1. Foreign Exchange Laws in IndiaThe first law on Foreign Exchange in India was the Foreign Exchange Regulation Act, 1947which was enacted at that time with the specified objective to regulate the inflow of foreigncapital in the form of branches and concerns with the substantial non-resident interest, and theemployment of foreigners. Initially, the government policies aimed to preserve and consolidatethe freedom of India preventing any type of foreign domination, political or economic. With theprocess of rapid industrialization of the country the need was felt to conserve foreign exchangeas the country was facing severe balance of trade and balance of payment crisis. This led to theneed to solicit donors or Foreign Aid Givers. Thereafter, the recommendation of the PublicAccounts Committee and the Report of the Law Commission induced the Indian Government tore- direct the FERA act with the aim of conservation of foreign exchange rather than regulationof entry of foreign capital. Thus, the Foreign Exchange Regulation Act, 1973 was drafted withsome changes for the effective implementation of the Government policy, to fulfill the acuteshortage of foreign exchange in the country and removing the difficulties faced in the working ofthe previous enactment. FERA comprised several draconian provisions. Offences under FERAwere considered as criminal offences liable for imprisonment. Inflow of foreign capital hasimmensely contributed to accelerated industrial growth, balance of payments and economicgrowth and served as a panacea for Indias poor industrial and export performance. The ForeignExchange Regulation Act, 1973 was abolished and replaced by the Foreign ExchangeManagement Act, 1999 (FEMA). The Prevention of Money Laundering Act, 2002 was legislatedto prevent money-laundering and to provide for confiscation of property derived from, orinvolved in, money-laundering. he Foreign Exchange Regulation Act of 1973 (FERA) was repealed on 1st June, 2000. It was replaced by the Foreign Exchange Management Act (FEMA), which was passed in the winter session of Parliament in 1999. Enacted in 1973, in the backdrop of acute shortage of Foreign Exchange in the country, FERA had a controversial 27 year stint during which many bosses of the Indian Corporate world found themselves at the mercy of the Enforcement Directorate (E.D.). Any offense under FERA was a criminal offense liable to imprisonment, whereas FEMA seeks to make offenses relating to foreign exchange civil offenses. FEMA, which has replaced FERA, had become the need of the hour since FERA had become incompatible with the pro-liberalisation policies of the Government of India. FEMA has brought a new management regime of Foreign Exchange consistent with the emerging frame work of the World Trade Organisation (WTO). It is another matter that enactment of FEMA
2. also brought with it Prevention of Money Laundering Act, 2002 which came into effect recently from 1st July, 2005 and the heat of which is yet to be felt as “Enforcement Directorate” would be invesitigating the cases under PMLA too. Unlike other laws where everything is permitted unless specifically prohibited, under FERA nothing was permitted unless specifically permitted. Hence the tenor and tone of the Act was very drastic. It provided for imprisonment of even a very minor offence. Under FERA, a person was presumed guilty unless he proved himself innocent whereas under other laws, a person is presumed innocent unless he is proven guilty.Foreign Exchange Management Act (FEMA)When a business enterprise imports goods from other countries, Capital Accountexports its products to them or makes investments abroad, it deals in Transactionsforeign exchange. Foreign exchange means foreign currency and Current Accountincludes:- (i) deposits, credits and balances payable in any foreign Transactionscurrency; (ii) drafts, travellers cheques, letters of credit or bills ofexchange, expressed or drawn in Indian currency but payable in any foreign currency; and (iii)drafts, travellers cheques, letters of credit or bills of exchange drawn by banks, institutions orpersons outside India, but payable in Indian currency.In India, all transactions that include foreign exchange were regulated by Foreign ExchangeRegulations Act (FERA),1973. The main objective of FERA was conservation and properutilisation of the foreign exchange resources of the country. It also sought to control certainaspects of the conduct of business outside the country by Indian companies and in India byforeign companies. It was a criminal legislation which meant that its violation would lead toimprisonment and payment of heavy fine. It had many restrictive clauses which deterred foreigninvestments.In the light of economic reforms and the liberalised scenario, FERA was replaced by a new Actcalled the Foreign Exchange Management Act (FEMA),1999.The Act applies to all branches,offices and agencies outside India, owned or controlled by a person resident in India. FEMAemerged as an investor friendly legislation which is purely a civil legislation in the sense that itsviolation implies only payment of monetary penalties and fines. However, under it, a person willbe liable to civil imprisonment only if he does not pay the prescribed fine within 90 days fromthe date of notice but that too happens after formalities of show cause notice and personalhearing. FEMA also provides for a two year sunset clause for offences committed under FERAwhich may be taken as the transition period granted for moving from one harsh law to the otherindustry friendly legislation.Broadly,the objectives of FEMA are: (i) To facilitate external trade and payments; and (ii) Topromote the orderly development and maintenance of foreign exchange market. The Act hasassigned an important role to the Reserve Bank of India (RBI) in the administration of FEMA.The rules,regulations and norms pertaining to several sections of the Act are laid down by the
3. Reserve Bank of India, in consultation with the Central Government. The Act requires theCentral Government to appoint as many officers of the Central Government as AdjudicatingAuthorities for holding inquiries pertaining to contravention of the Act. There is also a provisionfor appointing one or more Special Directors (Appeals) to hear appeals against the order of theAdjudicating authorities. The Central Government also establish an Appellate Tribunal forForeign Exchange to hear appeals against the orders of the Adjudicating Authorities and theSpecial Director (Appeals). The FEMA provides for the establishment, by the CentralGovernment, of a Director of Enforcement with a Director and such other officers or class ofofficers as it thinks fit for taking up for investigation of the contraventions under this Act.FEMA permits only authorised person to deal in foreign exchange or foreign security. Such anauthorised person, under the Act, means authorised dealer,money changer, off-shore bankingunit or any other person for the time being authorised by Reserve Bank. The Act thus prohibitsany person who:- Deal in or transfer any foreign exchange or foreign security to any person not being an authorized person; Make any payment to or for the credit of any person resident outside India in any manner; Receive otherwise through an authorized person, any payment by order or on behalf of any person resident outside India in any manner; Enter into any financial transaction in India as consideration for or in association with acquisition or creation or transfer of a right to acquire, any asset outside India by any person is resident in India which acquire, hold, own, possess or transfer any foreign exchange, foreign security or any immovable property situated outside India.The ActCapital Account TransactionsCapital account transaction is defined as a transaction which:- Alters the assets or liabilities, including contingent liabilities, outside India of persons resident in India. In other words, it includes those transactions which are undertaken by a resident of India such that his/her assets or liabilities outside India are altered ( either increased or decreased). For example:- (i) a resident of India acquires an immovable property outside India or acquires shares of a foreign company. This way his/her overseas assets are increased; or (ii) a resident of India borrows from a non-resident through
4. External commercial Borrowings (ECBs). This way he/she has created a liability outside India. Alters the assets or liabilities in India of persons resident outside the India. In other words, it includes those transactions which are undertaken by a non-resident such that his/her assets or liabilities in India are altered (either increased or decreased). For example, (i) a non-resident acquires immovable property in India or acquires shares of an Indian company or invest in a Wholly Owned Subsidiary or a Joint Venture with a resident of India. This way his/her assets in India are increased; or (ii) a non-resident borrows from Indian housing finance institute for acquiring a house in India. This way he/she has created a liability in India. The Act also contains a list of some of the most common capital account transactions:- Transfer or issue of any foreign security by a person resident in India; Ttransfer or issue of any security by a person resident outside India; Transfer or issue of any security or foreign security by any branch, office or agency in India of a person resident outside India; Any borrowing or lending in rupees in whatever form or by whatever name called; Any borrowing or lending in rupees in whatever form or by whatever name called between a person resident in India and a person resident outside India; Deposits between persons resident in India and persons resident outside India; Export, import or holding of currency or currency notes;
5. Transfer of immovable property outside India, other than a lease not exceeding five years, by a person resident in India; Acquisition or transfer of immovable property in India, other than a lease not exceeding five years, by a person resident outside India; Giving of a guarantee or surety in respect of any debt,obligation or other liability incurred- (i) By a person resident in India and owed to a person resident outside India; or (ii) By a person resident outside India.The Act has empowered the Reserve Bank of India (RBI) to specify, in consultation with theCentral Government, the permissible capital account transactions and the limits upto whichforeign exchange may be drawn for these such transactions. But it shall not impose anyrestriction on the drawal of foreign exchange for payments due on account of amortization ofloans or for depreciation of direct investments in the ordinary course of business.Accordingly, the RBI has issued notifications governing capital account transaction. The FEMANotification No. 1/2000 dated 3-5-2000 contains the list of permissible capital accounttransactions as well as list of prohibited capital account transactions.The permitted capital account transactions have been classified into two categories:- Capital account transactions by persons resident in India includes, Investment in foreign securities; Foreign currency loans raised in India and abroad; Acquisition and transfer of immovable property outside India; Guarantees issued in favour of a person resident outside India;
6. Export, import and holding of currency or currency notes; Loans and overdrafts (borrowings) from a person resident outside India; Maintenance of foreign currency accounts in India and outside India; Taking out the insurance policy from an insurance company outside India; Remittance outside India of capital assets of a person resident in India; Sale and purchase of foreign exchange derivatives in India and abroad and commodity derivatives abroad. Capital account transactions by non- residents includes, Investment in India such as (i) issue of security by a body corporate or an entity in India and investment therein by a non-resident and (ii) investment by way of contribution to the capital of a firm or a proprietary concern or an association of persons in India; Acquisition and transfer of immovable property in India; Guarantee in favour of, or on behalf of, a person resident in India;
7. Import and export of currency/currency notes into/from India; Deposits between a person resident in India and a person resident outside India; Foreign currency accounts in India of a non-resident; Remittance of the assets in India held by a non-resident.There are generally two types of prohibitions on capital account transactions :- General Prohibition:- A person shall not undertake or sell or draw foreign exchange to or from an authorized person for any capital account transaction. This prohibition is subjected to the conditions specified by Reserve Bank in its circulars and notifications. For example, Reserve Bank of India has issued an AP (DIR) Circular, wherein a resident individual can draw from an authorized person foreign exchange up to US$ 25,000 per calendar year for a capital account transaction specified in Schedule I to the Notification. Special Prohibition:- A non resident person shall not make investment in India in any form, in any company or partnership firm or proprietary concern or any entity, whether incorporated or not, which is engaged or proposes to engage:- (i) in the business of chit fund, or (ii) as Nidhi Company, or (iii) in agricultural or plantation activities or (iv) in real estate business, or construction of farm houses or (v) in trading in Transferable Development Rights (TDRdeals with two types of foreign exchange transactions.Current Account TransactionsThe Act defines the term current account transaction as a transaction other than a capitalaccount transaction and without prejudice to the generality of the foregoing such transactionincludes, Payments due in connection with Foreign trade,
8. Other current business Services, and Short-term banking and credit facilities in the ordinary course of business; Payments due as Interest on loans and Net income from investments, Remittances for living expenses of parents, spouse and children residing abroad, and Expenses in connection with Foreign travel, Education and Medical care of parents, spouse and children.In the above definition, the words “without prejudice to the generality of the foregoing suchtransaction includes” imply that even if the transactions listed above may fit into the definition ofcapital account transactions, such transactions shall be treated current account transactions. Forexample, resident of India imports goods from outside India on a short term credit (for a periodof less than 6 months), he is creating a liability outside India and thus, it can be treated a capitalaccount transaction but, it is specifically included in the above definition as a current accounttransaction.As a general rule, any person may sell or draw foreign exchange if such sale or drawal is acurrent account transaction. Under the Act, Central Government may, in public interest and inconsultation with the Reserve Bank, impose such reasonable restrictions for current accounttransactions as may be prescribed. Accordingly, the Central Government has issued the ForeignExchange Management (Current Account Transaction) Rules, 2000. It contains the list of currentaccount transactions for which drawal of foreign exchange is:-
9. Totally prohibited; Permitted, subject to the prior approval of concerned Ministry, Central Government; Permitted, subject to prior approval of the Reserve Bank of India; No restrictions or limits are applicable for undertaking the transactions that are not covered by the above rules and the authorized dealers are free to release foreign exchange upon the satisfaction that the transactions will not involve and is not designed for the purpose of, violation of the Act, or any rules, regulations made thereunder.In todays changed scenario, Indian rupee has become fully convertible so far as current accounttransactions are concerned. This implies that foreign exchange is freely available to the residentsfor remittance on account of current account transactions for the various purposes like foreigntravel, foreign education, and medical treatment abroad etc. The non residents are also freelyallowed to remit outside India the income or capital gain generated in India. But, even today, theIndian rupee, in respect of capital account transactions, is not fully convertible.DOUBLE TAXATION LAWSDouble taxation occurs when an individual is required to pay two or more taxes for the sameincome, asset, or financial transaction in different countries. Double taxation occurs mainly dueto overlapping tax laws and regulations of the countries where an individual operates hisbusiness. When an Indian businessman makes a profit or some other type of taxable gain in anothercountry, he may be in a situation where he will be required to pay a tax on that income in India,as well as in the country in which the income was made! To protect Indian tax payers from thisunfair practice, the Indian government has entered into tax treaties, known as Double TaxationAvoidance Agreement (DTAA) with 65 countries, including U.S.A, Canada, U.K, Japan,Germany, Australia, Singapore, U.A.E, and Switzerland. DTAA ensures that Indias trade andservices with other countries, as well the movement of capital are not adversely affected.Capital gain tax ratesUnder Section 90 and 91 of the Income Tax Act, relief against double taxation is provided intwo ways:Unilateral ReliefUnder Section 91, the Indian government can relieve an individual from double taxationirrespective of whether there is a DTAA between India and the other country concerned.Unilateral relief may be offered to a tax payer if:
10. 1. The person or company has been a resident of India in the previous year. 2. The same income must be accrued to and received by the tax payer outside India in the previous year. 3. The income should have been taxed in India and in another country with which there is no tax treaty. 4. The person or company has paid tax under the laws of the foreign country in question.Bilateral ReliefUnder Section 90, the Indian government offers protection against double taxation by enteringinto a DTAA with another country, based on mutually acceptable terms. Such relief may beoffered under two methods: 1. Exemption method – This ensures complete avoidance of tax overlapping. 2. Tax credit method – This provides relief by giving the tax payer a deduction from the tax payable in India.Double taxation in IndiaAs if the thought of „taxation‟ wasn‟t enough, we have ‘double taxation’ to deal with! So let‟ssee what it is, why it happens and how you should deal with it.Double taxation: What is it?Double taxation refers to the situation when an individual is taxed more than once on the sameincome, asset or financial transaction. Yes, this does happen in the real world and many of youmay have dealt with it.Double Taxation: Why is it?The situation of double taxation usually arises due to overlap of taxation laws of two or morecountries. Do you or your business have operations or dealings in a country apart from yourresidence? You may have come across a situation where you become liable to pay tax in thecountry of your residence, as well as the foreign country where the transaction took place orwhere the income was generated. So it‟s a case of being a resident in one country, while earningincome from another which may lead to a situation wherein you fall under taxation laws of both.
11. Double Taxation: Double Taxation Avoidance Agreements (DTAA)Can you imagine what would happen if you were a resident of India, but work for half of theyear in Australia, and get taxed in India as well as Australia? It‟d be bad. No one would do it.Even the big MNCs would stay away from such disasters.Keeping this in mind, under section 90 of the Income Tax Act 1961, the central government hasentered into DTAA with many other countries. What does this do? Well this agreement aims toput forward equitable basis and means of allocating tax liability in case of an individual who hasearned income in a country different from his/her residence. India has an exhaustiveagreement with 79 countries and not stopping there, India also aims to give tax neutrality toresidents and non-residents who have income arising from countries not included in the DTAA.Double Taxation: How you can deal with double taxation with DTAAGenerally, income from Capital Gains will be taxed in the country where the capital asset islocated at the time of transfer/sale. There are exceptions like Mauritius and Cyprus which don‟tlevy a capital gains tax even though they are included in the DTAA with India.If you are concerned about business income, you should know that the source country (whereincome is generated) can levy tax only if the business has a „permanent establishment‟ there.Income from professional services will be taxed in the country of residence, unless you have a„permanent base‟ in the source country. You may also get taxed in the source country if your stayexceeds 183 days in the relevant FY.We have discussed the usual circumstances where an individual may face double taxation. Sowatch out for the double whammy and steer clear of it. If your case is unique and you think thattax neutrality has not been maintained, there are ways by which you can refer to the DTAA andappeal to your domestic / foreign tax departments.