIF in overseas jurisdictions, including IFSCs, under the automatic route if it complies with Regulation 7 of ODI Regulations. As per Regulation 7, an Indian party may make investment in an entity outside India engaged in financial services activities if it fulfils the following conditions, i.e., the Indian party: (a) has earned net profit during the preceding 3 (three) financial years from the financial services activities, and consequently, newly formed Indian parties will be excluded from the ambit of the Circular and would ultimately require RBI approval for undertaking sponsor investments in GIFT City; (b) is registered with the regulatory authority in India for conducting the financial services activities; (c) has obtained approval from the concerned regulatory authorities both in India and abroad, for venturing into such financial sector activity; (d) has fulfilled the prudential norms relating to capital adequacy as prescribed by the concerned regulatory authority in India.
In this regard, it is useful to note that Indian party is defined in the ODI Regulations as a company incorporated in India or a body created under an Act of Parliament or a partnership firm registered under the Indian PartnershipAct, 1932, that is making investment in a joint venture or wholly owned subsidiary abroad. This excludesindividuals from the realm of the Circular.
Further, the SEBI (AIF) Regulations, 2012, require the sponsor to maintain a minimum contribution and there is no cap on the maximum contribution. However, clarity is needed as to whether the permitted sponsor investment via automatic route under the Circular is in respect of the minimum contribution or the entire contribution, which will help in ensuring better implementation of the Circular.
All in all, the Circular has brought a much-needed regulatory modification that will bring a boost to the GIFT City regime and aid to its growth, by encouraging investments and ease of doing business, and also, assist in meeting its vision of being a financial and technological gateway of India.
This article was originally published in Law Street India on 20 July 2021 Co-written by: Pankaj Agarwal, Partner; Yash Kothari, Senior Associate. Click here for original article
Contributed by: Pankaj Agarwal, Partner; Yash Kothari, Senior Associate
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