Regulatory Updates – SEBI

SEBI Press release on Process improvements to make sale proceeds available to Foreign Portfolio Investors (FPIs) on settlement day itself

Security Exchange Board of India (‘SEBI’) vide press release dated October 16,2024¹  has implemented process improvements to ensure that Foreign Portfolio Investors ( FPIs), can access their sale proceeds on the same day as the settlement, aligning their experience with that of domestic institutional investors. Previously, FPIs faced delays in receiving their funds beyond the standard 'T+1' settlement date due to the need for tax clearance on net sale proceeds, which was necessary for compliance with FEMA Regulations.

To resolve these issues, SEBI conducted consultations with various stakeholders, including FPIs, clearing corporations, custodians, and tax consultants. This collaborative approach has resulted in significant enhancements to the process, allowing FPIs to receive their sale proceeds promptly on the settlement day, thereby improving operational efficiency and addressing the concerns raised by the investors.

Modification in Annexure to Common Application Form for FPI Applicants based out of IFSC

SEBI vide circular dated October 22, 2024² , addresses modifications to the Common Application Form (CAF) for FPIs, specifically for those based in International Financial Services Centres (IFSCs) in India. Earlier vide circular dated June 27,2024 SEBI allowed for up to 100% aggregate contributions by Non-Resident Indians (NRIs), Overseas Citizens of India (OCIs), and Resident Indians (RIs) in the corpus of FPIs based of out of IFSC. This change aims to provide greater flexibility for existing and new FPIs.

The modification inserts a new option in the CAF confirming that the aggregate contributions by NRIs/OCIs/RIs may exceed 50%, ensuring that contribution of single NRI/OCI/RI remains below 25%. Additionally, the Circular mandates that the Depositories update their CAF modules to reflect these changes immediately. This initiative is part of SEBI's ongoing efforts to protect investor interests and promote the development of the securities market in India. 

SEBI’s Circular for Procedure for reclassification of FPI investment to FDI that fulfil certain objective criteria:

SEBI vide circular dated November 11,2024³  declared that in case a foreign portfolio investor (FPI) fails to divest its holdings (in excess of the prescribed threshold), within five trading days, the entire investment in the company by such FPI including its investor group shall be considered as investment under the Foreign Direct Investment (FDI), as per the procedure specified by the Board.

Procedure for reclassification of FPI investment to FDI 

• In case the investment made by a FPI (along with its investor group) reaches 10% or more of the total paid up equity capital of a company on a fully diluted basis and the FPI (along with its investor group) intends to reclassify its FPI holdings as FDI, it shall follow extant FEMA Rules and circulars issued thereunder in this regard.
•  Pursuant to receipt of such intent from the FPI, the respective custodian shall report the same to the Board and freeze purchase transactions by such FPI in equity instruments of such Indian company, till completion of the reclassification.
• On receipt of request from the FPI for transfer of the equity instruments of such Indian company from its FPI demat account to its demat account maintained for holding FDI investments, the custodian shall process the request if the reporting for reclassification, as prescribed by RBI, is complete in all respects.

SEBI Proposes simplified registration for Foreign Portfolio Investors (FPIs)

SEBI vide circular dated November 12,2024⁴  issued guidelines to facilitate ease of onboarding FPIs applicants and reduce duplication of available information as follows:

• In the case of onboarding applicants from the specified categories, they may be given the option to either complete the entire CAF or fill out an abridged version of the CAF, i.e., a version where applicants only fill in the fields that are unique to them.
• In case applicant opts for abridged version of CAF, the remaining fields shall either be auto populated from the information available in the CAF module or shall be disabled, as applicable.
• While using the available information, an explicit consent to use the same and a confirmation that all the details other than those mentioned in the abridged version of CAF remain unchanged, shall be obtained from the applicant.
• Designated Depository Participants (DDPs), upon receipt of information from the applicant, shall update the details in CAF against the application number of the applicant for future reference purposes. They shall also ensure that the CAF module hosted on the website of the Depository reflects complete information and facilitates seamless fetching of the same.
• The above is applicable to FPI applicants belonging to the following categories:
  • fund(s)operated by investing/non-investing IM, wherein such IM or any fund operated by IM is already registered as FPI;
  •  sub-fund(s)of a master fund, wherein such master fund or any sub-fund of such master fund, is already registered as FPI;
  • sub-fund(s)or separate class(es)of shares or equivalent structure(s)with segregated portfolio of a fund, wherein such fund or any of its sub-fund or separate class of shares or equivalent structure with segregated portfolio, is already registered as FPI;
  • scheme(s)of insurance companies where in the parent entity or any scheme of insurance company is already registered as FPI.

Measures to address regulatory arbitrage with respect to Offshore Derivative Instruments (ODIs) and FPIs with segregated portfolios vis-à-vis FPIs

SEBI vide circular dated December 17,2024⁵  tightened rules on issuance of offshore derivative instruments by FPIs. This follows a consultation paper in August proposing following changes:

Issuance of ODIs:

• FPIs can issue ODIs only through a separate, dedicated FPI registration that includes no proprietary investments. The suffix “ODI” will be added to such FPI names.
• FPIs are prohibited from issuing ODIs with derivatives as the underlying asset.
• FPIs cannot hedge ODI positions using derivatives on Indian stock exchanges. ODIs must be fully hedged on a one-to-one basis with securities.

Ownership Disclosure Requirements:

• FPIs issuing ODIs must collect detailed ownership information on all entities holding economic or controlling interests in ODI subscribers.
• This includes a full look-through disclosure up to the level of natural persons, with no minimum ownership threshold.
• Exceptions apply for: 
  • Government-related investors,
  • Public Retail Funds,
  • Exchange-Traded Funds (with <50% Indian exposure),
  • University funds and similar non-profits.

Specified Criteria for ODI Subscribers:

• ODI subscribers with more than 50% exposure in a single Indian corporate group or with equity positions exceeding INR 25,000 crore must comply with additional disclosure mandates.

Transition Measures:

• ODIs currently issued with derivatives as underlying assets must be redeemed within 1 year. No renewals are permitted.
• Outstanding ODIs hedged using derivatives must be fully hedged with the same securities on a one-to-one basis within the same timeline.

Compliance Timelines:

• The provisions come into effect immediately, except for specific granular reporting requirements, which will take effect after 5 months.

Regulatory Updates – RBI 

Operational framework for reclassification of Foreign Portfolio Investment to Foreign Direct Investment (FDI)

Reserve Bank of India (RBI) vide circular dated November 11,2024⁶  issued Operational framework for reclassification of Foreign Portfolio Investment to FDI as follows:

1. The facility of reclassification shall not be permitted in any sector prohibited for FDI.
2. The FPI concerned shall obtain the following approvals/concurrence before intending to acquire equity instruments beyond the prescribed limit: 
   • Ensure required government approvals, including for investments from land-bordering countries, and compliance with FDI regulations (entry route, sectoral caps, investment limits, pricing guidelines). 
   • Obtain the Indian investee company's consent for reclassifying the investment to FDI to comply with sector restrictions, caps, and necessary government approvals.
3. The FPI must clearly state its intent to reclassify existing foreign portfolio investment in a company as FDI and provide the necessary approvals to its Custodian. The Custodian will then freeze the FPI's equity purchase transactions in the company until the reclassification is complete. If the required approvals are not obtained, the FPI must divest the excess investment within  the prescribed time.
4. For reclassification, the entire investment held by such FPI shall be reported within the timelines as specified under Foreign Exchange Management.
5.  Post-reporting, the FPI shall request its Custodian to transfer equity instruments from its demat account for foreign portfolio investments to its demat account for FDI. Once reclassification reporting is complete, the custodian will unfreeze and process the transfer. The date of investment causing the breach will be considered as the reclassification date. The FPI's entire investment in the Indian company will be treated as FDI, even if it later falls below 10%. 

• RBI vide circular dated November 07, 2024⁷  designates Sovereign Green Bonds as Eligible Investments under FAR.
• For a government security to be considered under investment under FAR, RBI is required to notify the same.
• RBI has included Sovereign Green Bonds of 10-year tenor (issued by the Government in the second half of the fiscal year 2024-25) as ‘specified securities’ under the FAR.

Regulatory Updates – IFSCA

• Research Entity as new category of intermediary: Any such research entity providing research reports with respect to securities and financial products in the IFSC or any foreign jurisdiction, shall register under these regulations. 
• Key changes with respect to existing intermediaries: 
  • The distributors are presently governed by circular dated December 21, 2022. key regulatory requirement for distributors have been proposed such as the activities that can be undertaken, maintaining a minimum net worth, has been proposed. 
  • The ESG rating and data products providers are governed by way of circular dated October 30, 2024, the new regulations incorporate the requirements including the registration framework, fit and proper criteria, etc.
  • Presently, the broker dealers, interested in accessing the global markets are first required to become a trading member and then seek approval from IFSCA. The New CMI Regulations now permit 'broker dealer' interested in having its own cross-border arrangement for accessing global markets to directly obtain registration from IFSCA. Further, a subsidiary of a recognised stock exchange providing such access to global markets shall also be required to register as “broker dealer” with IFSCA. The net-worth requirement for the various intermediaries has been rationalised.
  • The principal officer shall have a minimum of one year of professional qualification/post graduate degree and shall have a minimum of 5 (five) years of experience in related activities except for the principal officer of ESG ratings and data products provides, who shall have an experience of at least 1(one) year in related activities. 
  • The principal officer and the designated compliance officer shall be based out of IFSC. 
  • The intermediary shall have adequate manpower to commensurate with its business activities in the IFSC. vii. Several other changes include alignment of definitions of “key managerial personnel”, “control”, “fit and proper” criteria with other regulations notified by the Authority.

Tax Updates

• Mumbai ITAT held⁹  that the taxpayer company, a Mauritius resident, is eligible to carry forward its brought forward (STCL) despite claiming exemption on long-term capital gains (LTCG) under the India-Mauritius DTAA.
• The taxpayer company is (SEBI registered FPI) a Mauritius resident and received income in the nature of LTCG arising from its investment in India securities acquired before 1 April 2017. 
• The LTCG was claimed exempt in India as per Article 13(4) of the India-Mauritius DTAA. 
• In the tax return, the taxpayer has also shown brought forward STCL from earlier years. 
• The tax officer contented that the taxpayer was not entitled for carry forward of brought forward losses to subsequent years on the ground that taxpayer cannot adopt a selective approach of taking either a treaty benefits or a benefit under the IT Act.
• ITAT observes that the taxpayer is eligible to choose the more beneficial provision as per section 90 of the IT Act. 
• As far as taxability of the LTCG during the year under consideration is concerned, Article 13(4) of the DTAA was more beneficial, however as regards the brought forward STCL, the taxpayer opted for domestic provisions, which were more beneficial than the DTAA provisions. 
• Therefore, the taxpayer is eligible for carry forward of STCL and is not required to adjust it against any LTCG or short-term capital gain during the year. 
•  Reliance is placed on co-ordinate bench ruling in J.P. Morgan India Pvt. Ltd., Credit Suisse (Singapore) Co. (Mauritius) wherein the theory of the segregation of capital gain for drawing DTAA to the extent more beneficial to the taxpayer was upheld. 
•  Reliance is also placed on co-ordinate bench ruling in Indium IV (Mauritius) Holding wherein it was held that income arising from the separate stream has to be treated separately and therefore, different treatment could be sought by the taxpayer for the LTCG arising in the year under consideration and STCL which has been brought forward from the earlier years.

• Delhi ITAT held¹⁰  that the right to tax under the India-UAE DTAA remains exclusive to the UAE government, irrespective of actual tax payment
•  The assessee, a resident of the UAE, received capital gains in India on the sale of mutual funds. He did not offer it to tax, relying upon Article 13(5) of India-UAE DTAA. 
• The Assessing Officer (AO) held that it was not a case of double taxation as income had not suffered tax anywhere in the world. Accordingly, he denied the assessee benefit of India-UAE DTAA. 
•  Assessee contended that actual payment of tax in UAE was not required and that right to tax of UAE was sufficient to invoke provisions of DTAA. 
• On appeal, the Commissioner of Income Tax, Appeal CIT(A) reversed the AO’s order and granted the benefit of India-UAE DTAA to the assessee. The matter reached the Delhi Tribunal.
• On appeal, Delhi (ITAT) ruled in favour of the taxpayer and held that ‘tax treaty not only prevents current but also potential double taxation. 
•  Therefore, irrespective of whether or not the UAE actually levies taxes on non- corporate entities, once the right to tax UAE residents in specified circumstances vests only with the Government of UAE, that right whether exercised or not, continues to remain exclusive right of the Government of UAE.
•  Further, ITAT stated that the taxpayer should be liable to tax based on criterion provided in the tax treaty.