The new airline, AirAsia India, will be managed by the Malaysian company and based in the southern city of Chennai. Serving smaller cities, it will enter a fiercely a competitive Indian market that has proved challenging for AirAsia.
India's aviation industry, which has been plagued by losses due to high operating costs and fierce competition, was opened to foreign investors in September last year. Foreign carriers are now able to purchase up to 49 percent of local airlines.
No foreign airline has bought a stake in a local carrier since India relaxed its investment rules, although Abu Dhabi's Etihad Airways is in talks to buy a stake in Jet Airways .
AirAsia, through its investment arm, will own 49 percent of the new airline, with Tata Sons Ltd, the holding company of salt-to-software conglomerate Tata Group, owning 30 percent. Arun Bhatia, who owns Telestra Tradeplace, an investment firm, will hold the remainder.
Tata Sons said in a statement it will not have an operating role in the proposed new carrier.
"It's a formidable combination. It brings (together the) ... expertise of two giants," said Rajan Mehra, India head of U.S.-based private jet operator Universal Aviation and ex-head of Qatar Airways' India operations. "They will expand the market. Wherever AirAsia has gone, they have brought in new customers."
Tony Fernandes, AirAsia's chief executive, said in a statement: "We have carefully evaluated developments in India over the last few years and we strongly believe that the current environment is perfect to introduce our low fares."
Tata Airways was India's largest airline before the government took it over in 1953 as part of its nationalisation drive following India's independence from Great Britain and was rebranded Air India.
In 2000, the Tatas and Singapore Airlines jointly bid for a stake in Indian Airlines, the state carrier that later merged with Air India, although rules preventing foreign airlines from investing in Indian carriers thwarted a deal.
Budget carrier SpiceJet, India's No. 4 operator by market share, runs a business model similar to the one proposed by the AirAsia venture. Last year, AirAsia held talks to buy a stake in SpiceJet, a senior government source had said.
AirAsia flies to four south Indian cities and the eastern city of Kolkata in addition to 20 countries across Asia and has indicated it plans to slow its overall expansion elsewhere.
AirAsia X, the long-haul carrier founded by Fernandes, last year pulled out of India due to poor demand and profitability.
India's two biggest cities, Mumbai and Delhi, were taken off the AirAsia network last year due to a failure to access local distribution lines, according to market researcher the Centre for Asia Pacific Aviation (CAPA). "Securing the right local partner could resolve many of the challenges AirAsia has faced in serving India from its home markets," CAPA said in a report.
Another Indian carrier, former No. 2 operator Kingfisher Airlines, has not flown since the start of October after racking up debt estimated as high as $2.5 billion and faling to pay staff, airports, banks and others.