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Abstract<\/span><\/strong><\/span><\/p>\n Although the construction sector is a significant contributor to the Indian GDP, there exists a<\/span>glaring gap between foreign inflows into the sector and Indian infrastructure needs<\/a>. This gap is rather worrisome since, after the pandemic, the Union government and various state governments have decided to pursue several projects and stabilise the economy. A number of steps remain to be taken to attract foreign inflows and achieve the desired goals.<\/span><\/span><\/p>\n This article discusses the various routes for bringing foreign investment into the Indian construction-development sector and their associated conditions. These entry routes are (i)<\/strong> foreign direct investment, (ii)<\/strong> foreign portfolio investment, (iii)<\/strong> foreign portfolio investment through the voluntary retention route, and (iv)<\/strong> external commercial borrowings. It serves as a guide to a foreign investor in as much as it sets out the key rules applicable to each of the above routes and helps make a comparative assessment of suitability. While elaborating on the conditions applicable to these routes, the authors also attempt to critically analyse gaps and issues in the frameworks. The result is encapsulated in the final part of the article that sets out the authors\u2019 recommendations and conclusion.<\/span><\/p>\n <\/strong><\/p>\n Introduction<\/strong><\/span>\u00a0<\/strong><\/p>\n Infrastructure plays an important role in the formation of an economy. It facilitates industrial activity, powers businesses, lowers the cost of doing business, creates employment opportunities, helps with poverty reduction, improves the standard of living, and forms the building block of society. In fact, infrastructure financing can help turn around economies at large. For instance,<\/span>the New Deal by American President Roosevelt after the Great Depression helped create 90,00,000 jobs and build 6,00,000 kilometres of roads, 1,00,000 buildings, and 75,000 bridges<\/a>.<\/span><\/span><\/p>\n While \u2018infrastructure\u2019 is a broad term that encompasses telecommunications, urban transport, healthcare, schools, water supply, electric systems, and residential and commercial real estate, the focus of this article will be on the construction-development segment of the infrastructure sector. This segment forms the backbone of infrastructure and is categorised as a separate sector under Indian foreign exchange laws.<\/span><\/p>\n <\/strong><\/p>\n Foreign Direct Investment (FDI)<\/strong><\/span>\u00a0<\/strong><\/p>\n Foreign Direct Investment (\u201cFDI<\/strong>\u201d) refers to a type of investment made by a non-resident in the capital instruments of an entity in another country. The term \u2018capital instrument\u2019 refers to securities in the nature of equity, such as equity shares (fully, compulsorily and, mandatorily convertible), preference shares, (fully, compulsorily and mandatorily) convertible debentures, and warrants. The foreign investor usually acquires a significant equity stake in the investee company and develops a long-lasting ownership interest. Consequently, the investor is generally involved in all aspects of operation and plays a significant role in decision-making. This is quite beneficial for the host country as the foreign investor not just brings cash but also operational models, skills, technologies, et cetera along with itself.\u00a0<\/span><\/p>\n In India, FDI gained popularity after the 1991 New Economic Policy (NEP) of Liberalisation, Privatisation, and Globalisation (LPG). Pursuant to the country\u2019s policy, there exist two routes under which FDI can be brought in. The first one is the automatic route, under which the Indian investee does not require permission from the Reserve Bank of India (\u201cRBI<\/strong>\u201d) or the Government of India (\u201cGoI<\/strong>\u201d) to bring in FDI. The other route is the government route, under which the approval of the GoI is mandatory for FDI inflow.\u00a0<\/span><\/p>\n Pursuant to the extant Indian<\/span>FDI Policy<\/a>, 100% FDI is permitted in the construction-development sector via the automatic route<\/em>. Construction-Development projects,<\/span>under the FDI Policy<\/a>, refer to projects including \u201cdevelopment of townships, construction of residential\/commercial premises, roads or bridges, hotels, resorts, hospitals, educational institutions, recreational facilities, city and regional level infrastructure, townships\u201d. However, a distinction is made between construction-development on the one hand and real estate business on the other, with FDI not being permitted in the latter via <\/em>the FDI policy of 2010.\u00a0<\/span><\/span><\/p>\n The definition of real estate has not been amply clear under India\u2019s FDI Policy. The term \u2018real estate businesses\u2019 was not defined in the FDI Policies of 2011, 2012 or 2013. While the 2010 Policy did prescribe a definition, it appeared in relation to the eligibility of resident entities to receive investments from Non-Resident Individuals (NRIs) and Persons of Indian Origin (PIO). After a period of almost four years, the definition of real estate business appeared in the<\/span>2015 FDI Policy<\/a>, albeit<\/em> in the clarifications provided for the construction-development sector.<\/span>It provided that \u2018real estate business\u2019 means<\/a> \u201cdealing in land and immovable property with a view to earning profit or earning income<\/u> therefrom and does not include<\/u> development of townships, construction of residential\/ commercial premises, roads or bridges, educational institutions, recreational facilities, city and regional level infrastructure, townships.<\/em>\u201d This has been retained under the extant FDI Policy.\u00a0<\/em><\/strong><\/span><\/span><\/p>\n In March 2022, the Department for Promotion of Industry and Internal Trade (DPIIT) issued a<\/span>Press Note<\/a> that further clarified that the real estate business does not include<\/u> earning rent\/income on a lease the of property where such a transaction does not amount to a transfer. It also does not include Real Estate Investment Trusts (REITs) registered and regulated by the Securities & Exchange Board of India (\u201cSEBI<\/strong>\u201d).\u00a0<\/span><\/span><\/p>\n Therefore, while real estate businesses dealing with the purchase or sale of immovable property for-profit motive cannot enjoy FDI, 100% FDI is permitted for construction-development activities which do not involve a transfer of ownership of property. This has been done keeping in mind the need for infrastructural development while preventing profit-driven enterprises from establishing a monopoly by dealing in immovable property in India.\u00a0<\/span><\/p>\n FDI is also prohibited in the trading of transferable development rights (TDRs) and the construction of farmhouses. However, 100% FDI is permitted for the operation and management of townships, malls, shopping complexes, and business centres via the automatic route. Furthermore,<\/span>the FDI Policy<\/a> clarifies that real-estate broking service does not constitute real estate business and hence, 100% FDI is permitted for the same via the automatic route.\u00a0<\/span><\/span><\/p>\n Some of the<\/span>key conditions applicable to FDI in the construction-development sector<\/a> are as follows:<\/span><\/span><\/p>\n Foreign Portfolio <\/strong>Investment<\/strong><\/span>\u00a0<\/strong><\/p>\n A foreign portfolio investor (\u201cFPI<\/strong>\u201d) is a foreign investor registered with SEBI under the<\/span>SEBI (Foreign Portfolio Investors) Regulations, 2019<\/a> (\u201cFPI Regulations<\/strong>\u201d) that invests in specified Indian securities. These securities include the following:<\/span><\/span><\/p>\n FPI investment differs from FDI in as much as an FPI does not have a lasting ownership interest in the investee company. The total holding of each FPI together with its investor group (that is entities having common ownership of more than 50% or being under common control) is required to be less than<\/span>10% of the paid-up capital of the investee company on a fully-diluted basis<\/a>, or less than<\/span>10% of the value<\/a> of each series of debentures, preferences, or warrants. Therefore, an FPI mostly invests in listed securities and has a limited ownership interest in the company.\u00a0<\/span><\/span><\/p>\n Furthermore, the aggregate limit for all FPI investments in an Indian investee is up to the sectoral cap prescribed under the FDI Policy. This means that the aggregate FPI limit for the construction-development sector is 100%. The aggregate limit could have been reduced to 74%, 49% or, 24% by way of passing a board resolution followed by a resolution and a special resolution respectively in the general meeting of the company by 31st\u00a0March 2020. The companies that have reduced the aggregate limit may increase it to 49%, 74% or the sectoral cap; however, once the limit has been increased it cannot then be reduced to the same lower threshold. Further, the aggregate cap for an investee company engaged in a sector where FDI is prohibited is 24%.<\/span>\u00a0<\/span><\/span><\/p>\n Therefore, the FPI route does not specify any specific conditions for investments in the construction-development sector but provides generally-applicable rules and conditions. The key characteristic of this route is that investments can be made only in eligible instruments (which are typically listed) and are subject to certain limits that differentiate them from FDI investments.<\/span><\/p>\n <\/strong><\/p>\n FPI through the <\/strong>Voluntary<\/strong> Retention Route (VRR)<\/strong><\/span>\u00a0<\/strong><\/p>\n In order to encourage FPIs to retain investments in India for longer durations, the government has introduced the<\/span>Voluntary Retention Route<\/a> (\u201cVRR-route<\/strong>\u201d) for FPI investments in debt securities. Pursuant to this route, an<\/span>FPI may voluntarily commit<\/a> to retaining a required minimum percentage of its investment in India for a lock-in period of at least 3 years (or as decided by RBI for each allotment). Such an investment will be free from the macro-prudential and other regulatory norms otherwise applicable to FPI investments.<\/span>\u00a0<\/span><\/p>\n VRR-route investments are categorised as follows<\/a>: (i) VRR-Govt, which includes investment in government securities such as G-Secs, T-bills, State Development Loans, etc., and (ii) VRR-Corp, which includes investment in the debt instruments mentioned in Schedule 1 to the Foreign Exchange Management (Debt Instruments) Regulations, 2019 (except for items 1A(a) and 1A(d)).<\/span><\/a><\/span><\/p>\n Both, VRR-Govt and VRR-Corp<\/a> have prescribed investment limits and allocation of investment amount from such a limit is made on tap or through auction. No FPI can be allotted an investment limit greater than 50% of the amount offered for each allotment in the event that there is demand for more than 100% of the amount offered. An FPI is required to invest at least 75% of the committed portfolio size within three months from the date of allotment and retain such investments for the duration of the retention period.<\/span>\u00a0<\/span><\/p>\n An FPI is not permitted to exit its investments under the VRR-route prior to the end of the retention period, except by selling them to another FPI that agrees to abide by the terms and conditions applicable to the selling FPI. At the end of the retention period, the FPI may (i) liquidate its investments and exit, (ii) shift its investments to the general category, or (iii) hold its investments till the maturity date or until they are sold.<\/span>\u00a0<\/span><\/p>\n To incentivise investments through the VRR-route, the following macro-prudential relaxations are offered:<\/span><\/p>\n (i) Long-term FPIs: 15% of prevailing investment limit for that category; and<\/span><\/p>\n (ii) Other FPIs: 10% of prevailing investment limit for that category.\u00a0<\/span><\/p>\n Therefore, the VRR-route offers significant advantages for FPI investments in debt securities and can be effectively utilised for investments in the construction-development sector. The sector typically has long cash conversion cycles and requires long-term investment, which can be ably supported by the VRR-route.<\/span><\/p>\n <\/strong><\/p>\n External Commercial <\/strong>Borrowings<\/strong>\u00a0<\/strong><\/span><\/p>\n External commercial borrowing (\u201cECB<\/strong>\u201d), as the name suggests, is a route that allows Indian companies to incur debt from non-residents. Pursuant to the<\/span>RBI\u2019s Master Direction \u2013 External Commercial Borrowings, Trade Credits and, Structured Obligations<\/a> (\u201cECB Regulations<\/strong>\u201d), the ECB route cannot be used to raise funds for \u2018real estate activities. The term \u2018real estate activities\u2019 has been defined as follows:\u00a0<\/span><\/span><\/p>\n \u201cAny real estate activity involving own or leased property, for buying, selling and renting of commercial and residential properties or land and also includes activities either on a fee or contract basis assigning real estate agents for intermediating in buying, selling, letting or managing real estate<\/u>. However, this would not include, (i) construction\/development of industrial parks\/integrated townships\/SEZ (ii) purchase\/long-term leasing of industrial land as part of new project\/modernisation of expansion of existing units and, (iii) any activity under \u2018infrastructure sector\u2019 definition<\/em>.\u201d<\/span>\u00a0<\/span><\/p>\n While the restriction<\/a> on real estate activities also exists under the FDI Policy, the definition of \u2018real estate activities\u2019 contained in the FDI Policy is considerably different from that prescribed under the ECB Regulations. Most significantly, while the FDI Policy simply states that real estate means dealing in land or immovable property with a view to earning profit therefrom and categorically excludes leasing of property from its purview, the ECB Regulations include leasing of property within the ambit of real estate activities. Consequently, the restriction on real estate activities contained under the ECB Regulations is wider in scope and needs to be kept in mind when considering this route for investments.<\/span><\/a><\/span><\/p>\n ECB borrowing can be foreign currency-denominated or INR-denominated<\/a>. The eligible ways for raising foreign-currency denominated ECB include loans, notes, bonds, debentures (other than fully and compulsorily convertible instruments), trade credits of more than 3 years, FCCBs, FCEBs, and financial leases. INR-denominated ECB can be raised in the form of preference shares and plain vanilla Rupee-denominated bonds issued overseas, in addition to the instruments eligible for foreign currency-denominated ECB.<\/span><\/span><\/p>\n The lender is<\/span>generally required<\/a> to be a resident of a FATF (Financial Action Task Force) or IOSCO (International Organisation of Securities Commissions) compliant country. Some of the other conditions applicable to investments made through the ECB route are as follows:<\/span><\/span><\/p>\n\n
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