Category: Corporate And Other Laws

This article looks at recent amendments in the
Liberalised Remittance Scheme (LRS) under Foreign Exchange Management
Act (FEMA) and in the provisions of Tax Collection at Source (TCS) on
remittances under LRS under the Income-tax Act. The changes are
significant and people should be aware of these issues. Along with the
recent amendments, we have dealt with some important & practical
issues also.

A. FOREIGN EXCHANGE MANAGEMENT ACT:

1. Background:

1.1 In February 2004, RBI introduced the LRS with a small limit (vide A.P.
Circular No. 64 dated 4.2.2004). Any Indian individual resident could
remit up to US$ 25,000 or its equivalent abroad per year from his own
funds. It was introduced to provide exposure to individuals to foreign
exchange markets. Dr. Y. V. Reddy, ex-Governor of RBI in his book titled
“Advice & Dissent” on Page 352 mentions that the funds could be
used for almost any purpose. It was supposed to be a “No questions asked” window and was in addition to all existing facilities. Late Finance Minister Mr. Jaswant Singh in a gathering said “Go conquer the world, we will be your supporters”. That was the underlying theme of the LRS.

1.2 There was a small negative list of purposes for which remittance could
not be made. The negative list included payments prescribed under
Schedule I and restricted under Schedule II of Current Account
Transaction Rules such as lotteries and sweepstakes; and payments to
persons engaged in acts of terrorism. Remittances also could not be made
to some countries. Later in 2007 remittance under LRS for margin
trading was also prohibited.

1.3 Over the years, the scheme has been modified. The limits have been increased periodically
(except for a brief period from 2013 to 2015). Today the limit is US$
2,50,000 per year per person. Thus, every individual Indian resident can
remit US$ 2,50,000 per year for any permitted purpose. At the same
time, restrictions have been introduced on current account transactions
and investments under LRS and such restrictions have kept on increasing.
The spirit of the original theme has been diluted to a significant extent. Let us see the current provisions of LRS including its main issues.

2. The present LRS:

2.1 The present LRS is dealt with by the following rules, regulations and circulars. FAQs provide some more clarifications.

i) Foreign Exchange Management (Permissible Capital Account Transactions) Regulations, 2000 (FEMA Notification no. 1).

ii) Foreign Exchange Management (Permissible Current Account Transactions) Rules, 2000.

iii) Foreign Exchange Management (Overseas Investment) Rules, 2022 (hereinafter referred to as “OI Rules”).

iv) Foreign Exchange Management (Overseas Investment) Directions, 2022
vide AP circular no. 12 dated 22.8.2022 (hereinafter referred to as “OI
Directions”).

v) Master Direction No. 7 on LRS updated up to 24.8.2022.

vi) FAQs updated up to 21.10.2021 (these have not been updated with the
rules and regulations of August 2022. However, these contain some
important clarifications.)

The statutory documents are the first
three documents – Rules and Regulations. The fourth and fifth documents
are essentially directions to Authorised Persons – i.e. Banks for
implementation of the rules and regulations. The sixth document – FAQs –
doesn’t have a binding effect. These are clarifications and wherever
helpful, these can be used.

However, if one reads only the
statutory documents, one does not get the full picture. One has to read
all the documents together to understand the entire scheme with its
nuances. At times, A.P. Circulars and Master Directions contain
additional provisions which are nowhere covered in the statutory
documents. Hence it is necessary to consider all the documents.

Also,
as is the case with several rules and regulations under FEMA, one
cannot get the entire picture merely by reading the documents. Some
things go by practice. Many such issues and practical problems will be
dealt with subsequently. Needless to say, it will not be possible to
deal with all issues. The focus is on important issues and issues arising out of amendments to LRS in August 2022 and TCS provisions in Finance Act 2023.

2.2 The present LRS in brief:

2.2.1
Under the present scheme, an Indian resident individual (including a
minor) can remit up to US$ 2,50,000 or its equivalent per financial
year. This limit has been there since May 2015. The remittance can be
made for any “permitted” Current Account Transaction or a “permitted”
Capital Account Transaction. The word “permitted” is a later addition.
As per the 2004 circular, the LRS was overriding all restrictions
(except those stated in the circular itself).

For remittance
under LRS, the simple compliance is the submission of Form A2 with some
basic details. [No form is required for making a rupee gift or a loan.
However, the person must keep a track to see that aggregate of such
rupee payments (discussed later) and foreign exchange remitted during a
year are within the LRS limit.]

Remittances during one year have to be made through one bank only.

2.2.2 Remittance has to be made out of person’s own funds.
In a family, one member can gift (not loan) the funds to another family
member and all the relatives can remit the funds under LRS. This has
been an accepted position.

Source of funds:

Loans: A person cannot borrow funds in India and remit them abroad for capital account transactions.
The restriction on taking loans continues right from the beginning
(i.e., February 2004). One can refer to these provisions in Paragraphs 8
and 10 in Section B of the present Master Direction on LRS.

A person also cannot borrow funds from a non-resident to invest. Thus,
buying a home abroad with a foreign loan is not permitted even if the
loan repayment is within the LRS limit. Foreign builders offer schemes
where the person can get a completed house, but payment can be made over
the next few years after completion. This will clearly be a violation
as the payment option over a few years is a loan.

Primarily a loan also cannot be taken for current account transactions. However, in the FAQs dated 21st October 2021, FAQ 16 clarifies that banks can provide loans or guarantees for current account transactions
only. Here, FAQ is being relied upon. Strictly, FAQs have no legal
authority. In practice, it goes on. Thus, a loan can be taken from a
bank for education and funds can be remitted abroad. However, no loans
can be taken from anyone else even for a current account transaction.

Other prohibited sources:

Remittances out of “lottery winnings, racing, riding or any other
hobby” are prohibited. These are stated in Schedule I of the Current
Account Rules. Hence even if the person has his own funds but earned
from these sources, he cannot remit the same under LRS. This is an issue
that is missed by many people. Further, ‘hobby’ is a broad term. What
seems to be prohibited is income from hobbies which involve gambling and
chance income.

LRS covers both Current and Capital Account Transactions.

2.2.3 Current Account Transactions –

Under clause 1 of Schedule III of Foreign Exchange Management (Current
Account Transactions) Rules, 2000, the following purposes are specified
for which remittance can be made:

Prior to May 2015, there was no limit on remittance for
Current Account transaction. Since May 2015, the limit has been brought
in. Item (ix) above seems to be a misplacement in the Current Account
Transaction rules. This raises some difficulties. Import of goods is a
Current Account transaction. An individual who is doing trading business
in his individual name could import goods worth crores of rupees. Now
can he import above the LRS limit? The view is that for Import, there is
a separate Master Direction laying down procedures and compliances.
Under that Master Direction, there is no limit for imports. Hence
whatever is covered under the Master Direction on Imports, can be
undertaken freely. All other expenses are restricted by the LRS limit.
Thus, expenses for services, travel, etc. will be restricted by the LRS
limit. It would be helpful if Central Government could come out with a
clarification.

We would like to state that India has accepted
Article VIII of the IMF agreement. Under the agreement, a country cannot
impose restrictions on Current Account transactions. However, some
reasonable restrictions can be placed. This is the stand adopted by
India also (refer Section 5 of FEMA). Under this section, a person is
allowed to draw foreign exchange for a Current Account Transaction.
However, the Government can impose some “reasonable restrictions”. This
can mean restrictions on some kinds of transactions or imposition of
some conditions. However, a blanket ban above US$ 2,50,000 on all
current account transactions may not come within the purview of
“reasonable restrictions”. A business entity owned by an individual can
remit any amount for a Current Account Transaction. But the same
individual cannot, if he is doing business in his individual name
(except import of goods and services). In our view, this is not logical.

Specified current account transactions allowed without any limit:

i) Expenses for emigration are permitted without limit. However,
remittances for making an investment or for earning points for the
purpose of an emigration visa are not permitted beyond the LRS limit.

ii)
For medical expenses and studies abroad also, one can incur expenses
more than the LRS limit subject to an estimate given by the hospital/
doctor or the educational institution.

2.2.4 Capital Account Transactions

– The permitted Capital Account transactions can be referred to in
Clause 6 – Part A of the Master Direction on LRS dated 24th August 2022.
Earlier the list was a little more elaborate. Now the list is truncated
after the Overseas Investment Rules have been enacted. The permitted
transactions are:

The LRS is primarily used for opening bank accounts, portfolio
investment, acquiring immovable property and giving loans abroad. Prior
to 24th August 2022, the circular referred to specific kinds of
securities – listed and unlisted shares, debt instruments, etc. Now the
reference has been made to Overseas Portfolio Investment (OPI)
and Overseas Direct Investment (ODI) under the New Overseas Investment
regime. This is discussed more in detail in para 2.2.5 below.

It may be noted that a foreign currency account cannot be opened in a bank
in India or an Offshore Banking Unit. The bank account should be outside
India.

2.2.5 Overseas Portfolio Investment (OPI) – OPI has been defined in Rule 2(s) of OI Rules to mean “investment, other than ODI, in foreign securities, but not in any unlisted debt instruments or any security issued by a person resident in India who is not in an IFSC”.
(It has been clarified that even after the delisting of securities, the
investment in such securities shall continue to be treated as OPI until
any further investment is made in the entity.)

Basically, OPI
means investment in foreign securities. Then, there are exclusions to
the same – ODI, unlisted debt instruments and securities issued by a
resident [except by a person in the International Financial Services
Centre (IFSC)].

ODI includes investment in the unlisted equity capital
of a foreign entity. Equity Capital includes equity shares and other
fully convertible instruments as explained under Rule 2(e) of OI Rules.
Thus, now it is clear that investment even in a single unlisted share of
a foreign entity falls under ODI and it requires separate compliance.

Listed foreign securities have not been defined. However, “listed foreign
entity” has been defined in Rule 2(m) of OI Rules to mean “a foreign
entity whose equity shares or any other fully and compulsorily convertible instrument is listed on a recognised stock exchange outside India.”

Para
1(ix)(a) of OI Directions provides further prohibitions under OPI which
are not covered under the OI Rules. It provides that OPI is not
permitted in derivatives and commodities.

This brings out the following:

OPI means Investment in foreign securities. However, investment in the following are not covered under OPI:

i) Investments considered as ODI:

a) Investment in unlisted equity capital;

b) Subscription to Memorandum of Association;

c) Investment in 10% or more of listed equity capital;

d) Investment of less than 10% of listed equity capital but with control in the foreign entity.

ii) Unlisted debt instruments.

iii) Security issued by a person resident in India (excluding a person in an IFSC).

iv) Derivatives unless specifically permitted by RBI.

v) Commodities including Bullion Depository Receipts.

Debt instruments are defined in clause (A) of Rule 5 of OI Rules. These mean:

i) Government bonds.

ii) Corporate bonds.

iii) All tranches of securitisation structure which are not equity tranches.

iv) Borrowings by firms through loans.

v) Depository receipts whose underlying securities are debt securities.

Other investments:
Apart
from listed securities, investment is permitted in units of mutual
funds, venture funds and other funds which can be considered as “foreign
securities”.

Investment in Gold (precious metal) bonds is not permitted as it amounts to a corporate bond.

Buying physical gold or other precious metals outside India is also not permitted under LRS.
Also, see para 2.2.12 for more prohibitions under LRS.

2.2.6 Bank fixed deposits

– Is investment in fixed deposits of banks permitted? Can these be
considered as loans? Extending loans is specifically permitted under
LRS. What is prohibited is borrowing by firms. Banks are not firms.
These are companies.

Bank FDs are also not corporate bonds.
Bonds have a specific meaning. It means a security or an instrument
which can be transferred. A bank FD cannot be transferred.

However,
OPI means investment in foreign securities. A Bank Fixed Deposit is not
a “security”. Hence in our view, keeping funds in Bank FDs is not
considered as OPI.

One view is that bank fixed deposit is like a bank balance. Hence funds remitted under LRS may be kept in bank fixed deposits.
However, funds remitted abroad have to be used within 180 days. (See
para 3 for more discussion). Hence such FDs cannot be held beyond 180
days and should be used for some permitted purpose within 180 days.

2.2.7 Unlisted shares of a foreign company – A background:

From 2004 till 22nd August 2022, the Master Directions were abundantly clear that investment under LRS could be made in unlisted and listed equity shares. However, vide A.P. Circular 57 dated 8th May 2007, the RBI introduced the sentence – “All other transactions which are otherwise not permissible under FEMA …… are not allowed under the Scheme.”
Under this clause, RBI took a view that investment in unlisted shares
was not permitted. According to RBI, investment in unlisted shares was
permitted only as per ODI rules applicable at that time (Old ODI Regime
under FEMA Notification 120 which was in effect before 22nd August
2022). Under those rules, individuals were not permitted to make
business investments outside India. Hence, investments made by resident
individuals in unlisted foreign companies to undertake business were
considered as a violation. With due respect, the stand taken by RBI does
not go in line with the language of the Master Directions – right till
22nd August 2022. All penalties imposed for investment in unlisted
shares by resident individuals – are not in keeping with the law – FEMA.

The phrase “which are otherwise not permissible” applies
to all investments. For example, investment in immovable property
abroad is otherwise not permissible. But under LRS it is permissible.
Loans abroad are otherwise not permissible. But under LRS they are
permissible. The LRS was supposed to apply in addition to all existing facilities.
In Master Circular on Miscellaneous Remittances from India – Facilities
for Residents dated 1st July 2008, the phrase was amended to “The facility under the Scheme is in addition to those already included in Schedule III of Foreign Exchange Management (Current Account Transactions) Rules, 2000”. From May 2015, the Current Account Rules were changed and from Master Circular dated 1st July 2015 onwards, the phrase “in addition to”
has been dropped. However, the fact remains that till 22nd August 2022
investment in unlisted shares was permitted as per Master Direction.
From 23rd August 2022, the phrase “unlisted shares” was dropped in the
Master Direction.

On representation, RBI formally introduced the
scheme of ODI for resident individuals from August 2013 (generally
called “LRS-ODI”). It permitted individuals to invest in unlisted shares
of a foreign company having bonafide business subject to compliances
pertaining to ODI. However, RBI considered investments made prior to
August 2013 as a violation which required compounding. This did leave a
bad taste for Indian investors.

Thus, now the investment in
unlisted securities is covered under the ODI route and has a separate
set of rules and compliances. This was the position since August 2013
under the Old ODI regime as well as under the New OI regime notified on
22nd August 2022. It is not dealt with more in this article as that is a
subject by itself.

2.2.8 Listed securities abroad of Indian companies – Up to Master Circular dated 1st July 2015, the language was that investment could be made under “assets” outside India.
It did not specifically state that investment could be only in
securities of foreign entities. Hence investment made in say GDRs or
securities of Indian companies listed abroad was possible. Later, Master
Circulars were replaced with Master Directions. From Master Direction
dated 1st January 2016, it was provided that investment could be in “shares of overseas company”. Hence, it should be noted that under LRS, an individual can invest in listed securities of a foreign entity.
One cannot invest in securities of an Indian company which are listed
abroad. Some people have invested in bonds of Indian companies listed
abroad. Such investments are not permitted under LRS. One should sell
such investments and apply for compounding of offence. Under the OI
Rules as well, investment in securities issued by a person resident in
India is not permitted under OPI. There is only one exclusion to the
prohibition – investment in securities issued by an entity in IFSC is
allowed.

2.2.9 Investment in permissible security of an entity in IFSC is permitted under LRS. Under the Notification No. 339 dated 2.3.2015, any entity in an IFSC is treated as a non-resident.

OPI as discussed in para 2.2.5 above means investment …. in foreign securities, but not in any unlisted debt instruments or any security issued by a person resident in India who is not in an IFSC”.
This language creates some confusion. Investment is not permitted in
any security issued by an Indian resident which is not in IFSC. Does it
mean that investment in any security such as “unlisted debt instrument”
issued by an entity in IFSC is permissible? We would not take such a
view. One has to equate an IFSC entity with a foreign entity. Whatever
security of a foreign entity one can invest in, similar security of an
IFSC entity can be invested in. Thus, investment should be in assets
discussed in paras 2.2.4 and 2.2.5.

2.2.10 Extending Loans:
Under LRS, extending loans to non-residents is allowed. However, this
is allowed in the case of outright loans to third parties. For instance,
Mr. A (an Indian resident) can give a loan to his friend Mr. B (a US
Resident) or to B Inc (a US company).

However, if Mr. A has made
ODI in the USA (whether in his individual capacity or through an Indian
Entity), then a loan by Mr. A to the investee entity in the USA is not
considered under LRS. Mr. A will have to comply with the ODI Rules in
such a case. Under ODI Rules, only equity investment can be made by
individuals. One cannot take a view that investment in equity of a
foreign entity will be under ODI and loan to that entity will be under
LRS. If there is any equity investment in a foreign entity as ODI, then
all conditions of the ODI route shall be fulfilled. Hence, no loan can
be given.

2.2.11 Transactions in Indian rupees – Indian
residents are allowed to give gifts and loans to NRI/ PIO relatives (as
defined under the Companies Act 2013) in rupees in their NRO account.

Para
6(iii) of the Master Direction initially refers to NRIs. Later, it has
been clarified that gifts and loans can be given to PIOs also (i.e.,
foreign citizens but Persons of Indian Origin).

It was represented to RBI that under LRS, foreign exchange can be remitted
outside India to anyone. However, if payment has to be made in rupees in
India, it is not permitted! RBI has since then permitted gifts and
loans in rupees in India but only to NRI/PIO relatives within the
overall LRS limit.

2.2.12 Prohibited transactions – Apart from restrictions discussed in para 2.2.5, the following transactions are prohibited:

i) Transactions specified in Schedule I and Schedule II of Current
Account Transactions Rules. This includes remittances for lottery
tickets, banned magazines, etc.

ii) Remittances to countries identified by FATF as non-co-operative countries.

iii) Remittance for margin trading. Thus, dealing in derivatives and options is not permitted.

iv) Trading in foreign exchange. (This is stated in FAQs updated up to 21.10.2021. No other document states this.)

3. Retaining funds abroad:

3.1 Background: This is the most important change in the LRS.

The individual who has remitted funds under LRS can primarily retain
the same abroad, reinvest the funds and retain the income earned from
such investments abroad. This has now undergone a change with effect
from 24th August 2022. The change has been carried out without any
specific announcement.

The Overseas Investment rules and
regulations were notified on 22nd August 2022. The Master Direction on
LRS was amended on 23rd August 2022 to factor in the changes in capital
account transactions as per the OI Rules as explained in paras 2.2.4 and
2.2.5 above. Paragraph 16 of the Master Direction amended on 23rd
August 2022 stated that – “Investor, who has remitted funds under LRS
can retain, reinvest the income earned on the investments. At present,
the resident individual is not required to repatriate the funds or
income generated out of investments made under the Scheme.” Till
23rd August 2022 funds remitted under LRS and income from the same could
be retained and used abroad without any restrictions.

The Master
Direction on LRS was amended again on 24th August 2022 (just one day
later). This amendment includes an important change in the scheme and
has been dealt with in the next para 3.2.

3.2 Main amendment: Under the LRS Master Direction amended on 24th August 2022, Paragraph 16 provides the following:

“Investor, who has remitted funds under LRS can retain, reinvest the income earned on the investments. The received/realised/unspent/unused foreign exchange, unless reinvested, shall be repatriated and surrendered to an authorised person within a period of 180 days
from the date of such receipt/ realisation/ purchase/ acquisition or
date of return to India, as the case may be, in accordance with
Regulation 7 of Foreign Exchange Management (Realisation, repatriation
and surrender of foreign exchange) Regulations, 2015 [Notification No.
FEMA 9(R)/2015-RB]”.

It is provided that the received or
realised or unspent or unused foreign exchange should be repatriated to
India, unless it is reinvested. The time limit of 180 days is provided.
This condition of repatriating the unused or uninvested funds back to
India within 180 days is a major change. No specific announcement was
made. It was simply brought in the Master Direction on 24th August 2022.

The language is broad. The terms “received” and “realised” can
refer to the amount received on sale of investment, or income on
investment. The terms “unspent” and “unused” can refer to amount
received on sale of investments, or income on investment, or amount remitted from India under the LRS. The amounts have to be reinvested within 180 days from the date of receipt, realisation, acquisition or purchase of foreign exchange.

While the word “reinvested” is used, it cannot be mandatory that the funds
should only be “reinvested”. The intention seems to be that funds should
not be parked idle. They should be “reinvested” or “used” within 180
days. Let us assume a person makes an investment under LRS, then sells
the same and receives the sale proceeds. These proceeds can be used for
any permitted Current Account Transaction (expenditure) or Capital
Account Transaction (investment) within 180 days. That is the purpose of
LRS. Here also it will be helpful if RBI could provide a clarification.

3.3 Retrospective amendment: The requirement to
repatriate the idle funds within 180 days applies not only to fresh
remittances but also to the existing funds lying abroad which were
remitted before 24th August 2022. It is effectively a retrospective amendment. Many people are not aware of this.

Let
us take a case where funds were remitted under LRS since 2018 and funds
were lying idle in the bank account since then. These are unspent funds
and the amendment made on 24th August 2022 applies to such funds as
well. Hence, the person will have 180 days to invest the funds from 24th
August 2022. If it is not done, the funds should be repatriated.

Thus, by 19th Feb 2023 the funds remitted prior to 24th Aug 2022 had to be
utilised, if they were lying unspent or unutilised. If the funds are not
used by then and are still lying abroad, it is a contravention of FEMA.

3.4 Issues: This will cause difficulties for several people. Let us consider some issues.

3.4.1 Small amounts to be tracked and invested: The
income earned on investments abroad should also be invested abroad
within 180 days, or these should be remitted back to India. The income
on LRS funds could be small. Let us take a case where funds are remitted
to a brokerage account in the USA and investment is made in listed
shares. A small amount of income is received and lying in the brokerage
account. Or some funds are kept in the brokerage account to pay an
annual fee. One will have to keep track of all these incomes and
reinvest them. Keeping such a track and investing small funds is
difficult. Further remittance of funds to India also costs money by way
of bank charges, etc.

3.4.2 Time-consuming investments: Let
us consider another case. Let us say the person has purchased a flat
and after few years, he sells the same. He would like to buy another
flat abroad. The sale proceeds of the first flat should be used within
180 days. Either he should buy the flat or invest the funds in permitted
investments. At times, to finalise the transaction for a flat takes lot
of time. Therefore, one will have to plan to invest within 180 days
from the sale of flat.

3.4.3 Consolidation of funds over multiple years for high-value investments:

Some people have sent funds over a few years to buy an immovable property
abroad as one year’s limit under LRS may not be sufficient. However,
with the 180 days’ time limit, the accumulation of funds is not
possible. In such cases, the funds remitted abroad should be invested in
portfolio investment. And when the funds are sufficient to buy the
property, the securities can be sold. This however means that the person
undertakes risks associated with the securities. A fall in prices of
the securities will jeopardise the purchase of property.

3.5 Can the person invest the funds in bank fixed deposits?

See
para 2.2.6 above where it is stated that Bank FDs do not fall within
the definition of OPI. Remitting funds under LRS and keeping them in
Bank FDs for up to 180 days is all right. However, bank fixed deposits
are not securities and can be considered equivalent to funds in a bank
account. Hence, in our view, placing funds in bank fixed deposits will
not be considered an “investment” of funds. It will be ideal if RBI
comes out with a clarification on the same.

3.6 Some cases where the 180-day limit will not apply:

As mentioned in para 2.2.4, Indian residents can give loans and gifts
to NRI relatives. Here, there is no question of utilising foreign
exchange. Hence there is no limit of 180 days or any other time period.
The limit of 180 days applies only for foreign exchange remitted abroad
or lying abroad.

Let us take another illustration. A student
remits funds under LRS for education purposes to his foreign bank
account. Before leaving India, he is an Indian resident. All funds may
not be utilised within 180 days. Some funds may be lying for ongoing and
future expenses. However, when the student leaves India for education
abroad, he becomes a non-resident. In such a case, the 180-day limit
will not apply. Once a person is a non-resident, the funds outside India
are not liable to FEMA restrictions. Hence, the condition of
repatriating the funds within 180 days will not apply.

3.7 Consequences of violation:

What are the consequences of a violation of not using the funds within
180 days? The person concerned has to apply for compounding. Compounding
is a process under which the person concerned admits to the violation.
RBI then levies a penalty for the violation. There is no option to pay
Late Submission Fee (LSF) and regularise the matter. LSF is for delays
in submitting the documents/forms.

There is however, a hitch. Before applying for compounding, the transactions have to be regularised. How does one regularise?

Regularising
means doing something now, which should have been done earlier. In our
view, the violation can be regularised in two manners – one is by
remitting the funds back to India. The other is to invest/use the funds
abroad as permitted – although with a delay. It is however doubtful
whether utilising the funds after the 180-days’ period will be
considered as regularisation. It will be better for the funds to be
repatriated to India. Once the funds are repatriated, a Compounding
Application should be filed with RBI.

3.8 Alternate views:

3.8.1
There is a view that the provision of use of funds within 180 days
applies to an “investor” only (see para 16 of Master Direction). Thus,
if funds are remitted by an investor for investment, one has to use the funds within 180 days. Whereas, if a person has remitted the funds for expenses
such as education, one can use the funds beyond 180 days also. However,
the language does not suggest such an intention. While the provision
starts with the term “investor”, the provision goes on further to add
that the funds have to be surrendered to the bank “in accordance with
Regulation 7 of Foreign Exchange Management (Realisation, repatriation
and surrender of foreign exchange) Regulations, 2015 [Notification No.
FEMA 9(R)/2015-RB]”. Regulation 7 of Notification 9(R) provides as under:

“A person being an individual resident in India shall surrender the
received/realised/unspent/unused foreign exchange whether in the form of
currency notes, coins and travellers cheques, etc. to an authorised
person within a period of 180 days from the date of such
receipt/realisation/purchase/acquisition or date of his return to India,
as the case may be.”

Regulation 7 applies to all individual
Indian residents and for all purposes. Hence even if the funds have been
remitted for expenses, they have to be utilised within 180 days.
Otherwise, the same should be remitted to India.

3.8.2 There is
another view as to when is the amount to be considered as unused/
unspent. The view is that once the amount is remitted abroad, it has to
be used on the first day. If it is not used on the first day, then it is
unused/unspent. If it unused/unspent, it has to be remitted back to
India. The time of 180 days is only to remit the funds back to India.

While
literal reading suggests this – in our view, this is neither the
correct interpretation, nor the intention. One cannot use the funds on
day one. It takes time for the funds to be used. If the funds are not
used within 180 days, then they have to be remitted back to India.

4. Some more issues:

4.1 Purpose Codes: At
the time of remittance, one has to state the purpose code in the form.
For example, one mentions the purpose code as S0023 (remittance for
opening a bank account abroad). After remittance, can the funds be used
for investment in shares? Or the purpose code stated is investment in
real estate (S0005) and one is not able to invest in real estate within
180 days, and hence invested in shares. Can it be done? Technically it
could be considered an incorrect purpose code. However, if one considers
the substance of LRS, remittance for any permitted purpose is allowed.
One may have the original intention for one purpose, but then the
purpose has changed, and it should be all right. After the remittance of
funds, change of use has always been permitted. Assume that a person
has remitted the funds to open a bank account abroad. Under the present
LRS scheme, funds have to be used within 180 days. To comply this
condition, funds are invested. This means the “use of funds” has changed
from keeping funds in bank account to investment. Or the funds are sent
for investment in shares, and then the shares are sold. Does it mean
the sale proceeds have to be reinvested only in shares? No. The funds
have to be used or reinvested for any permissible purpose.

It
will be better that after remitting the funds for the first time, if
there is a change in the use, one should write to the bank and inform
the change of use. This is however out of abundant caution. In substance
after sending the funds, the same can be used for any permitted
purpose. Also see para 3.2 of Part B on TCS provisions.

4.2 Joint holding:

There are people who open bank accounts and make investments in joint
names. Investment is made by one person (say the first holder). Funds
belong to the first holder. That is how it is declared in the income tax
returns. However, to take care of situations where the investor dies or
becomes incapacitated, the account or the investment is held in the
joint name. Otherwise, the funds may be blocked. The process of
producing a Will or succession document is a time-consuming process. So,
the second name is added for the sake of convenience. Hence in our
view, holding an investment or bank account in a joint name is all
right. It is a prudent step. There cannot be any objection to this.

5. Co-ownership and Consolidation of funds:

5.1 Co-ownership

– Assume that funds are sent by two or more relatives in one bank
account. From there investment has to be made. It is necessary that the
investment should be made in the proportion in which the funds are
remitted. Assume that Mr. A remits US$ 1,00,000 and Mrs. A remits US$
50,000, and together they invest US$ 1,50,000 in shares. The holding
ratio in the shares should be 2:1 between Mr. A and Mrs. A. If the
investment holding is 50:50, it means Mr. A has given a gift to Mrs. B.
Gift outside India from one resident to another resident is an
impermissible transaction. It will become a violation.

5.2 Consolidation of funds

– Master Direction prior to 23rd August 2022 permitted consolidation of
remittances by the family members. It further provided that clubbing is
not permitted by family members if they are not the co-owners of bank account/ investment/ immovable property. Here, the condition for co-ownership does not mean being just a co-owner. It means that ownership ratio in the asset should be commensurate with the ratio in which payment is made.
This is prima facie in line with the LRS that the owner should remit
the funds. If another person becomes the owner without remitting the
funds it is as good as a gift from the person who has remitted the
funds. This is different from being a joint holder (without remittance
or payment) for the sake of convenience discussed in para 4.2 above.

It may be noted that “family members” have not been explained. It should
be considered as a family comprising relatives under the Companies Act
2013.

5.3 Consolidation of funds for acquiring immovable property

– The amended Master Direction on LRS has retained the above-mentioned
condition of consolidation of funds and co-ownership. However, the
reference to the immovable property has been removed. The Master
Direction has stated that remittances for the immovable property should
be in accordance with OI rules.

Under the OI rules, an Indian
resident can acquire immovable property by remitting funds under LRS.
Further, an Indian resident can acquire property as a gift from another
resident also, subject to the condition that the donor should have
acquired such property in line with FEMA provisions applicable at the
time of acquisition.

Further, proviso to Rule 21(2)(ii)(c) of OI Rules states that “such
remittances under the Liberalised Remittance Scheme may be consolidated
in respect of relatives if such relatives, being persons resident in
India, comply with the terms and conditions of the Scheme”.

Does this mean that relatives can consolidate/ club the remittances, but
property can be owned by one person? As discussed above, an Indian
resident cannot gift funds to another Indian resident outside India.
When consolidated funds are remitted, purchase by one person actually
amounts to a gift of funds – which is not permitted. If the property is
acquired and then later the share in the property is gifted, it is
permissible.

However, if one considers the draft rules on Overseas investment published in 2021 for public consultation, it
provided that if funds were consolidated, the immovable property has to
be co-owned. In the final OI rules notified by Central Government and
the amended Master Direction, the language is different. The condition
of co-ownership is not present for the purchase of immovable property
abroad. While it seems like a specific amendment to relax the condition
for co-ownership, it does not come out clearly that funds can be
remitted by relatives but property can be purchased by one person.

At present, where remittances are consolidated amongst relatives, one
should avoid purchasing immovable property without complying with the
condition of co-ownership. It will be helpful if RBI can provide a
specific clarification.

5.4 In some cases, banks have permitted remittance under LRS from one account of an individual for say
4 different people by obtaining PAN of all 4 people. This is incorrect.
Remittance is not based on PAN. It is per person. One individual
can remit only up to the LRS limit and that too for himself/ herself.
If funds have to be remitted by other Indian resident family members,
then the account holder should first gift the funds to others and then
others may remit the funds from their account. Of course, if the bank
account is a joint account and funds in that account belong to all joint
holders, then each joint holder can remit up to the balance available
under his ownership. Consolidated funds can be remitted subject to what
has been discussed in para 5 above. In such cases, one should keep a
proper account of the funds, ownership and remittances.

Summary:

LRS was started in the year 2004 as the first step towards capital account
convertibility of the rupee. Subsequent amendments have imposed too many
conditions and restrictions. This clearly goes back from
liberalisation.

B. INCOME-TAX ACT – TAX COLLECTION AT SOURCE ON REMITTANCES UNDER LRS:

1. Provisions in force till 30th June 2023:

1.1 Basic provision:

Sub-section (1G) was introduced in Section 206C vide Finance Act, 2020
w.e.f. 1st October 2020. It provides for Tax Collection at Source (TCS)
at the rate of 5% on remittances out of India under LRS. There is
a threshold of INR 7,00,000 for the same, i.e., there is no TCS on
remittances up to INR 7,00,000. The rate of 5% is applicable for amount
in excess of Rs. 7,00,000. It should be noted that TCS is applicable per
person per financial year.

Thus, the bank which sells foreign exchange to the individual for remittance under LRS, will collect tax @
5% over and above the rupee amount required for sale of foreign
exchange. This TCS is like an advance tax. The individual can claim the
TCS as tax paid while filing his income-tax return. Many laymen are
under the impression that this is a straight loss. However, that is not
the case. The issue is that the funds of the person get blocked for some
time.

1.2 Non-applicability of TCS:

1.2.1 Remittance not covered under LRS: TCS applies only where remittance is made under the LRS. For instance – if
an NRI remits funds from his NRO/ NRE Account, TCS will not apply in
such case. It is because this is not a remittance under LRS. Similarly,
TCS is not applicable to remittances by persons other than individuals.

1.2.2 Remitter liable to TDS: It has been provided that if the remitter is liable to deduct tax at
source under any provisions of the Income-tax Act, and has deducted such
tax, then this TCS provision will not apply. The intention seems that
TCS is not applicable only if the remitter is liable to deduct tax at
source on the “concerned LRS remittance” and has deducted the same.

However, the language is not clear whether the remitter should be liable to
deduct tax at source on “the concerned remittance under LRS” or “any
transaction”. The literal reading suggests that it is not necessary that
TDS should be applicable on the concerned LRS remittance. The person
may be liable to deduct tax at source on any payment. Consider some
examples. Some individuals have to deduct tax at source where the
turnover or gross receipts from business/profession exceeds the
prescribed thresholds; or on purchase of immovable property u/s. 194-IA;
or on payment of rent u/s. 194-IB. These transactions on which TDS is
deductible are unrelated to the LRS remittance. The language suggests
that TCS is not applicable where the person has deducted tax at source
under any provisions. In our view, this is not the intention. It would
be better if the Government brings clarity in respect of the provision.

1.3. Concessional rate in case of loan taken for education:

A concessional rate of TCS @ 0.5% is applicable instead of 5% where:

the remittance is for the purpose of pursuing education; and
the amount being remitted is from loan funds obtained from a financial institution as defined u/s 80E.

In other words, if the remittance under LRS is made for the purpose of
education out of own funds then the concessional rate of TCS will not be
applicable and one needs to pay TCS @ 5 per cent.

1.4. Overseas Tour Program Package:

While the threshold of INR 7 Lakhs is prescribed for all purposes, such a
threshold is not applicable where the remittance is for the purpose of
an overseas tour program package. Hence, in such cases, TCS @ 5% is applicable without any threshold.

This is the position of TCS on remittances under LRS as of now. Let us take a look at the amendments proposed in Budget 2023.

2. Amendment vide Finance Act 2023 as passed by the Lok Sabha on 24.3.2023 – TCS rate to be increased to 20%:

2.1 Vide Finance Act 2023, the rate of TCS has been increased from the
existing 5% to 20% for remittances made under LRS w.e.f. 1st July 2023.

2.2 Further, the threshold of INR 7,00,000 has been restricted only to
cases where remittance is for the purpose of education or medical
treatment.

2.3 Consequently, the rate of TCS will now be 20% without any threshold for all purposes except education and medical treatment.

2.4 One more amendment is that the phrase “out of India” has been removed
for the purpose of TCS. Under the original provision, TCS was applicable
only where remittance was done “out of India” under LRS. As discussed
above in Para 2.2.11, LRS can be used for giving gift or loan in rupees
to NRI/ PIO relatives in their NRO account as well. In such case, TCS
was not applicable as per existing provision.

From 1st July 2023, TCS will be applicable on such rupee transfers as well. It is not
required that there is remittance out of India. It should be noted that
for rupee payments discussed in para 2.2.11 of Part A, there is no
mechanism to report to the bank. The remitter has to keep track of rupee
payments and see that all payments in rupees and foreign exchange
should be within the limits of LRS. For remittance abroad, formal
reporting must be made to the bank and thus bank will know that the
funds are being remitted under LRS. In the case of rupee payments, RBI
should work out a mechanism for reporting. Alternatively, the remitter
should himself provide the details to the bank and the bank should
collect TCS.

2.5 The concessional rate of 0.5% where remittance
is out of educational loan (discussed in Para 1.3 above) remains the
same after amendment.

The table below summarises the TCS rate for various transactions before and after the proposed amendment.

3. Other issues:

3.1 Payment through International Credit Cards:

It should also be noted that payments made by International Credit Card
(ICCs) for foreign tours or any other Current Account Transaction are
not captured within the purview of LRS. The limit of LRS, of course,
applies whether payment is made through bank transfer or through ICC.
There is however no mechanism to collect TCS when payment is made by
ICC.

Finance Minister – Smt. Nirmala Sitharaman, while passing
the Finance Bill in Lok Sabha on 24th March 2023 has made a statement on
this. The Central Government has requested the RBI to develop a
mechanism to capture payment for foreign tours and TCS by ICC.

3.2 Change in use of funds – As mentioned in para 4.1 of Part A, the purpose can be changed after remitting the funds. This can have some issues.

Normally the TCS rate is 20%. If the purpose of remittance is changed to
education, the TCS should have been lower at 5%. As excess tax is
collected, there is no difficulty. In any case, TCS is like advance tax.
It will be claimed as such in the income tax return.

However, let us assume that funds are remitted for education and TCS is 5%. Later
the use is changed to investment, then there is a shortfall in the TCS.
Banks would of course have collected the tax based on declaration and
documents provided by the remitter. The change in use would not cause
any liability on the bank. Will it cause any liability on the remitter?
There should be no implication for a bonafide case. For example, The
original remittance was for education purpose but some funds could not
be used within 180 days. In order to comply with the condition of
investing the funds within 180 days, the funds were invested.
Subsequently the investments were sold and funds were used for
education. This should not be an issue. Even otherwise there is no
specific provision for change of use. Please note that we are discussing
bonafide change in use and not false declarations. Out of abundant
caution, the remitter may inform the bank on change of use and if
necessary, ask the bank to collect additional tax from him and pay the
same to the Government. It may even collect interest. The remitter will
in any case claim the additional TCS in his tax return.

Summary:

20% is a very high rate for TCS. There are no thresholds. The threshold of
INR 7 Lakhs has also been removed. Sometimes, remittances are made for
pure expenses or gift to relatives which do not lead to any potential
incomes. However, with the steep hike in its rate, it appears that the
government does not wish to encourage remittances under LRS. Hence it is
making remittances costlier.

Conclusion:

There are significant changes in the LRS in terms of inserting some
restrictions and disincentives. Before making remittances under the LRS,
one should carefully understand the implications and then go ahead with
the remittance.

(Authors acknowledge contributions from CA Rutvik Sanghvi, Ms. Ishita Sharma and CA Nidhi Shah.)

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