The countdown to complying with the enhanced disclosure norms for foreign portfolio investors (FPIs) on ownership, economic interest and control has begun. Sunil Badala explains how the stricter norms mandated by the Securities and Exchange Board of India will help identify the ultimate beneficial owners and control market manipulation.
Enhanced disclosure rules for FPIs
The Securities and Exchange Board of India (Sebi) in August 2023 released a framework mandating additional granular disclosures on ownership, economic interest, and control for foreign portfolio investors (FPIs). The enhanced disclosure rules got activated on November 1, 2023, and a timeframe of 90 calendar days was given to realign their investments which were in breach of the investment limits as on October 31, 2023. The FPIs had time till January 29, 2024, settlement date, to bring down their equity AUM. Those FPIs which do not or are unable to realign their investments would need to make additional disclosure on a full look-through basis, up to the level of natural persons, within 30 trading days from realignment date, i.e., by March 11, 2024. Non-disclosure by the FPIs will lead to their registration becoming invalid and mandatory liquidation of holdings would happen within six months from the date of de-registration.
Existing UBO disclosure norms
In the existing regulations governing FPIs, the Ultimate Beneficial Owners (UBO) disclosure is required if the natural person's beneficial holding exceeds the threshold limit prescribed under the Prevention of Money Laundering (PMLA) Rules. The PMLA rules specify the threshold based on control or ownership or economic interest for identifying the UBO of the legal entities.
In case of a company or a trust, the threshold limit for disclosure of ultimate beneficial owner is 10% while it is 15% in case of a partnership firm, unincorporated association, or a body of individuals.
Sebi has observed that each investor entity in the FPI may be below the threshold prescribed and hence no natural person could get identified as the UBO of several FPIs.
Also, it is possible that a single person could have substantial overall economic interest in FPI through different investment entities, each falling below the threshold for UBO identification specified in the PMLA.
Drilling down to the natural person level
This, however, left the door open to potential misuse of the FPI route which, in turn, could lead to breach of minimum public shareholding norms or disclosure norms under Substantial Acquisition of Shares and Takeover Regulations, 2011 or routing money from surreptitious entities sharing borders with India, which is otherwise allowed only under government approval route. The objective behind introducing granular disclosure was thus to prevent circumvention of minimum public shareholding requirements and peel back the layers of entities and identify the UBO.
The new disclosure norms now require FPIs, which have either 50% or more of their Indian equity Asset Under Management (AUM) in a single corporate group or hold, along with an investor group, more than Rs 25,000 crore of equity AUM in Indian markets, to disclose their beneficial ownership, drilled down to the natural person level, irrespective of the percentage of holding. FPIs backed by the government or government-related investors, public retail funds, exchange traded funds, pooled investment vehicles, FPIs which are unable to liquidate their investments due to statutory restrictions, amongst others, are exempt from providing enhanced disclosures, on fulfilling certain criteria. This exception will provide relief to a majority of the FPIs.
A standard operating procedure (SOP) has been released by Sebi to facilitate the disclosure compliance process for the custodians and FPIs.
Challenges in implementing Sebi directive
A few FPIs are at the crossroads when it comes to interpreting whether they would qualify for the exemption criteria if they are 'registered' only with the home country regulator but not 'regulated'. Clarity on this point from Sebi would help the investors. Also, the home regulator may not mandate filing of the offering memorandum, while it is mentioned in the SOPs for an exemption.
This move by Sebi may increase compliance work for certain FPI's and potentially cause short-term challenges considering the responsibility of additional disclosure is on the FPIs. However, in the long-term, it can contribute to increased transparency and investor confidence in the Indian financial markets, fostering a more robust and accountable investment environment.
(The writer is deputy head of tax and national head, BFSI, Tax, KPMG in India. With inputs from Tushar Patel, chartered accountant)
A version of this article was published on Feb 21, 2024 by The Financial Express.
