Foreign direct investment in India

Out-Law Guide | 01 Mar 2022 | 3:14 pm | 10 min. read

The legal, administrative and compliance aspects of foreign investment in India are embedded in the Foreign Exchange Management Act 1999 (FEMA), the Foreign Direct Investment (FDI) Policy and regulations notified under FEMA by the central bank, the Reserve Bank of India (RBI) from time to time.

On 22 April 2020, the Indian government placed restrictions on investments from countries sharing a land border with India, to prevent opportunistic takeovers or acquisitions of Indian companies during the Covid-19 pandemic.

Investments from these countries now require a foreign investor, as a pre-requisite, to submit an investment proposal with the competent authority and undergo extensive scrutiny under the government approval process.

Recent trends

The government reported in August 2021 that FDI equity inflow to India had increased by 168% (12 page / 798KB PDF) in the first three months of the 2021/22 financial year, from US$6.56 billion between April and June 2020 to $17.57bn in the same period in 2021.

Singapore was the source of the highest FDI equity inflow at $3.31bn, followed by Mauritius ($3.29bn), the US ($1.95bn), the Cayman Islands ($1.32bn), the Netherlands ($1.09bn), Japan ($539 million) and the UK ($345m).

The automobile industry had a 27% share of total FDI equity inflow, followed by the computer software and hardware sector (17%) and services (11%) respectively.

India has also further liberalised FDI in the insurance and defence sectors, and the ceiling for FDI under the automatic route for both these sectors has been increased from 49% to 74%.

Liberalisation of FDI in certain sectors in India has seen FDI equity inflow increase by 168% in the last year however investments from countries sharing a land border with India are set for further scrutiny

Similarly, as part of its process of liberalisation, the government has recently permitted 100% investment in telecoms companies through its automatic route. Previously, 49% FDI was permitted in telecoms through the automatic route, with any larger FDI requiring prior government approval.

Foreign investment control rules

Under foreign exchange laws in India, investment made by a person resident outside India in capital instruments of an Indian company or the capital of a limited liability partnership (LLP) qualifies as foreign investment.

Investment through equity instruments by a person resident outside India in an unlisted Indian company, or in 10% or more of the post-issue paid-up equity capital on a fully diluted basis of a listed Indian company, qualifies as FDI. This investment can be made under the primary (subscription) route or the secondary (acquisition) route.  

The acquisition of a substantial stake or control may trigger additional legal duties under securities laws, as applicable to listed companies, and also under Indian antitrust laws.

Under the FDI policy, FDI is prohibited in:

  • the lottery sector;
  • gambling and betting;
  • Nidhi companies, which borrow and lend money between members;
  • trading in transferable development rights;   
  • real estate and the construction of farmhouses, except for the development of townships, residential or commercial premises, roads or bridges and real estate investment trusts;
  • the manufacturing of cigars, cheroots, cigarillos and cigarettes, or tobacco or of tobacco substitutes; and
  • activities or sectors not open to private sector investment such as atomic energy and railway operations

FDI in sectors which are not prohibited can be made either through the automatic route or the government route.

Under the automatic route, the non-resident investor or the Indian company does not require any approval from the government for the FDI. FDI in sectors that do not fall under the prohibited sectors or under the government route fall under the automatic route.

Under the government route, prior approval by the government is required for the FDI. Proposals for FDI under the government route are considered by the ministry or department concerned.

Different sectors are subject to varying trigger points as to when the government route is required.

Sector/activity  Sectoral cap Entry route
Defence 100%

Automatic up to 74%

Government route beyond 74% wherever it is likely to result in access to modern technology or for other reasons to be recorded

Terrestrial broadcasting FM 49% Government route
Up-linking/down-linking of news and current affairs channels 49% Government route
Print media 26% Government route
Publication of Indian editions of foreign magazines dealing with news and current affairs 26% Government route
Multi-brand retail trading 51% Government route
Pharmaceuticals (brownfield) 100%

Automatic route up to 74%

Government route beyond 74%

Banking - private sector 74%

Automatic route up to 49%

Government route beyond 49%

Banking - public sector 20% Government route
Private security agencies 74%

Automatic route up to 49%

Government route beyond 49% and up to 74%

Scheduled air transport services 100%

Automatic route up to 49% (up to 100% for non-resident Indians)

Government route beyond 49%

Since there may be additional sector-specific conditions which would be required to be complied with by an investor, it is recommended that professional legal advice is sought before any decision is taken to make FDI in India.

Foreign investment rules on the automatic route

Under the automatic route there is no requirement of any prior regulatory approval, only post facto online filing by the Indian company to the RBI through an authorised dealer bank is required.

Some of the key filings/compliances required are:

  • the issuance of capital instruments within 180 days from the receipt of foreign investment;
  • filing the prescribed reporting form within 30 days of issue of the capital instruments to foreign investors; and
  • filing an annual return on foreign liabilities and assets by the investee company

Foreign investment rules on the government route

Prior approval for the transaction under the government route is required from the competent ministry or department for that sector, through the online foreign investment facilitation portal (FIFP). Approval is granted on a case-by-case basis.

FDI in certain strategic sectors, such as defence or broadcasting, are a combination of automatic route and government route where FDI up to 49% is allowed under the automatic route and beyond 49% is permitted under the government route.

The Department for Promotion of Industry & Internal Trade (DPIIT) issued a standard operating procedure (SOP) which sets out a detailed procedure and timeline for applications as well as the list of competent authorities for processing government approvals for FDI in sectors under the government route. The expected timeline for an approval under the government route may vary depending on the sector in which the FDI is proposed.

Under the SOP, investors are required to make an application through the FIFP, supported by specified documents including charter documents, board resolutions and so on. The application is then forwarded to the concerned competent authority and the RBI, for comments from a foreign exchange law perspective within two days.

Any proposals involving FDI of more than INR 50 billion go before the Cabinet Committee of Economic Affairs.

The competent authority takes around eight to 10 weeks to process the complete proposal and convey its approval or rejection to the applicant. No specific criteria have been prescribed based on which the competent authorities grant approval under the government route, but investors lacking prior experience in the desired sector in which they propose to invest, or investors coming from non-Financial Action Task Force jurisdictions, may face stricter scrutiny.

Security clearance was previously required only for FDI proposals in certain strategic sectors such as defence and telecommunications, however recently this requirement has now been made a mandatory requisite in all applications under the government route. The draft of the security clearance form available on the FIFP mandates the investor company to provide a self-declaration regarding any presence or operations in China and Pakistan. 

Recent amendments to the FDI regime in India

The consolidated FDI policy of 2020 (111 page / 768KB PDF) was released by the DPIIT on 29 October 2020 and was made effective from 15 October 2020.

The FDI policy is a compilation of various decisions and policy pronouncements taken by the government with regard to FDI in different sectors. The DPIIT continues to issue reforms or amendments to the FDI policy through press notes.

While there has not been a drastic revamp of the foreign investment regime, there were some key changes made in the 2020 version of the policy, or issued since its publication.

In the insurance sector, FDI up to 100% is now allowed under the automatic route to intermediaries or insurance intermediaries including insurance brokers, re-insurance brokers, insurance consultants, corporate agents, third party administrator, surveyors and loss assessors and such other entities as may be notified by the Insurance Regulatory and Development Authority of India from time to time.

Previously, FDI up to 49% was allowed under the automatic route to insurance companies and insurance intermediaries, whereas insurance companies only now have a cap of 74% under the automatic route.

All telecom services including telecom infrastructure providers and access services now qualify for 100% FDI under the automatic route.

New foreign investment in the defence manufacturing sector of up to 74% now comes under the automatic route, which was previously limited to 49%. Foreign investment beyond 74% will require government approval, which may be granted where it is likely to result in access to modern technology or for other reasons to be recorded.

However, foreign investment in the defence sector is subject to scrutiny on national security grounds, and the government reserves the right to review any such investment in the defence sector that affects or may affect national security.

Legal consequences

The Directorate of Enforcement (ED) has been mandated with the task of enforcing the provisions of FEMA. The ED has been vested with wide powers including issuing summons and search and seizure powers.

The contravention of any FEMA provision, or any rule or regulation under FEMA, may incur a penalty up to three times the sum involved in the contravention where that amount is quantifiable, or up to INR 200,000 where the amount is not quantifiable. If the contravention continues, the ED can impose a further penalty which may extend to INR 5,000 for every day after the first day during which the contravention continues.

Anuj Trivedi and Sanya Haider are corporate law experts at Link Legal India Law Services