What you need to know about RBI rules when investing abroad

Investing abroad demands a strategic approach to navigating evolving tax landscapes and regulatory complexities, particularly as financial borders continue to blur. 

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Navigating this landscape presents a complex web of challenges for Indian investors pursuing global opportunities. It includes examining permissible investment avenues, regulatory restrictions, and the crucial tax implications of investing abroad, while grappling with intricate tax laws and exchange control regulations and the ever-shifting sands of global geopolitics. Here is a look at various rules governing overseas investments. 

Investment options for Indian residents

Under the Liberalised Remittance Scheme (LRS), resident Indians can invest up to $250,000 per financial year in foreign markets.

The Reserve Bank of India’s (RBI) Overseas Investment Guidelines provide the framework for permissible investments, with two primary categories:

Overseas Direct Investment (ODI): Primarily involves acquiring equity capital in unlisted foreign entities. Investments exceeding 10% of the equity capital of a listed foreign entity are also generally categorized as ODI.

Overseas Portfolio Investment (OPI): Covers equity investments that do not qualify as ODI, such as investments in listed foreign equities below the 10% threshold and participation in regulated overseas funds.

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The distinction between ODI and OPI is crucial, as each category carries distinct compliance, reporting, and repatriation requirements.

Restrictions and exceptions

RBI regulations restrict ODI investments in sectors such as real estate trading, gambling, and entities engaged in financial services. Investments in unlisted debt securities and crypto assets are prohibited under both ODI and OPI frameworks. Additionally, an individual cannot hold more than 10% equity in an overseas company if that company itself holds more than 10% equity in another entity.

Indian residents can participate in Employee Stock Option Plans (ESOPs) of foreign companies, provided they are employed by the company’s Indian subsidiary or an Indian entity where the foreign company holds equity. Notably, ESOP acquisitions are exempt from certain restrictions, allowing investments even in sectors generally prohibited for ODI and without the 10% equity holding limitations.

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While ESOP remittances are counted towards the LRS limit, they are not subject to the $250,000 cap. This provides flexibility for individuals to remit funds beyond the general LRS limit for ESOP acquisitions. Shares acquired through ESOPs are classified as OPI below the 10% holding threshold and as ODI above it. The employer typically handles the reporting obligations related to ESOP acquisitions, relieving individuals from separate filing requirements.

Foreign real estate and inheritance

Indian residents can acquire immovable property abroad within the overall LRS limit. This allows families to pool resources by consolidating LRS limits among relatives for joint property investments.

Inheritance of foreign assets is permitted for Indian residents.

Individuals can receive shares of a foreign company as gifts from other Indian residents. Gifts from non-resident individuals must comply with the Foreign Contribution (Regulation) Act, 2010. Regarding immovable property, gifts are permitted only between Indian residents.

Relocating NRIs/OCIs: Asset retention and repatriation

Non-resident Indians (NRIs) and Overseas Citizen Of India (OCIs) relocating to India are not obligated to repatriate their foreign assets or accumulated foreign currency. They are permitted to retain these assets, reinvest abroad, or utilize the proceeds as they deem fit.

While the combined ceiling for ODI and OPI remains within the LRS limit $250,000, ODI investments require obtaining a Unique Identification Number (UIN) from the RBI. This process involves submitting documents such as a valuation report, company charter documents, Form FC, Form A2, and specific declarations to the bank.

Sale proceeds from ODI investments must be repatriated to India within 90 days. In contrast, exit proceeds from OPI can be retained and reinvested abroad. However, idle funds in offshore bank accounts exceeding 180 days must be repatriated to India.

Taxes and foreign tax credits

Understanding the tax implications of offshore investments is crucial for Indian investors. Gains from equity investments are typically treated as capital gains, while income like dividends and interest is taxed under the “Income from Other Sources” head.

For Indian tax residents, both capital gains and income from offshore investments are taxable in India. Investors can claim credit for taxes paid abroad based on applicable tax treaties or provisions within the Income-tax Act. However, discrepancies in tax years and accounting methods between India and foreign jurisdictions can pose challenges in claiming foreign tax credits effectively.

Capital gains tax in India is levied on the actual transfer of the asset and is based on the holding period. This can create mismatches with some foreign jurisdictions that tax gains on an accrual basis, regardless of the holding period, potentially impacting the effectiveness of foreign tax credits.

LRS remittances are subject to Tax Collection at Source (TCS), which is fully creditable against the individual’s tax liability.

All foreign assets must be declared in income tax returns. Increased scrutiny on unreported foreign assets underscores the importance of accurate disclosure to avoid penalties.

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Thorough review of personal tax situations before undertaking any overseas investment is essential. This ensures compliance with both Indian and foreign regulations while optimizing post-tax returns. A comprehensive understanding of cross-border tax implications empowers investors to seize global opportunities effectively.

Rupali Ashar is partner at Legacy Growth and Ankur Pahuja is co-founder and partner at Legacy Growth.