Sebi relaxes guidelines for investment through non-FATF countries

The Securities and Exchange Board of India (Sebi) has relaxed its guidelines for foreign portfolio investors (FPIs) seeking a Category-I licence, a move seen giving a boost to overseas investment in stocks.

Investors from countries which are not Financial Action Task Force (FATF) members can still qualify for such registrations if the countries are specified by the Indian government. The move may benefit funds and investments routed through countries, such as Mauritius and those from West Asia, and aid overseas flows coming into India, said experts.

At present, the FATF has 39 members, including Australia, Singapore, Luxembourg, South Korea, the US, the UK, and China. West Asian nations, such as Bahrain, Oman, Qatar, Kuwait, and the UAE are not its members.

Nearly 80 per cent of FPIs were put under Category-I after the reclassification of three categories into two in September last year. Being part of Category I implies lower compliance burden, simplified know-your-customer (KYC) norms and documentation requirements, and fewer investment restrictions. Such investors can subscribe and issue offshore derivative instruments and are not subject to indirect transfer provisions.


Prior to the reclassification, less than 3 per cent FPIs were part of Category-I and more than four-fifths were part of Category-II. About 13 per cent of the funds were classified as Category-III.

“The move will expand the list of countries eligible for the Category-I status beyond the FATF member countries. It will not only mean fewer KYC requirements for FPIs from such countries but also exemption from indirect share transfer regulations,” said Rajesh Gandhi, partner, Deloitte India. “Along with the MSCI index rejig, this will help boost inflows into India, especially from India-focused funds.” 

Experts reckon non-FATF countries, such as Mauritius and those from West Asia, may now lobby to get included in the list of specified countries to be put out by the Indian government.

"It is a well-established fact the Category-I FPI funds enjoy larger acceptability among investors, which is why non-FATF countries and regions, such as Dubai, Cayman Islands, and Mauritius, will try to get the exemption from the Government of India,” said Neha Malviya, director, Wilson Financial Services.

Most funds coming from Mauritius, Cayman Islands, Cyprus, and the British Virgin Islands are currently classified as Category-II. Despite its treaty amendment with India, Mauritius remains the second-largest source of FPI money.

“It is for the first time that, in addition to the FATF members, government-notified countries will qualify for Category I registration. Mauritius, Cayman and Indonesia figure among the prominent non-FATF member countries, which are relevant for secondary investment in Indian stock markets,” said Sunil Gidwani, partner, Nangia Andersen.

According to Gidwani, qualifying for Category-I will provide FPIs with greater flexibility of operations and help them attract new investors. “Registering as Category-I FPIs makes the process of accessing the Indian markets much easier at the time of entry because of lesser due diligence and documentation. Such FPIs can issue P-notes to overseas investors and will not be required to comply with offshore transfer tax provisions,” Gidwani said.

This year’s Budget had clarified that Category-II FPIs would be subject to indirect transfer provisions, which were earlier applicable to unregulated funds falling under Category-III. 

In 2012, the government had amended the domestic law to provide that gains from transfer of shares or interest in an entity outside India would be taxable in India if such shares or interest derived their value (directly or indirectly) substantially from assets located in India. These provisions were referred to as indirect transfer provisions.

Last year, officials from the Financial Services Commission (FSC) — the Mauritian financial services regulator — had asked Sebi to reconsider its stance of allowing only FATF members for Category-I registration. FSC officials had urged Sebi to tweak its guidelines to allow funds from FATF-compliant regions to register as Category-I FPIs.

The country’s woes increased after it was put in the grey list by the FATF earlier this year. FSC engaged with Sebi on the matter and the latter subsequently issued a clarification that the country would continue to be eligible for FPI registration with increased monitoring as per FATF norms.

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