Taxmann’s Guide to Foriegn Exchange Management Act, 1999

Certain Other Important Issues

Chapter VII

7.1 Immovable property outside India

7.1.1 Section 4 of FEMA prohibits a resident to acquire, hold, own, possess or transfer Immovable property situated outside India.

This is similar to section 25 of FERA. There are however two important differences.

7.1.2 Section 25 of FERA, did not place any restriction on foreign citizens who are residents of India, acquiring immovable property outside India. FEMA now restricts such persons. (In fact under FERA, for immovable properties, restrictions were based on citizenship. Whereas under FEMA, restrictions are based only on residential status). Now a foreign citizen who is resident in India, may have to take approval of RBI for buying and selling foreign properties.

7.1.3 There can be a difficulty.

Section 6(4) of FEMA permits residents in India to hold immovable property situated outside India, if it was acquired while he was a NR. Thus continuing to hold the property outside India after returning to India is permitted under FEMA.

Consider a variation. Say an NRI (foreign citizen) has become a resident of India. He buys property outside India after becoming a resident. Under FERA, he did not require approval of RBI.

Now under FEMA, under section 4, a resident cannot hold or ‘own’ property outside India (unless it was acquired while being a non-resident). Further, under section 6(4) of FEMA, exemption is not available to him, as the property was acquired while he was a resident. Such person theoretically will be deemed to commit a FEMA violation the day the act is passed, -- unless RBI comes out with a notification exempting the same.

7.2 Immovable property in India

7.2.1 Section 31 of FERA provided for control over transactions pertaining to immovable property in India. The control was based on citizenship rather than on residential status.

A citizen of India, could acquire or transfer Immovable property in India without any approval. (Residential status was immaterial). The concept of "Sons of Soil" was the guiding principle.

Under FEMA, the control will depend on residential status. If a person is a non-resident, he will require approval of RBI to do any transaction pertaining to Immovable Property in India.

7.2.2 This removal of restriction based on citizenship suggests a change in the policy of the Government. It can however cause a serious implication.

Say, a foreign citizen comes to India for employment and becomes a resident. He can buy immovable property in India. As the person is a resident & is acquiring an Indian asset, it is not a capital account transaction u/s. 2(e). As it is not a capital account transaction, no controls under FEMA can be imposed. Sections 6(1) and 6(3) also do not apply.

After acquiring the property, the person can leave India & become a NR. Under S. 6(5), such person can hold the property. No approval is required.

He can also sell it. No approval is required U/s. 6(5).

7.2.3 He can remit out of these funds, amounts for living expenses, etc. as these are current account transactions.

Thus an outright foreigner (say an Arab Sheikh) can acquire an immovable property in India as above. This can have important implications. It may be necessary for the government to clarify whether there is a change in the policy.

7.3 Capital Account transaction

7.3.1 Section 6 of FEMA imposes controls over capital account transactions. It empowers RBI to specify:

- the transactions which are permissible, and

- the amounts upto which transactions will be permitted.

The government has thought it fit to keep control over Capital Account transactions.

7.3.2 However for two types of transactions, RBI cannot impose any restrictions for drawing foreign exchange.

- one is for amortisation of loan; and

- second for depreciation of direct investments in the ordinary course of business.

7.3.3 Thus if loan instalments have to be repaid, RBI cannot impose any restrictions. Taking of a fresh loan can be regulated. However, once a loan is permitted and taken, repayments have to be allowed. This is keeping in line with the Indian principle of not defaulting on loans. Here amortisation would mean repayments which have been agreed to as per a schedule. Where, however an early repayment is to be made, RBI can impose restrictions.

7.3.4 The second condition however poses difficulties. Depreciation of direct investments is something which RBI may have to clarify.

7.4 Returning Indians

Earlier, returning Indians were permitted to own assets abroad and deal with them in almost any manner. There was no need to declare to, or take any approval from RBI.

This policy has been continued u/s. 6(4) of FEMA. If a person has acquired any Foreign currency, foreign security or immovable property outside India, while he was a NR, he can continue to hold, and transfer the same, even after he becomes a resident.

However, this section will have to be supplemented by notifications or circulars for two issues. Under FERA, such returning Indians could continue to operate foreign bank accounts, make payments from the account, purchase shares & property, etc. Under FEMA, the holding & operation of bank account, purchase of shares or property is not permitted.

Further under FERA, if they sold any foreign assets, they could hold FX or deposit the same abroad. This has not been provided for under FEMA. Thus conversions from one foreign asset into another, are not permitted.

7.5 Issue of Shares

Section 6(2) permits RBI to specify (a) any class or classes of capital account transactions which are permissible and (b) the limits upto which foreign exchange shall be admissible for such transactions. Section 6(3) stipulates that without prejudice to the generality of the provisions of sub-section (2), the Reserve Bank may, by regulations, prohibit, restrict or regulate among other things, transfer or issue of any security by a non-resident. An Indian branch of a non-resident cannot issue shares in India. These provisions do not place restrictions on Indian companies for issuing their shares to non-residents. Thus, though there are explicit provisions for transfer of security to / by non-residents, the issue of shares by Indian companies to non-residents is not covered by these specific provisions.

7.6 Business Activity.

7.6.1 Under FERA, section 29 specifically provided for restrictions on business activity within India by all non-residents, foreigners and foreign companies. The language used is:

No person shall … “carry on in India, or establish in India a branch, office or other place of business…”. Thus, carrying on business activity as well as establishment of business offices where regulated for specified categories of persons.

Under FEMA the only section controlling business activities is section 6 (6). This sub-section empowers the Reserve bank to regulate, prohibit etc. establishment in India of any branch, office etc. by a non-resident.

7.6.2 The implications are as under:

(i) A foreign citizen is not covered under the regulation. If he becomes resident then there is no restriction.

(ii) If a person does business without establishing any branch, office or other place of business in India, provisions of section 6(6) would not be attracted. In other words, any body can do business in India without establishing an office. This is possible in two manners.

(a) A person may visit India, do business and go back. Nobody can prevent him.

(b) With the internet facilities, one does not have to be physically present in India to do business in India.

7.6.3 Consider a few examples.

(a) Mr. A, a doctor practising in U.S.A., may regularly visit India. He may go to different cities in India, stay at different hotels, and do his consultancy practice.

Doing professional activities without creating any assets or liabilities does not amount to a “capital transaction”. Hence Mr. A can do his practice. He will immediately receive his fees. So no assets (book debts) will be created. After payment of hotel rent, whatever profits are left, he can remit them abroad. This would be a revenue profit, a current account transaction and hence permissible under FEMA.

(b) Mr. B having his office outside India may purchase goods in India and sell them in India. Both operations would be done through brokers. Since sales and purchase both would be completed within India on a regular basis, it would amount to doing business in India. All instructions can be given on - telephone, internet and video conferences. RBI will have no powers to prevent such business.

Advent of e-commerce will dilute powers of statutory authorities in several manners.

7.7 Export of Services :

Under FERA, export of services were not covered by Section 18. Under FEMA, export of services is also covered. Now that, services form the largest part of India’s GDP, there is no reason why services should be treated differently from goods.

However, there may be several transactions which were not intended but might have been covered.

A chartered accountant raising a bill on his foreign client may be “exporting” services. He would then be liable under Section 7 of FEMA to follow the necessary procedure.

A computer savvy collegian may work on internet and earn a few dollars on the internet. He also might be covered under Section 7(3).

To prevent harassment to people with small transactions, a reasonable limit may be provided. People having transactions under the limit may be exempted from any declaration or other procedures. Thus, for example, any person exporting services worth less than Indian Rs. 1,00,000 (or say U.S. $ 2,500) need not fulfill any procedures.

7.8 Further Liberalisation

Under FEMA, we may move forward to filing annual returns & doing away with “prior” permissions. There will be a time, hopefully very soon, when we realise that FX management is as important as corporate management, taxation etc. FEMA - current account regulations should be as important - nothing more, nothing less - as Companies Act, Income-tax Act etc. It need not be all pervasive, penetrating intrusion in normal business life.

Companies Act provides for all the guidelines according to which directors are supposed to manage the Companies. They are supposed to file annual return with the Registrar of Companies ((ROC) and submit annual audit report to the shareholders. If the directors do something wrong, the ROC can take necessary action. But directors do not have to take “prior permissions”. When they want to do something radical - like selling off company’s undertaking, they need prior permissions & this is proper.

Income-tax Act provides that we pay 30% tax. Department has vested interest in people doing business and earning more. But no one has to take a permission from Income-tax department for doing business or for entering into individual transactions. Normally, we are expected to “pay tax as we earn”. At the end of the year, file a return if our income is more than Rs. 50,000. If department finds that there is something wrong, department will take necessary action. Radical transactions involving high tax issues - like sale of immovable property valuing more than Rs. 75 lakhs need “prior clearance”.

Similarly, under FEMA most transactions can be regulated by simple guidelines. Everyone is expected to act within the guidelines. It can be provided that everyone spending or earning FX valued at more than Rs. 5,00,000 (or say U.S. $ 10,000) per year should file on annual return with the Exchange Control Department. Any other alternative method for monitoring FX transactions may also be considered. No “prior” permission may be required for all normal activities in the current account. For radical uses of FX, prior permissions may be called for. Rupee may continue to remain non-convertible for capital transactions.

This would be a great step forward liberalising the Indian people. As an experiment, it may be started with Indian residents and NRIs. Next step after experience may be for foreigners, FIIs and MNCs.

7.9 Monitoring

It is important to remember that when the Indonesian rupiah crashed in the year 1997; the Central bank had no clue as to the real size of foreign debts and foreign assets. There was no monitoring at all. We must have some monitoring. Some guidelines. But minimum controls.

7.10 Implications for Other Statutory Authorities

Earlier, several policies of the Government were exercised through exchange control. For example, employment in India was controlled U/s. 30 of FERA. That section has been dropped. Now it is for the home ministry issuing visa do take care of Government policy regarding foreigners working in India. Similarly, the issues regarding “transfer pricing” & “Controlled Foreign Companies” will have to be addressed by tax authorities.

The decade of nineties will remain historical for Independent India. Earlier, businessmen complained that with too many regulations, they found it impossible to run an honest and clean business. As a result, manipulators succeeded and technocrats failed. With the liberalisation of this decade, people will find it possible to do honest and clean business. Technocrats and geniuses will succeed and flourish in India. We are optimist that good future lies ahead for India.

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