The Indian Government is keen on developing the international financial services center ('IFSC'), in Gujarat International Finance Tec-City (GIFT City), Gujarat, to bring to the Indian shores, those financial services transactions that are currently carried on outside India by overseas financial institutions. With the objective of promoting fund-raising and asset management in IFSC, the Securities and Exchange Board of India ('SEBI') had formulated the SEBI (International Financial Services Centres) Guidelines, 2015 dated March 27, 2015 ('SEBI IFSC Guidelines') allowing alternative investment funds ('AIFs') to be set up in the IFSC. Pursuant to the IFSC Guidelines, AIFs set up in IFSC ('IFSC-AIFs') are permitted to invest in the securities which are: (i) listed in IFSC; (ii) issued by companies incorporated in IFSC; and (iii) issued by overseas companies. Subsequently, by way of circular dated May 23, 2017, SEBI expanded the investment horizon for IFSC-AIFs by specifically including "securities of companies incorporated in India" within the basket of permissible investments for IFSC-AIFs.
Recently, by way of a circular dated August 9, 2019 ('August 2019 Circular'), SEBI has clarified that IFSC-AIFs are "permitted to make investments as per the provisions of the SEBI (Alternative Investment Funds) Regulations, 2012 and the guidelines and circulars issued thereunder, including the operating guidelines for AIFs in IFSC". There have been widespread speculations regarding the impact of the August 2019 Circular on IFSC-AIFs. The key implications of the August 2019 Circular have been set out below.
What does the Circular change?
The August 2019 Circular seeks to widen the scope of permissible investments for IFSC-AIFs to bring them at par with other domestic AIFs set up outside the IFSC. In other words, the August 2019 Circular effectively permits IFSC-AIFs to invest in limited liability partnerships, real estate investment trusts, infrastructure investment trusts, derivatives, special purpose vehicles, etc., which were previously not specifically included in the list of permissible investments for IFSC-AIFs.
What does the Circular not change?
The Circular does not amend the provisions of SEBI IFSC Guidelines, which clarified that IFSC-AIFs may invest in India through the Foreign Venture Capital Investor ('FVCI') route, the Foreign Direct Investment ('FDI') route or through the Foreign Portfolio Investment ('FPI') route. The Reserve Bank of India ('RBI') has separately notified that all financial institutions or branches of a financial institution set up in IFSC will be deemed to be 'persons resident outside India' and thus, investments by IFSC-AIFs are at par with investments by non-resident investors. Therefore, the conditions associated with the aforesaid routes of foreign investments into India continue to apply to the investments made by IFSC-AIFs.
For instance, an IFSC-AIF investing into an Indian portfolio company through the FDI route will need to invest in permissible instruments in accordance with the applicable pricing restrictions and sectoral conditionalities. This may be restrictive in comparison to regulations applicable to other AIFs (i.e., AIFs not established in IFSC) which may make downstream investments without complying with the FDI restrictions, if their investment manager and the sponsor are 'owned' and 'controlled' by resident Indian citizens, and the 'control' of the AIF is in the hands of its sponsor and investment manager, "with the general exclusion to others". While portfolio investments of Category III AIFs, which raise monies from non-resident investors, are permitted only in such instruments and securities in which FPIs are permitted to invest; there may be situations where investments of IFSC-AIFs (particularly Category I and II AIFs based in IFSC) are restricted in comparison to the investments of other AIFs.
Pursuant to the Foreign Exchange Management (Transfer or Issue of Security by a Person Resident Outside India), 2017,
a. A 'company owned by resident Indian citizens' has been defined to mean an Indian company where ownership is vested in resident Indian citizens and/ or Indian companies, which are ultimately owned and controlled by resident Indian citizens. An 'LLP owned by resident Indian citizens' has been defined to mean an LLP where ownership is vested in resident Indian citizens and/ or Indian entities, which are ultimately owned and controlled by resident Indian citizens.
b. A 'company controlled by resident Indian citizens' has been defined to mean an Indian company, the control of which is vested in resident Indian citizens and/ or Indian companies which are ultimately owned and controlled by resident Indian citizens. An 'LLP controlled by resident Indian citizens' has been defined to mean an LLP, the control of which is vested in resident Indian citizens and/ or Indian entities, which are ultimately owned and controlled by resident Indian citizens.
What needs to change?
It is not clear whether the IFSC-AIFs would be required to procure separate registrations with SEBI as FPIs or FVCIs in order to enable such IFSC-AIFs to make investments under any of the FPI or FVCI routes, even when they are registered with SEBI as AIFs. Considering that IFSC-AIFs would be registered with SEBI, there should be a good case for them to be exempted from the requirement of being separately registered with SEBI as FPIs or FVCIs. In this regard, a clarification from SEBI would be beneficial in removing the ambiguities that have arisen.
Further, clarity from the RBI would be required regarding the extent to which the conditions under the FPI, the FVCI and the FDI routes are applicable to IFSC-AIFs making downstream investments and whether IFSC-AIFs would be eligible to use the FVCI and FPI routes, even if exempted by SEBI from the requirement of procuring separate FPI or FVCI registrations, on the basis of their AIF registration.
The potential relaxations mentioned above, if provided by the regulators, would go a long way in establishing IFSC as an attractive jurisdiction for the growth of the asset management industry in India.
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