On June 7, 2024, the Reserve Bank of India (RBI) released a highly anticipated circular (Circular) introducing two significant amendments to the Foreign Exchange Management (Overseas Investment) Directions, 2022 (OI Directions). These changes mark a notable shift in the regulations governing investments by resident Indians in overseas funds.
Earlier restrictions to Overseas Investment
Investments in overseas funds by resident Indians is primarily governed by the Foreign Exchange Management (Overseas Investment) Rules, 2022 (OI Rules) and OI Directions, collectively referred to as the ‘OI Framework’. Prior to the Circular, the OI Framework, provided for inter alia the following vis-à-vis investment in overseas funds, aimed to ensure that Indian LPs invested in funds operating under robust regulatory frameworks, enhancing investor confidence and mitigating risks associated with overseas investments:
- Investments in unlisted equity capital of foreign entities generally qualify as Overseas Direct Investment (ODI), regardless of the investor’s level of control or the percentage of share capital acquired, unless specific exemptions apply.
- Investment (including sponsor contribution) in units or any other instrument (by whatever name called) issued by an investment fund overseas, duly regulated by the regulator for the financial sector in the host jurisdiction, shall qualify as Overseas Portfolio Investment (OPI).
- OPI in investment funds set up in IFSCs can be made by listed Indian companies, unlisted Indian companies and resident Indian individuals.
- OPI in investment funds set up in jurisdictions other than IFSCs can only be made by listed Indian companies and resident Indian individuals subject to the aforesaid condition i.e., such fund is duly regulated by the regulator for the financial sector in the host jurisdiction.
There also remained some ambiguity in the flexibility of investment i.e., investment in units of investment fund overseas vs. investment in other instrument (by whatever name called) issued by an investment fund overseas.
This framework presented considerable challenges to unlisted Indian entities, Indian limited partners (Indian LPs) etc. looking to make new investments in investment funds overseas, or attempting to meet their existing capital commitments. For instance,:
- Funds domiciled in jurisdictions like Singapore and certain parts of the United States, where regulatory oversight often centered on the manager rather than the fund entity, were no longer permissible investment avenues for unlisted Indian entities, whereas such entities could invest in units issued by a Singapore-based investment fund regulated by the Monetary Authority of Singapore (MAS). Similarly, investments in units of a fund directly regulated by the Securities and Exchange Commission (SEC) in the United States were permissible under the OI Directions.
- Many offshore funds are structured as corporations or partnerships issuing shares or interests rather than trusts issuing ‘units’, thus tugging at the aforesaid ambiguity in the flexibility of investment.
Scope and Application of the Amendment
The amendments introduced by the RBI in the Circular mark a pivotal shift in the landscape for inter alia Indian LPs seeking to invest in overseas funds.
| Paragraph | Earlier Provision | Amended Provision |
| 1 (ix) (e) | “The investment (including sponsor contribution) in units or any other instrument (by whatever name called) issued by an investment fund overseas, duly regulated by the regulator for the financial sector in the host jurisdiction, shall be treated as OPI. Accordingly, in jurisdictions other than IFSCs, listed Indian companies and resident individuals may make such investment. Whereas in IFSCs, an unlisted Indian entity also may make such OPI in units or any other instrument (by whatever name called) issued by an investment fund or vehicle, in terms of schedule V of the OI Rules subject to limits, as applicable.” | “The investment (including sponsor contribution) in units or any other instrument (by whatever name called) issued by an investment fund overseas, duly regulated by the regulator for the financial sector in the host jurisdiction, shall be treated as OPI. Accordingly, in jurisdictions other than IFSCs, listed Indian companies and resident individuals may make such investment. Whereas in IFSCs, an unlisted Indian entity also may make such OPI in units or any other instrument (by whatever name called) issued by an investment fund or vehicle, in terms of schedule V of the OI Rules subject to limits, as applicable.
Explanation: ‘investment fund overseas, duly regulated’ for the purpose of this para shall also include funds whose activities are regulated by financial sector regulator of host country or jurisdiction through a fund manager.” |
| 24 (1) | “A person resident in India, being an Indian entity or a resident individual, may make investment (including sponsor contribution) in the units of an investment fund or vehicle set up in an IFSC as OPI. Accordingly, in addition to listed Indian companies and resident individuals, unlisted Indian entities may also make such investment in IFSC.”
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“A person resident in India, being an Indian entity or a resident individual, may make investment (including sponsor contribution) in units or any other instrument (by whatever name called) issued by an investment fund or vehicle set up in an IFSC, as OPI. Accordingly, in addition to listed Indian companies and resident individuals, unlisted Indian entities also may make such investment in IFSC.” |
With these amendments, Indian LPs are now allowed to make OPI not only in units but also in any other instrument issued by overseas investment funds and the accompanying explanation specifies that funds regulated by the host jurisdiction’s financial sector regulator through their managers are also considered “investment fund overseas, duly regulated.”
Conclusion
For Indian LPs, this Circular puts to bed any ambiguity in flexibility of investment i.e., investment in funds established under various legal structures such as limited partnerships, limited liability companies, variable capital companies, and corporations, beyond the traditional unit-based investments and also facilitates participation in funds based in commercially favorable jurisdictions without the previous uncertainties regarding regulatory compliance. Moreover, the amendment aligns the treatment of LP investments into funds regulated through managers with the existing provisions for funds in the GIFT City. Under Schedule V of the OI Directions, LPs have long been permitted to invest in funds managed under the IFSCA (Fund Management) Regulations, 2022, despite the regulatory focus being on the manager rather than the fund itself.
This regulatory update not only enhances flexibility and clarity for Indian LPs but also brings the OI Directions in line with international practices, thereby promoting a more robust and globally integrated investment environment. It positions Indian LPs to capitalize on diverse investment opportunities and underscores India’s commitment to facilitating seamless participation in global financial markets.
By diversifying investment avenues, these amendments are anticipated to enhance the global presence of Indian investments and contribute to the overall growth and resilience of India’s financial sector. The RBI’s proactive approach aligns regulatory frameworks with evolving market dynamics and international standards. This will create a more dynamic and competitive investment environment for Indian LPs.