In the 1992-1993 Union Budget, the then Finance Minister, Manmohan Singh, had said the government would look into ways to allow reputed foreign entities to invest in the country’s capital markets.
Following this, Foreign Institutional Investors (FII) Regulations, 1995 were introduced by the Securities and Exchange Board of India (SEBI). After registering with SEBI, a foreign institution could invest in the Indian capital market as an FII. Tax incentives were provided by introducing special tax rates for this category of investors.
Foreign Portfolio Investors Regulations (FPI), 2014 replaced the FII regulations of 1995. These rules simplified and unified the entry norms for different investor categories. Under them, the FII, sub-account and Qualified Foreign Investor now fall under the broad category of FPIs. A foreign entity can register as an FPI under one of the three categories on fulfilling the eligibility criteria.
Three categories
Category I (low-risk): Government and government-related foreign investors and Sovereign Wealth Funds
Category II (moderate risk): Appropriately regulated broad-based funds, appropriately regulated persons, broad-based funds that are not appropriately regulated, university funds and pension funds
Category III (High Risk): Endowments, charitable societies, corporate bodies, trusts, family offices and individuals
The fees and Know Your Customer (KYC) requirements are different for each category of FPI. Foreign investors desiring to invest as FPIs are also required to obtain a Permanent Account Number (PAN) from the Income Tax Department.
Designated Depository Participants (‘DDP’) are assigned the responsibility to issue registration certificates and carry out allied activities on behalf of SEBI.
A single investor can have its assets managed by various fund managers and will, therefore, have to register each portfolio as a separate FPI in India. Under the earlier regulations, separate portfolios could be registered as sub-accounts under the main FII.
Where they can invest
Although FPIs are allowed to invest in the Indian capital market, investment restrictions apply. Some investment avenues available to FPIs are equity shares of listed companies, government securities, derivatives and currency futures. Securities in which FPIs are not permitted to invest are unlisted equity shares and treasury bills.
The purchase of equity shares of each company by a single FPI or an investor group should be below 10 per cent of the total issued capital of the Indian company. As per the FDI policy, all FPIs put together can invest up to 24 per cent of the capital of the company, which can further be increased after obtaining approval from the Reserve Bank of India.
FPI rules regulate offshore derivatives instruments (instruments issued overseas by a FPI against securities held on any recognised stock exchange in India); although Category III FPIs are not permitted to issue such instruments.
Special tax rates
FPIs enjoy special tax rates compared with other foreign investors. Short-term capital gains (not subject to Securities Transaction Tax) are taxable at the rate of 30 per cent and long-term capital gains (not subject to Securities Transaction Tax) are taxable at 10 per cent.
One of the tax-related issues FPIs face, is the retrospective applicability of the Minimum Alternate Tax (MAT) provision. A high-level review committee, formed by the government, stated that MAT provisions should not be applied to FPIs. This was a big relief to the FPI community.
Some key issues faced by the FPI community are with respect to offshore transfer of assets, general anti-avoidance rules and safe harbour for fund managers.
FPI investments for the current year totals ₹13,608 crore for the current calendar year as on May 17. The highest investment via the FPI route is from the US, followed by Mauritius and Singapore.
FPIs are active players in the Indian capital market and bring in good liquidity. The government is taking steps to address their concerns, not only on tax issues but also to simplify the procedures and documentation for registration.
(The writer is Associate - Tax and Regulatory Services, PwC India.)