By Pranshi Gaur
The author is a student at Maharashtra National Law University, Aurangabad.
Round Tripping means a series of transactions that involve the circulation of funds across the jurisdiction culminating in its return to the jurisdiction of origin usually foreign investments. Round tripping from RBI’s perspective is a situation where one is investing in an overseas company that has an investment or holding in Indian companies.
There are usually two scenarios in this firstly, when an overseas company is already in existence and now intends to invest in an Indian company for commercial purposes, secondly, there is an overseas target under overseas direct investment regulations such target has a presence in India. Therefore, both these scenarios will be termed as round tripping.
The existence of round tripping is considered from the following parameters that include a percentage of a stake held by a foreign entity in the Indian entity, percentage of funds round tripped and control of the Indian company.
It is pertinent to mention that the regulation which governs ODI transactions in India is the Foreign Exchange Management (Transfer or Issue of any foreign security) Regulations, 2004 basically permit Indian corporate entity to invest in an overseas JV or WOS. In addition to this RBI is of stand that restriction of round tripping is always been inherent under ODI Regulations, but there is no express language in said regulation to prohibit such practice.
In the case of ODI by an Indian entity in an overseas entity having prior FDI in another Indian entity, prior approval of RBI should be sought. If in case such outbound investments are undertaken without the approval of RBI, RBI has treated same as a contravention of Regulation 6(iii) of FEMA Notification 120 by stating that an overseas entity cannot be said to be in bonafide business activity and compounded such contraventions.
Considering that the existing framework did not specifically define or deal with round tripping until 2019 when RBI released FAQ to take its stance on round tripping. This FAQ laid down a substantive piece of law and addressed the important question of round tripping. In May 2019, the FAQ clarified that Foreign JV or WOS cannot be used back into India, later FAQ No. 64 was further updated that Indian companies or resident individuals seeking exemption from the above restriction need prior approval of RBI before entering into such a transaction. Basically, this has provided a ban automatic route for ODI Investment in two ways, firstly, the Indian party is prohibited from setting up a subsidiary in India through JV or WOS and, secondly, the Indian party is prohibited from investing in JV or WOS which made a prior investment in India. As a result of this, certain bona fide transactions which may result in a situation where an Indian company eventually ends up indirectly holding a stake in another Indian company through its holding in a foreign entity as a by-product would also be under the regulator’s radar. Accordingly, an Indian entity merging with a foreign entity, which holds a certain stake in another Indian company would not be permitted and would need RBI approval. Additionally, transactions through a special purpose acquisition company (SPAC) as well would have to be cleared since they would fall under the ambit of FEMA.
RBI on August 9, 2021, notified Draft Foreign Exchange Management (Non-Debt Instruments) Overseas Investment Rule, 2021 that are yet final rules are awaited via these rules RBI seeks to liberalize the restrictions and proposes to amend the norms of round tripping. As per Regulation 6(3), any investment in a foreign entity that has a stake in India is prohibited only if it is done for the purposes of tax evasion/avoidance. Therefore, if it can be established that the transaction is being undertaken for a bona fide commercial reason, and not with the objective of obtaining any tax benefits, it will not require prior RBI approval. However, it is important that some clarity is provided on what constitutes tax avoidance/ evasion, and whether this determination would be made by the Income Tax Department, or RBI.
Therefore, the rules are still yet to come, but owing to the draft rules there will be some clarity on round tripping via RBI other than just a FAQ, but we require more clarifications on these rules in order to avoid discrepancy.
Since RBI is firm with regards to the prohibition of round tripping which can be seen from the fact that it had banned FDI from Mauritius (since the advantage of tax concession was taken by the companies) and other countries that fell under grey and black list of Financial Action Taskforce. Considering all of this it is very important that RBI comes up with these Rules and that India has the proper framework to deal with round tripping.