Liberalized Rules For Overseas Investment By Indian Entities: Laying The "Round Tripping" Ghost To Rest (Or Not Just Yet)

• Published date: 08 December 2022
• Subject Matter: Finance and Banking, Corporate/Commercial Law, Government, Public Sector, Tax, Financial Services, Inward/ Foreign Investment, Corporate and Company Law, Income Tax
• Law Firm: S&R Associates
• Author: Mr Rajat Sethi and Samyak Jain

On August 22, 2022, the Ministry of Finance and Reserve Bank of India (the "RBI") introduced a new overseas investment regime comprising of Foreign Exchange Management (Overseas Investment) Rules, 2022 (the "OI Rules"), Foreign Exchange Management (Overseas Investment) Regulations, 2022 (the "OI Regulations") and Foreign Exchange Management (Overseas Investment) Directions, 2022 (the "OI Directions") (collectively, the "Revised Framework") in supersession of the Foreign Exchange Management (Transfer or Issue of Any Foreign Security) Regulations, 2004 (the "FEMA 120") and the Foreign Exchange Management (Acquisition and Transfer of Immovable Property Outside India) Regulations, 2015 (collectively, the "Old Regime").

The overhaul of the framework governing overseas investments by Indian entities includes the facilitation (subject to certain limitations) of structures that were earlier viewed unfavourably as "round tripping" under the Old Regime.

What is Round Tripping

Simply put, the term "round tripping" has been used to refer to a structure in which an Indian person invests in an offshore entity which further invests, or already has investments, in India.

Regulatory Concerns About Round Tripping

Round tripping practices have in the past been frowned upon by the RBI. The RBI was concerned that Indian companies used such practices as a means to evade taxes and/or engage in money laundering. One modus operandi was that Indian companies incorporated offshore group companies (typically in tax havens) and channelled funds to them, generally under the garb of under-invoicing of exports and/or over-invoicing of imports. This allowed Indian entities to display higher costs and lesser profits in their books, resulting in lesser payment of income tax to the government. The offshore group entities then routed back money to India in the form of foreign direct investment or foreign portfolio investment. Since investments from specified jurisdictions were entitled to certain benefits (such as exemption from capital gains tax in India) under the relevant double tax avoidance agreements (DTAA), the unaccounted money made its way back to India without the need for any payment of taxes. Further, there were also instances where the money routed back was used to manipulate stock prices of listed Indian entities.¹

Ambiguous Regulation of Round Tripping Under the Old Regime

There was no express prohibition of round tripping under the Old Regime.

In the absence of any express...