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FDI and Unregulated Financial Services in India

Neelansh Gupta

| Updated: Mar 19, 2019 | Category: CFO Service, Financial Reporting

Unregulated Financial Services

Foreign Direct Investment (FDI) is an investment whereby a firm or individual of one country makes an investment in a business located in another country. This investment is usually made to control the ownership of the business in which the investment is being made. Foreign Direct Investment serves as a non-debt resource for economic development for the country in which investment is being made. There is also the generation of employment and advancement of technology with increased investment in the country.

In India, FDI is controlled under the Foreign Exchange and Management Act (FEMA), 1999. The FDI policy of India is quite liberal. In recent years, many initiatives have been taken by the government to relax FDI norms in various sectors including defense, telecom, oil refineries, power exchanges, and many others.

There has been a constant inflow of foreign capital in the Indian financial markets due to the favorable foreign policies and vigorous business environment.

Market size of FDI in 2018

There was a total FDI investment of US$ 33.49 billion in India between April-December 2018, as reported by the Department for Promotion of Industry and Internal Trade (DPI). This reflects the government’s constant efforts at making relaxation in FDI policies so that setting up a business in India becomes relatively easier.

In 2018, the service sector attracted the highest FDI inflow amounting to US$6.59 billion, between April-December 2018. This was followed by computer hardware and software industry- US$ 5 billion andthe telecom industry – US$ 4.39 billion.

The county making the highest contribution was Singapore- US$ 12.98 billion followed by Mauritius- US$ 6.02 billion, Netherlands – US$ 6.02 billion, Unites States of America – US$ 2.34 billion and Japan – US$2.21 billion.

Developments made in FDI in 2018

As per a trade review released by The Commonwealth, India received the highest greenfield FDI inflows in 2018.

Following are the major FDI announcements made in 2018:

  • An investment of US$ 612 million in Maharashtra was announced by Ikea in February 2018 for setting up multi-format stores and experience centers.
  • 77percent of Flipkart’s stake was acquired by Walmart for US$ 16 billion in May 2018.
  • The Department of Telecommunication approved Idea’s 100 percent FDI in June 2018.
  • Warburg Pincus bought 20 percent stake in Bharti Airtel’s DTH wing for US$ 350 million in August 2018.
  • An investment of US$ 2 million was announced by VMware (US-based leading software enterprise) in October 2018.
  • An investment of US$ 6 billion by the year 2022 is being planned by International Finance Corporation- World Bank group’s investment arm.

FDI Policy for Unregulated Financial Services

Unregulated Financial Services is one of the two categories of “Other financial services”, the other one being the regulated financial services.

Unregulated financial services are those services that do not come under the purview of any financial sector regulator or are partly under a financial regulator or where there is doubt pertaining to the financial regulator under which they fall.

In 2016, two major relaxations in FDI were given.

  • First, 100 percent FDI under the automatic route was opened for all regulated financial services.
  • Second, the minimum capitalization norms were removed.

As per the FDI policy of 2016, 100 percent investment is permitted in the unregulated financial services with prior government approval. However, the foreign direct investment in the unregulated financial services shall be subject to certain conditions. This would also include the minimum capitalization norms, which shall be as per the decision of the government.

Minimum Capital Requirements for Unregulated Financial Services

As per the press release of 16 April 2018, the minimum capital requirements for FDI in non-fund-based activities in lieu of “other financial service”, which covers the unregulated financial services, has been prescribed by the Ministry of Finance.

In this recent press release, the following issues have come to surface:

  • The definition of the “unregulated financial services” has been widened and there is scope for inclusion of those entities that have been exempted from registration under the relevant laws.

For instance, investment managers with assets less than INR 100 crores and that do not accept public funds, do not require to get registered per se and only the alternative investment funds (AIF) require registration with SEBI. With the new press release, even the IMs could come under the purview of the “unregulated financial services” and hence, be required to comply with the minimum capitalization norms.

  • Another grey area is the actual amount of minimum capital that would be required to be introduced. There is no explanation to minimum capitalization requirements under the automatic route. Prior to 2016, there was relaxation in minimum capitalization requirements. The foreign capital requirement was in proportion to the total ownership of the foreign entity in the Indian business. Proportionate capitalization has been missed out in the press release.
  • There is no explicit provision regarding the cap on the infusion of funds. This could result in over-capitalization of the organizations that are a part of the unregulated financial services.
  • LLPs have been a popular organizational set-up option since it has the advantages of tax efficacy and limited liability. Investment in an LLP can be problematic since FDI in Indian LLP is permitted for only those sectors that fall under the purview of the automatic route. Hence, no FDI can be made in LLPs that come under the unregulated financial services sector.
  • There is also doubt in regards as to whether the provisions mentioned in the press release will be applied prospectively or retrospectively.

Conclusion

It is apparent that the latest press release on FDI has bought along with-it certain doubts which needto clarify urgently by the government. Till the time, the foreign investors should make a mindful investment in any of the sectors, after making all the assessments on minimum capital requirements. Nevertheless, India still continues to be a favorable destination for foreign investment due to the growing nature of its economy and steady democratic political environment.

For any other queries on foreign direct investment, overseas direct investment, routes of foreign investment, investment caps of various sectors or any FEMA provisions, contact us at www.enterslice.com.

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Neelansh Gupta

Mr. Neelansh Gupta is a Legal Counsel having extensive in-depth knowledge of various laws. He has completed his graduation in law and has experience in IPR, Taxation and Corporate laws.

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