The Reserve Bank of India’s (RBI’s) draft Foreign Exchange Management Act (FEMA) Investment Rules, released on Tuesday for public consultation, could significantly reshape how foreign investors structure investments in Indian companies, particularly unlisted firms, while bringing greater clarity to the definition of foreign control in cross-border transactions.
The proposed framework consolidates multiple regulations governing foreign investments in non-debt instruments into a single set of rules. The most closely watched proposal extends the 10% threshold that distinguishes foreign direct investment (FDI) from foreign portfolio investment (FPI) to unlisted Indian companies.
Under the draft, foreign investments of 10% or more in unlisted companies would qualify as FDI, while holdings below 10% would be treated as FPI. So far, the distinction has applied only to listed companies, allowing minority investors in unlisted firms to invest through the FDI route.
What are the Implications?
Legal and tax experts said the proposal could have significant implications for private equity (PE), venture capital (VC) and cross-border mergers and acquisitions (M&A), where minority investments are common.
“There are many situations where PE or VC investors prefer to begin with a minority stake of less than 10%. Requiring them to obtain FPI registration could become a practical challenge,” said Prateek Jain, partner at Deloitte India. He said the industry is likely to recommend retaining the existing FDI framework for unlisted companies, a view broadly shared by authorised dealer banks.
The proposal also raises questions over how sectoral caps and compliance requirements would apply. “If investments below 10% in an unlisted Indian company are treated as portfolio investments, clarity is needed on whether FDI-linked sectoral conditions, restrictions and reporting requirements would continue,” said Sunil Kumar, partner, tax and regulatory services, EY India.
Smruti Shah, partner at Cyril Amarchand Mangaldas, said the draft could create a fresh regulatory hurdle for minority investors in India’s rapidly expanding unlisted market.
“The unlisted space has seen significant deal activity in recent years, and the industry may seek changes before the rules are finalised,” she said.
Beyond the FDI-FPI classification, the draft also seeks to define foreign control more explicitly. Deloitte’s Jain said the new 10% threshold relating to overseas ownership structures should not be confused with the FDI-FPI distinction for Indian entities.
Redefining Foreign Control
According to Jain, the draft retains the existing definition of foreign-owned and controlled Indian companies while introducing a separate 10% test for multi-layered overseas investment structures. This largely codifies principles that emerged from Press Note 3 governing investments from countries sharing land borders with India, such as China.
Experts also flagged two changes that could materially affect M&A transactions. Somesh Jain, advocate at Chambers of Sachdev & Jain, said the definition of “equity” would shift from a prescribed list of instruments to those classified as equity under applicable accounting standards, making accounting treatment, rather than legal form, decisive.
The draft also introduces an explicit voting-rights threshold in the definition of “control”. Rights under shareholder or voting agreements that allow an investor to exercise 10% or more voting rights would constitute control for FDI purposes. Since such rights are common in minority and PE investments, more transactions could fall within the control framework.
Vivek Iyer, partner and financial services risk leader at Grant Thornton Bharat, said the draft aims to simplify India’s foreign investment regime while making governance rights a more important factor in cross-border deals.
“For M&A and PE transactions, this places greater emphasis on how governance rights are negotiated and documented alongside the size of the investment,” Iyer said.
On the updated definition of equity, Ruetveij Pandya, Partner, Cyril Amarchand Mangaldas, said the draft replaces the prescriptive instrument-by-instrument list under the 2019 NDI Rules with a substance-over-form approach based on applicable accounting standards. “It also explicitly includes units of SEBI-regulated investment vehicles (REITs, InvITs, AIFs) and participating rights in oil fields or mines,” he added.
Abhishek Paliwal, partner at legal firm King Stubb & Kasiva, said the quantitative threshold could reduce ambiguity in transactions involving layered ownership structures and governance arrangements, making legal due diligence more predictable.
However, he cautioned that businesses would need to reassess shareholder agreements, downstream investments and governance rights to ensure they align with the revised framework. The final impact, he said, would depend on how the proposed threshold interacts with the existing concept of control under the FDI Policy and other laws.
The draft has not touched on immovable property, which was there in the FEMA 2019 rules. “Unlike the 2019 Rules, which covered all non-debt instruments including immovable property, the draft is confined to foreign investment in equity, leaving the regulatory treatment of immovable property unclear,” said Jain.
The draft also proposes to broaden the framework for investments on a non-repatriation basis to all non-residents. At present, such investments are available only to NRIs/OCIs.
Further, the proposed relaxation in gift provisions appears to be facilitative. Currently, a gift of shares of an Indian company to a non-resident family member is subject to RBI approval and monetary limits (USD 50k). The draft provides for such gift of shares up to the Liberalised Remittance Scheme limit under the automatic route.
The RBI has invited public comments on the draft rules. Industry participants expect one of the strongest representations to focus on preserving flexibility for minority investments in unlisted companies while retaining the broader objective of simplifying India’s foreign investment framework.
