A recent amendment to the regulations governing foreign portfolio investors (“FPIs”) has enabled Mauritius (a non-Financial Action Task Force (“FATF”) member nation) based entities to procure registration as a Category I FPI. Prior to this change, entities from Mauritius, had limited grounds to seek registration as a Category I FPI, and hence were compelled to opt for registration as a Category II FPI in many cases, even though they met the other criteria for the former category of FPIs.

The Securities and Exchange Board of India (Foreign Portfolio Investors) Amendment Regulations, 2020

Prior to the said amendment, the Securities and Exchange Board of India (Foreign Portfolio Investors) Regulations, 2019 (“FPI Regulations”) permitted Category I FPI registration to be granted to government or government related investors, pension funds, university funds, appropriately regulated banks, asset management companies, investment managers, investment advisors, portfolio managers, broker dealers and swap dealers, entities from FATF member countries, entities whose investment managers were from an FATF member country or entities which were at least 75% owned, directly or indirectly, by the above entities.

The FATF is the global money laundering and terrorist financing watchdog, which sets international standards that aim to prevent these illegal activities and the harm they cause to society. Notably, Mauritius is not an FATF member country and entities and investors located in Mauritius were therefore not be considered eligible for a Category – I FPI license, unless they were eligible for the same under other heads as mentioned above.

However, the Securities and Exchange Board of India (Foreign Portfolio Investors) Amendment Regulations, 2020 (“Amendment Regulations”) dated April 07, 2020 provided for a ground for procuring Category I FPI by entities located in any country specified by the Central Government by an order or by way of an agreement or treaty with other sovereign Governments. Thus, the Amendment Regulations paved the way for entities from non-FATF member countries to be considered for a Category I FPI registration.

Following suit, on April 13, 2020, the Department of Economic Affairs (Ministry of Finance) vide an order (“Order”) specified Mauritius as a country whose entities will be eligible for procuring Category I FPI registration.

Overview of FPI Regulations

An FPI is a person who has been granted a registration under the FPI Regulations. As per the FPI Regulations, no person shall buy, sell or otherwise deal in securities as an FPI unless it has obtained a certificate granted by a designated depository participant on behalf of the Securities and Exchange Board of India.

A registration under the FPI Regulations enables an FPI and its investor group to inter alia, invest in the listed equity shares with their investment limited to under 10% of the paid-up share capital of the company on a fully diluted basis. They also take exposure to corporate and government debt instruments as permitted by the Reserve Bank of India from time to time and other instruments such as units of mutual funds, real estate investment trusts, infrastructure investment trusts and category III alternative investment funds.

Some observations

Category I FPIs enjoy the following key benefits in comparison to Category II FPI. For instance, Category I FPIs are permitted to issue and subscribe to offshore derivative instruments. Further, a less stringent know-your-customer threshold is prescribed for Category I FPIs. Importantly, Category I FPIs enjoy immunity from taxation of income arising from transfer of an interest in a Category I FPI, which derives substantial value from underlying Indian investments of the FPI, in India. No such tax benefit is available to Category II FPIs.

However, due to the requirements of the FPI Regulations, many Mauritius entities were unable to procure a Category I FPI registration merely on account of their home jurisdiction not being an FATF member country. The change will ensure a level playing field for Mauritius entities and will boost set up of investment vehicles in Mauritius. This is also important since Mauritius has historically ranked high on the list of jurisdictions from which foreign investments flow into India, primarily on account of a well evolved regulatory regime for investment funds and favorable tax regime. The change would also ensure status quo in terms of the prevailing Mauritius fund structures, without requiring structural revisions to appoint an investment manager or advisor located in an FATF member country (like Singapore) for being eligible for the Category I FPI registration, and avail the benefits associated with the same.

Interestingly, the Order has come in the backdrop of Mauritius being placed in the list of closely monitored countries (“Grey List”), i.e. the countries which are required to address strategic deficiencies in their regimes to counter money laundering, terrorist financing, and proliferation financing. The inclusion of Mauritius under the Grey List may be an important consideration for limited partners looking to invest in India through an FPI entity. Thus, fund managers may still be required to carefully evaluate setting up of their funds in Mauritius or in any alternative jurisdiction.

Authors:

Rushabh Maniar, Partner
Vivaik Sharma, Partner
Rohan Priyadarshi, Associate