THE FOREIGN EXCHANGE MANAGEMENT ACT, 1999 ACT NO. 42 OF 1999 [29th December, 1999.

] An Act to consolidate and amend the law relating to foreign exchange with the objective of facilitating external trade and payments and for promoting the orderly development and maintenance of foreign exchange market in India. BE it enacted by Parliament in the Fiftieth Year of the Republic of India as follows:- 1. Short title, extent, application and commencement.-(1) This Act may be called the Foreign Exchange Management Act, 1999. (2) It extends to the whole of India. (3) It shall also apply to all branches, offices and agencies outside India owned or controlled by a person resident in India and also to any contravention thereunder committed outs ide India by any person to whom this Act applies . (4) It shall come into force on such date as the Central Government may, by notification in the Official Gazette, appoint: Provided that different dates may be appointed for different provisions of this Act and any reference in any such provision to the commencement of this Act shall be construed as a reference to the coming into force of that provision.

Foreign Exchange Management Act (FEMA) When a business enterprise imports goods from other countries, exports its products to them or makes investments abroad, it deals in foreign exchange. Foreign exchange means 'foreign currency' and includes:- (i) deposits, credits and balances payable in any foreign currency; (ii) drafts, travellers' cheques, letters of credit or bills of exchange, 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 or persons outside India, but payable in Indian currency. In India, all transactions that include foreign exchange were regulated by Foreign Exchange Regulations Act (FERA),1973. The main objective of FERA was conservation and proper utilisation of the foreign exchange resources of the country. It also sought to control certain aspects of the conduct of business outside the country by Indian companies and in India by foreign companies. It was a criminal legislation which meant that its violation would lead to

imprisonment and payment of heavy fine. It had many restrictive clauses which deterred foreign investments. In the light of economic reforms and the liberalised scenario, FERA was replaced by a new Act called 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. FEMA emerged as an investor friendly legislation which is purely a civil legislation in the sense that its violation implies only payment of monetary penalties and fines. However, under it, a person will be liable to civil imprisonment only if he does not pay the prescribed fine within 90 days from the date of notice but that too happens after formalities of show cause notice and personal hearing. FEMA also provides for a two year sunset clause for offences committed under FERA which may be taken as the transition period granted for moving from one 'harsh' law to the other 'industry friendly' legislation. Broadly,the objectives of FEMA are: (i) To facilitate external trade and payments; and (ii) To promote the orderly development and maintenance of foreign exchange market. The Act has assigned 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 Reserve Bank of India, in consultation with the Central Government. The Act requires the Central Government to appoint as many officers of the Central Government as Adjudicating Authorities for holding inquiries pertaining to contravention of the Act. There is also a provision for appointing one or more Special Directors (Appeals) to hear appeals against the order of the Adjudicating authorities. The Central Government also establish an Appellate Tribunal for Foreign Exchange to hear appeals against the orders of the Adjudicating Authorities and the Special Director (Appeals). The FEMA provides for the establishment, by the Central Government, of a Director of Enforcement with a Director and such other officers or class of officers 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 an authorised person, under the Act, means authorised dealer,money changer, off-shore banking unit or any other person for the time being authorised by Reserve Bank. The Act thus prohibits any 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 Act deals with two types of foreign exchange transactions.

Foreign Exchange Management Act (FEMA):

Capital Account Transactions

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 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;

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 the Central Government, the permissible capital account transactions and the limits upto which foreign exchange may be drawn for these such transactions. But it shall not impose any restriction on the drawal of foreign exchange for payments due on account of amortization of

loans or for depreciation of direct investments in the ordinary course of business. Accordingly, the RBI has issued notifications governing capital account transaction. TheFEMA Notification No. 1/2000 dated 3-5-2000 contains the list of permissible capital account transactions 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;

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;

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 circularsand 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 (TDRs).

Current a/c transactions

Payments due in connection with Foreign trade,

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 such transaction includes imply that even if the transactions listed above may fit into the definition of capital account transactions, such transactions shall be treated current account transactions. For example, resident of India imports goods from outside India on a short term credit (for a period of less than 6 months), he is creating a liability outside India and thus, it can be treated a capital account transaction but, it is specifically included in the above definition as a current account transaction. As a general rule, any person may sell or draw foreign exchange if such sale or drawal is a current account transaction. Under the Act, Central Government may, in public interest and in consultation with the Reserve Bank, impose such reasonable restrictions for current account transactions as may be prescribed. Accordingly, the Central Government has issued the Foreign Exchange Management (Current Account Transaction) Rules, 2000. It contains the list of current account transactions for which drawal of foreign exchange is:

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 today's changed scenario, Indian rupee has become fully convertible so far as current account transactions are concerned. This implies that foreign exchange is freely available to the residents for remittance on account of current account transactions for the various purposes like foreign travel, foreign education, and medical treatment abroad etc. The non residents are also freely allowed to remit outside India the income or capital gain generated in India. But, even today, the Indian rupee, in respect of capital account transactions, is not fully convertible.