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Purchase and Sale of Equity Instruments in India by Foreign Residents

  • Writer: tax comply
    tax comply
  • 6 days ago
  • 4 min read

India continues to be a hotspot for global investment, with foreign participation playing a pivotal role in the growth and diversification of the Indian capital market. However, this inflow of foreign capital is governed by a robust regulatory framework under the Foreign Exchange Management Act (FEMA), 1999, especially through the Foreign Exchange Management (Non-debt Instruments) Rules, 2019.

This article demystifies the legal provisions and regulatory mechanisms governing the purchase and sale of equity instruments in listed Indian companies by persons resident outside India (PROIs).

1. Purchase of Equity Instruments by a Person Resident Outside India (PROI)

A PROI can purchase equity instruments of a listed Indian company on a recognized stock exchange in India, but only under certain prescribed conditions. These are:

  • Control-Based Acquisition: The foreign investor must have already acquired control of the Indian company in accordance with the SEBI (Substantial Acquisition of Shares and Takeover) Regulations, 2011 and must continue to hold such control.

  • Payment Conditions:

    • Payment must be made through modes specified by the Reserve Bank of India (RBI), or

    • Through dividend amounts already due and credited to a special non-interest-bearing rupee account earmarked for share acquisition.

This structure ensures that foreign investment through secondary market purchases does not bypass the existing takeover and sectoral regulations.

2. Definition of Investment

Under FEMA, "Investment" includes:

  • Subscribing, acquiring, holding, or transferring any security issued by an Indian entity.

  • Holding depository receipts issued abroad backed by Indian securities.

  • In the context of LLPs, it includes capital contributions and transfers of profit shares.

This broad definition ensures that both direct and indirect modes of participation are regulated.

3. Issue of Equity Instruments by an Indian Company to PROIs

An Indian company may issue equity instruments to a PROI under the following conditions:

  • The issue must conform to entry routes (automatic or government approval) and sectoral caps.

  • In case of an automatic route, equity instruments may be issued:

    • Against a swap of equity instruments.

    • Against import of capital goods (excluding second-hand machinery).

    • Against pre-incorporation or pre-operative expenses (e.g., rent, professional fees).

If the investment falls under the government route, prior approval from the relevant ministry or department must be obtained.

4. Equity Against Funds Payable to a PROI

Indian companies may issue equity shares against legitimate dues payable to PROIs, provided:

  • Such remittances are permitted under FEMA.

  • They do not require prior approval from the RBI or the Central Government.

  • The issue must be in compliance with directions issued by RBI, including any penalties or regularizations if delays or contraventions are involved.

The RBI’s Notification No. FEMA. 395/2019-RB outlines the modes of payment and remittance norms applicable here.

Mode of Payment for Equity Acquisition

  • Payments can be made via inward remittance through normal banking channels.

  • Alternatively, they can come from a repatriable foreign currency or rupee account in accordance with FEMA (Deposit) Regulations, 2016.

  • Consideration may also include swap of shares or funds already due to the PROI.

  • Equity instruments must be issued within 60 days from the date of receipt of payment. Otherwise, refunds must be made within 15 days after the expiry of this period.

Remittance of Sale Proceeds

The net proceeds from the sale of such instruments may be:

  • Remitted abroad, or

  • Credited to the PROI’s repatriable account (foreign currency or INR).

5. Equity Against Pre-Incorporation Expenses by Wholly Owned Subsidiaries

A Wholly Owned Subsidiary (WoS) of a non-resident entity can issue equity shares to its foreign parent against pre-incorporation expenses, provided:

  • The sector allows 100% FDI under the automatic route.

  • There are no FDI-linked performance conditions applicable to the sector.

  • The value of equity issued does not exceed 5% of the WoS’s authorized capital or USD 500,000, whichever is lower.

  • The transaction must be reported to RBI within 30 days of issue and not later than 1 year from incorporation.

This provision facilitates smoother entry for foreign companies setting up business in India.

6. Investment by Swap of Shares

When equity is issued in lieu of existing shares (domestic or foreign), the following apply:

  • Valuation must be done by a SEBI-registered Merchant Banker or an equivalent investment banker registered in the foreign country.

  • For sectors under the government route, prior approval from the concerned department is necessary.

  • For automatic route sectors, no such government approval is required.

This facilitates cross-border M&A activities while ensuring valuation transparency and regulatory compliance.

Final Thoughts

India's foreign investment regime has gradually evolved to strike a fine balance between openness and regulatory prudence. By providing clearly defined entry routes, reporting requirements, and payment modalities, the regulatory framework ensures that while foreign capital is welcome, it does not come at the cost of sectoral integrity or macroeconomic stability.

For investors, understanding these nuances is essential not just for legal compliance, but also for strategic planning and risk mitigation. Indian companies seeking foreign capital must ensure diligent reporting and adherence to timelines to avoid regulatory contraventions.


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