Introduction
For larger participation of new category of overseas investor i.e. Qualified Foreign Investors ("QFIs") to invest in Indian Secondary Market, both Securities and Exchange Board of India (SEBI) and Reserve Bank of India (RBI) has issued guidelines allowing overseas individual investors to invest up to $1 billion in corporate bonds and debt schemes of mutual funds without any lock-in period or residual maturity clause. RBI vide RBI/2012-13/134 A. P. (DIR Series) Circular No. 7 dated 16th July, 2012 and SEBI vide circulars CIR/ IMD/ FII&C/ 17 / 2012 dated 18th July, 2012 has decided to allow QFIs to purchase debt securities on repatriation basis.
Background
In 2011, the Government of India ('GOI') announced its intention to widen the class of foreign investors investing in Indian financial markets. The Indian Finance Minister in his Budget speech then, announced that foreign investors would be allowed to invest in domestic Mutual Funds ('MFs') schemes. Accordingly, SEBI and RBI issued Circulars on 9th August, 2011 allowing QFIs complying with the Know Your Customer ('KYC') norms to invest in equity and debt schemes of domestic MFs.
On 1st January, 2012, the GOI issued a press note stating that QFIs will now be allowed to invest in the equity shares of Indian companies. Both the market and banking regulators have issued detailed Circulars on 13th January, 2012 operationalizing the Scheme for investment by QFIs in Equity Shares.
In the Budget 2012-13, Government announced its intention to permit QFIs to invest in corporate bonds in India. When implemented, the QFI framework would stand extended to all three important segments of the Indian Capital markets, i.e., Mutual Funds, Equity Market and Corporate Bond Market.
In the following paragraphs, we highlight the key features of the regulations allowing QFIs to directly invest in Corporate Bond Market in light of RBI1 and SEBI2 Circular.3
Broad base of Definition of QFI
The list of countries from where QFIs could invest in the Indian capital market has been expanded.4 QFIs shall mean a person who is resident in a country that is a member of Financial Action task Force (FATF) or a member of a group which is a member of FATF5 and resident in a country that is a signatory to International Organization of Securities Commission (IOSCO's) Multilateral Memorandum of Understanding (MMoU ) or a signatory of a bilateral MoU with SEBI6.
Following persons are not covered in the definition of QFIs.:
(a) the person who is not resident in a country listed in the public statements issued by FATF from time to time on jurisdictions having a strategic Anti Money Laundering and Combating Financing of Terrorism AML/CFT deficiencies to which counter measures apply or that have not made sufficient progress in addressing the deficiencies or have not committed to an action plan developed with the FATF to address the deficiencies;
(b) the person who is not resident in India;
(c) the person is who not registered with SEBI as a Foreign Institutional Investor (FII) or Sub-Account of an FII or Foreign Venture Capital Investor (FVCI).
DP Responsibility and Obligations
The DP (Depository Participants) shall carry necessary due diligence and obtain appropriate declarations and undertakings from the QFI to ensure compliance with the SEBI and RBI circulars / guidelines.
Eligible instruments and eligible Transactions
QFIs shall be permitted to invest through SEBI registered Qualified Depository Participants (QDPs) in eligible corporate debt instruments, viz. listed Non-Convertible Debentures (NCDs), listed bonds of Indian companies, listed units of Mutual Fund debt Schemes and "to be listed" corporate bonds (hereinafter referred to as 'eligible debt securities') directly from the issuer or through a registered stock broker on a recognized stock exchange in India.7
The QFI transactions shall be limited to the following debt securities:
(i) Purchase and sale of corporate debt securities listed on recognized stock exchange(s);
(ii) Purchase of corporate debt securities through public issues, if the listing on recognized stock exchange(s) is committed to be done as per the extant provisions of the Companies Act, 1956;
(iii) Sale of corporate debt securities by way of buyback or redemption by the issuer;
(iv) Purchase and sale of units of debt schemes of Indian mutual funds.
QFIs shall also be permitted to sell 'eligible debt securities' so acquired by way of sale through registered stock broker on a recognized stock exchange in India or by way of buyback or redemption by the issuer.
Account, Mode of payment / repatriation and Demat Account
QFIs shall open a single non-interest bearing Rupee Account with an AD Category- I bank in India, for the limited purpose of routing the receipt and payment for transactions relating to purchase and sale of units of eligible debt securities8. The account shall be funded by inward remittance through normal banking channel and by credit of the sale/redemption/buyback proceeds (net of taxes) and on account of interest payment on debt securities. The funds in this account shall be utilized for purchase debt securities for QFIs or for remittance (net of taxes) outside India. The DP will operate such non-interest bearing Rupee Accounts on behalf of the QFIs and at the instructions of the QFIs. QFIs shall open a single demat account with a QDP in India for investment in all debt securities under the QFI scheme.9 Both QDPs and AD Category-I banks shall ensure KYC of the QFIs for opening and maintenance of the single non- interest bearing Rupee accounts as per the extant norms.10
Limits
QFIs are permitted to invest in corporate debt securities (without any lock-in or residual maturity clause) and Mutual Fund debt schemes subject to a total overall ceiling of USD 1 billion. This limit shall be over and above USD 20 billion for Foreign Institutional Investors (FII) investment in corporate debt. QFIs can invest without obtaining prior approval until the aggregate investments reaches 90% of USD1 billion (i.e. USD 900 million). For fresh purchases by QFIs after this cap, prior approval of the depositories is required to be obtained. The QFIs should make such request for prior approval to the concerned depository through the DP specifying therein the name of the QFI, PAN and other unique identification number relating to that QFI, by way of any mode of communication as specified by the depositories in consultation with each other. The depositories shall jointly publish/ disseminate the aggregate investment of QFIs to public, on daily basis.11
Miscellaneous
QFIs shall remit foreign inward remittance through normal banking channel in any permitted currency (freely convertible) directly into their single non- interest bearing Rupee account maintained with an AD Category-I bank. The pricing of all transactions and investment in all debt securities by QFIs shall be in accordance with the relevant and applicable guidelines issued from time to time. Both QDPs and AD Category-I banks (maintaining QFI accounts) will also ensure reporting to SEBI along with Reserve Bank of India. QFIs shall be permitted to hedge their currency risk on account of their permissible investments (in debt instruments) in terms of the guidelines issued by the Reserve Bank from time to time. Each QFI shall obtain a separate and distinct PAN. There is no requirement of registration of QFI with any of the regulator, except that they have to deal with qualified depository participant.
Some apprehensions by QFI
As QFIs need KYC requirements like PAN and tax return filings, these are believed to serve as hurdles to the scheme. The biggest apprehension is going through the complicated process of procuring a PAN in India and also filing tax returns.
Conclusion
It's a welcome change for the new class of investor as the same will boost the domestic markets with increased foreign inflows, with no registration compliance with any of the regulator. This is likely to attract greater foreign investment into the market as it provides an additional avenue for investors. The current regime for FIIs requires registration with SEBI and compliance with all the requirements under the FII Regulations, which is often considered onerous. The new proposal appears to rely more on self-regulation through DPs. Therefore, it has to be seen that, whether there can be shift of investor from FII route to QFI route in absence of minimal regulation.
Footnotes
1 Reserve Bank of India vide RBI/2012-13/134 A. P. (DIR Series) Circular No. 7 dated 16th July, 2012
2 SEBI circulars CIR/ IMD/ FII&C/ 17 / 2012 dated 18th July, 2012
3 Qualified Foreign Investor- Equity Investment, January, 2012, KPMG, http://www.kpmg.com/Global/en/IssuesAndInsights/ArticlesPublications/taxnewsflash/Documents/india2-jan-19-2012.pdf ; retrieved on 23rd July, 2012
4 Originally, it was limited to the 34 member countries, which are members of Financial Action task Force (FATF).
5 Expression Member of FATF shall not mean an associate member of FATF
6 Expression "bilateral MoU with SEBI" shall mean a bilateral MoU between SEBI and the overseas regulator that, inter alia, provides for information sharing arrangements.
7 The provisions relating to FIIs in case of non-listing of "to be listed" corporate bonds, within 15 days as per A.P. (DIR Series) Circular No. 89 dated March 1, 2012, shall be applicable to QFIs.
8 There is no more requirements for opening and maintenance of a single rupee pool bank account by the QDP and QFIs can henceforth invest in all debt securities for QFIs through this single non- interest bearing Rupee Account.
9 It is clarified that each QFI shall maintain a single demat account with a QDP for all investments in mutual fund, equity and debt securities for QFIs' in India. A QFI can open trading accounts with one or more SEBI registered stock brokers
10 DPs will ensure KYC of the QFIs as per the norms prescribed by SEBI in circular dated 13th January, 2012 and SEBI circulars issued in this regard from time to time.
11 SEBI circulars CIR/ IMD/ FII&C/ 17 / 2012 dated 18th July, 2012
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