The Foreign Exchange Management Act, 1999 (FEMA) and the extensive web of rules, regulations, and master directions issued by the Reserve Bank of India (RBI) under it govern every cross-border transaction involving an Indian resident-whether it is receiving foreign investment, borrowing abroad, investing overseas, or making payments to foreign vendors. FEMA violations are rarely intentional; most arise from businesses that did not know they were required to file, when to file, or what the filing must contain. But “I didn’t know” is not a defence to FEMA. Violations attract compounding penalties, and some require RBI adjudication proceedings. This article covers the most common FEMA compliance issues Indian businesses face and how to avoid them.
The requirement: When an Indian company receives foreign investment (FDI) and issues shares, CCPS, or CCDs to the foreign investor, it must file Form FC-GPR (Foreign Currency-General Permission Route) with the RBI through its Authorised Dealer (AD) bank within 30 days of the date of issue of shares. The FC-GPR is a mandatory post-investment reporting obligation.
Common failure mode: Startups receiving their first foreign investment-particularly angel rounds from NRI angels or Singapore/Mauritius-based funds-often overlook the FC-GPR requirement entirely. Many founders are unaware that receiving money into the company’s bank account triggers a regulatory clock. Other companies file late, sometimes months or years after the investment.
Consequences: A delayed or missing FC-GPR is a FEMA violation. The company must apply to the RBI for compounding (a self-reporting mechanism by which the violation is quantified and a compounding fee is paid to regularise the violation). The RBI’s Master Direction on Compounding of Contraventions under FEMA, 2016 (updated periodically) sets out the formula for calculating compounding amounts-which depend on the duration of delay and the amount involved and can be substantial.
How to avoid: Designate a compliance officer or engage a CA/lawyer to track investment closings and ensure FC-GPR is filed within 30 days. The filing is made through the RBI’s FIRMS portal and requires a Company Secretary certificate on fair valuation, a CA certificate, and the board resolution.
2. FC-TRS Non-Filing for Share Transfers
The requirement: When shares of an Indian company are transferred between a resident and a non-resident (or between two non-residents), Form FC-TRS (Foreign Currency-Transfer of Shares) must be filed before the share transfer is completed (i.e., before the name of the transferee is entered in the register of members).
Common failure mode: In secondary transactions-particularly in M&A deals where a promoter sells shares to a foreign investor, or in secondary transfers where a foreign investor sells its stake to another foreign fund-the parties often proceed to transfer the shares without filing FC-TRS, relying on their advisers to complete the paperwork later. The “later” filing then becomes a compounding violation.
Pricing compliance: The transfer price must comply with FEMA pricing guidelines-DCF-based fair market value for unlisted companies. A foreign investor cannot purchase Indian shares below fair market value on primary issuance; on secondary sale, the resident seller cannot sell below fair market value. An independent merchant banker valuation is required.
3. External Commercial Borrowings (ECB) Compliance
What is ECB? ECB refers to commercial borrowings from recognised non-resident lenders (foreign banks, international capital markets, foreign shareholders, foreign equity holders). ECB is governed by the RBI’s ECB Master Directions 2019 (revised periodically).
End-use restrictions: ECB proceeds cannot be used for:
- Investment in real estate or purchase of land
- Investment in capital markets (equity, debt securities)
- On-lending (re-lending to others)
- Activities not permitted under FDI policy
These restrictions are routinely violated by companies that raise ECB for general purposes and then use it for working capital, which may inadvertently finance activities on the restricted list.
Minimum maturity: ECB must have a minimum average maturity period (MAMP) of 3 years for most forms of ECB under the automatic route, and 10 years for ECB used for working capital or general corporate purposes.
ECB-2 monthly return: All ECB borrowers must file the ECB-2 return with the RBI each month through their AD bank. Late filing or non-filing of ECB-2 returns is among the most common compounding violations in the FEMA framework.
4. Overseas Direct Investment (ODI) Compliance
What triggers ODI: When an Indian company or resident individual makes an investment outside India-through equity, loan, or guarantee-it constitutes ODI and must be reported under the RBI’s ODI Master Directions.
FORM ODI filing: Before remitting funds overseas for investment, the Indian entity must file Form ODI Part I with the RBI through its AD bank. Post-investment filings include Form ODI Part II (annual performance report of the overseas investee company, due by December 31 each year).
Annual Performance Report (APR): The APR must be submitted every year by December 31, reporting the financial performance of the overseas entity in which investment has been made. Non-filing of APR is a common and easily avoidable violation.
Restrictions on ODI end-use:
- Indian companies cannot make ODI in entities engaged in real estate business, financial services (except where permitted), or entities in FATF non-compliant jurisdictions.
- The overseas entity must be engaged in a business activity and must not be a shell or holding company (with limited exceptions for recognised structures).
5. FDI in Prohibited or Restricted Activities
Common issue: An Indian company receives foreign investment in a permitted sector, but then uses the proceeds for activities that fall within a restricted or prohibited sector under FEMA 20(R). For example:
- A technology company receives FDI under the IT services sector but uses funds to acquire real estate for its own account (real estate business is prohibited for FDI)
- A company engaged in food processing (100% FDI permitted) diversifies into retail trading (separate approval requirements)
The activity-specific nature of FDI policy means that the sector classification at the time of investment must be consistently maintained throughout the investment period.
6. NRI Remittances and Repatriation: Form 15CA / 15CB
The requirement: Any outward remittance from India to a non-resident (including payment to foreign vendors, payment of dividends or interest to foreign investors, or remittance of sale proceeds on exit) requires a Form 15CA (filed online by the remitter) and, for remittances above INR 5 lakh, a Form 15CB (certificate from a Chartered Accountant confirming that taxes have been deducted at source or that the remittance is exempt).
Tax Residency Certificate (TRC): To claim DTAA benefits (reducing the withholding tax rate on dividends or interest paid to a foreign entity), the foreign recipient must provide a valid TRC from the tax authorities of its country of residence.
RBI Compounding Process
For historical FEMA violations that have not been regularised, the company may apply to the RBI for compounding of the contravention under the Compounding of Contraventions under FEMA, 2000 regulations. The process:
- File a compounding application with the relevant RBI office (depending on the nature and amount of the violation)
- Pay the compounding fee as calculated per the RBI formula
- Receive a compounding order regularising the violation
Compounding is available for most FEMA violations except those involving national security, money laundering, or certain other serious contraventions. The compounding amount is typically lower than formal adjudication penalties, making it the preferred route for self-correcting historical violations.
Key Takeaways
- FC-GPR must be filed within 30 days of share issuance to foreign investors; late filing requires RBI compounding, which can be costly but is available as a self-correction mechanism.
- ECB end-use restrictions are stringent-proceeds cannot be used for real estate, capital markets, or on-lending; monthly ECB-2 returns are mandatory.
- Annual Performance Reports (APR) for Overseas Direct Investments must be filed by December 31 each year; non-filing is among the most common and easily regularised FEMA violations.
This article is for informational purposes only and does not constitute legal advice. Readers should seek appropriate professional counsel for their specific circumstances.
META TITLE: FEMA Compliance India: Common Violations and How to Avoid Them