The prevailing foreign direct investment (FDI) policy is encapsulated in the consolidated FDI policy circular of August 2017. Up until 2016, FDI in non-banking financial companies (NBFC) was permitted under the automatic route in only 18 identified sub-sectors, and was subject to minimum capitalization norms. In October 2016, the FDI policy was amended on the basis of bifurcation of “Other financial services" sector into “regulated" and “unregulated" financial services. Regulated financial services being those which are regulated by a financial services regulator viz. Reserve Bank of India (RBI), Securities and Exchange Board of India (Sebi), Insurance Regulatory and Development Authority (Irda), Pension Fund Regulatory and Development Authority (PFRDA), etc. Unregulated financial services, on the other hand, sought to cover all those services which are not regulated by any financial sector regulator or where only part of the activity is regulated or where there is doubt regarding regulatory oversight.

With respect to regulated financial services, two key relaxations were introduced; first, opening up of all regulated financial services for FDI up to 100% under the automatic route; and second, removal of minimum capitalization norms.

With respect to unregulated financial services, the extant policy prescribes that 100% FDI is permitted with prior government approval. The policy also mentioned that FDI in such unregulated financial services will be subject to conditions including minimum capitalization norms as may be decided by the government.

Now vide a press release dated 16 April, the ministry of finance (MoF) has prescribed minimum capital requirements of $20 million for FDI in fund-based activities and $2 million for FDI in non-fund based activities (in context of FDI in “other financial services" activities which are unregulated or partially regulated by any financial sector regulator).

While the press release seems rather simple, a reading of the fine print throws up many questions.

First, the press release provides an explanatory note clarifying the meaning of activities not regulated by any financial sector regulator. It provides that activities not regulated shall include those entities which are not registered with the concerned sector regulator and/or the entity/activity is exempt under the concerned sector regulations. This widens the definition of unregulated activities and could cover even those entities which have been granted exemption from registration under the concerned governing laws, for instance, investment managers (IMs) and core investment companies (CICs) which are not systemically important viz. with asset size less than Rs100 crore (approx. $15 million) and which do not accept public funds. In accordance with the extant regulations governing alternate investment funds (AIF), IMs by themselves are not per se registered with Sebi. It is only the AIF that is actually registered with the regulator. Hence, such IMs could qualify under the unregulated non-fund based activities, hence covered under the ambit of the proposed minimum capitalization norms. Similar issue would be faced by the asset management companies (AMCs) and CICs as well (CICs that are not systemically important are exempt from RBI’s registration requirements).

The definition therefore seems to dilute the effect of the exemption granted to such entities under the relevant laws.

The next area of concern is on the quantum of the minimum capitalization proposed to be introduced. In the pre-2016 era when financial services were under the automatic approval route with similar minimum capitalization requirements, there were two key relaxations which have not found place in the press release. The first is with respect to the proportionate foreign capital requirement, i.e., to say that in cases where foreign capital represents less than 100% of the ownership of the entity, the minimum capitalization was also relaxed. This missing link is likely to pose a challenge for those groups which are looking to set up joint ventures with foreign players. Even a minority FDI stake, of say 20%, in an entity entailing a minimum capital inflow of $20/2 million (for fund-based/ non-fund-based) seems onerous given the developing nature of the Indian financial services sector. Furthermore, in the absence of explicit provisions regarding phased infusion of funds, the interpretation emerges that the entire infusion will need to be made upfront. This coupled with proposed capitalization norms would lead to a possible over-capitalization of entities in the unregulated financial services sector.

A third challenge likely to be faced by such entities is on setting up as a limited liability partnership (LLP). LLPs as an entity option have been popular given their dual character of limited liability, separate legal entity status and tax efficiency. Consequently, many prominent players in the Indian financial services market have set up their IMs or AMCs as LLPs. However, FDI in an Indian LLP is permissible only in sectors falling under the automatic route and not subject to any FDI-linked performance conditions. Since FDI in unregulated financial services is not under the automatic route, it follows that LLPs cannot be set up with foreign investment to undertake activities such as those of an IM/AMC.

Another key question which merits consideration is with respect to the retrospective nature of the MoF’s press release. While the capitalization norms would apply prospectively, the definition of unregulated financial activities seems to have been introduced as a clarification which throws up grey areas on implications for existing entities.

As is evident, this recent policy announcement has opened up a Pandora’s Box of issues which require clarity on an urgent basis. One can hope that these issues shall be suitably addressed in the formal notification which is likely to be issued by the DIPP and also for the RBI to give legislative effect to the MoF’s press release. In the meantime, the investor community in Singapore and rest of the world should be mindful of these evolving policy developments in India while planning their new ventures and also in terms of assessing impact on existing ventures. India continues to be a favourable investment destination in terms of future GDP growth and stable democracy, however, a word of caution vis-à-vis policy risks and the devil in details should also be taken note of.


What is the difference between a regulated and licensed activity under the financial service sector? Would an IM of an AIF qualify as a regulated entity even though the entity is not licensed by Sebi?

From a technical reading of the MoF press release, unregulated entities are likely to include an entity which is not registered with the regulator and/or the entity/activity is exempt under the concerned regulations. Hence, while IMs are regulated, since they do not require registration with Sebi, it appears that they could also be treated as unregulated financial services entity as per the press release. It is expected that regulators such as Sebi/others would issue a requisite clarification on this to specify that IMs should be treated as regulated entities to address the concerns of investment community.

Are there any other sectors which are subject to similar minimum capitalization norms in India? If yes, how different are their provisions from those introduced by MoF, especially considering the onerous requirement of bringing the entire amount upfront?

As per the extant FDI policy there is a minimum capitalization requirement in multi-brand retail trading sector where FDI is permitted up to 51% subject to minimum capitalization of $100 million. However, there is a provision to defer the funding up to 50% to a subsequent tranche instead of bringing in the entire amount upfront. The construction development sector was subject to minimum capitalization norms but these were removed as part of the FDI policy reforms in November 2015.

What are the key tax benefits of organizing Indian operations as an LLP?

Under the current tax regime, the LLP structure primarily offers two tax advantages over the company form of entity in India. First, profit distributed by an LLP to its partners is neither taxed in their hands nor is any distribution tax levied on the LLP. Second, an LLP is liable to pay tax on its book profits i.e. alternate minimum taxes (AMT) (payable at 18.5% plus applicable surcharge and cess) only under exceptional cases, unlike a company form of entity which is liable to pay AMT at 18.5% plus applicable surcharge and cess. Besides, LLP offers lot of flexibility in structuring and managing day to day affairs, along with an independent legal status.

Vikas Vasal is national leader tax–Grant Thornton India LLP. You can send your queries to

Radhika Jain and Priyanka Duggal contributed to this article.