In 2004, the Reserve Bank of India (RBI) introduced the Liberalized Remittance Scheme (LRS), a foreign exchange policy initiative that aims to simplify and streamline the remittance of money outside India. By leveraging this scheme, Indians have been able to overcome the restrictions on international transactions, which are imposed under the provisions of the Foreign Exchange Management Act (FEMA), 1999.
- The provisions of the LRS permit international transfer of funds up to a specific amount through the various authorized capital or current account transactions.
- LRS is available for the residents of India and, thus, international transactions can be performed through a savings account. It must be noted that non-residents are not allowed to open a savings account in any Indian bank. As such, they cannot transfer funds from India. However, they can transfer money outside India from a Non-Resident Ordinary (NRO) Account, Non-Resident External (NRE) Account or a Foreign Currency Non-Resident (FCNR) Account.
Following are some key points to keep in mind while transferring funds outside India:
- Transactions up to USD 10,000 can be made from an NRO account.
- There are no restrictions on transactions from NRE or FCNR accounts.
The LRS has made it easier for Indian citizens to conduct their financial transactions abroad.
Funds can be used for purposes like debt repayment, education, etc. You can choose to invest outside of India as well, which makes your investment portfolio more diverse. |
The LRS is available to the following individuals and circumstances:
- All resident individuals, including minors and students.
- Eligible citizens are required to open an account in an Indian bank, hold a valid Permanent Account Number (PAN) and a passport.
- Transfers can be made for educational, commercial, personal or other purposes.
A resident individual can transfer up to USD 250,000 per fiscal year under the provisions of the liberalized remittance scheme. While the LRS limits on transactions in relation to education, medical care, employment, investments, etc. are the same as provided above, no transactions related to margin trading, lotteries, real-estate, etc. can be performed under this scheme.
Tax on LRS
Profits on foreign investments made through LRS are taxed in India according to the holding period of the investment. Investments made within two years are considered as long-term capital gains and are taxed at 20% of the total profit earned. Profits earned from investments of less than two years are taxed at ordinary income tax rates.
Overseas Direct Investment (ODI)
Overseas Direct Investments (ODI) refers to investments by Indian companies in overseas entities via equity investments, loans or guarantees. Acquisition of equity shares can be done through market purchases, private placements or stock exchanges.
| Portfolio investment does not fall within the ambit of ODIs. |
The Indian entity can choose to invest in overseas entities through the acquisition of their shares or by giving them a loan or a guarantee, where the aggregate amount of the loan or guarantee shall not exceed 400% of the net assets held by the Indian entity.
An Indian party who chooses to make an investment under the ODI rules will have to contact the designated authorized dealer for settlement of the amount. The application for posting must be accompanied by a duly completed ODI Form, Part I.
Form ODI-I is attached to documents such as Form A-2, board resolution, auditor’s certificate, certificate of incorporation, memorandum of association, articles of association, copy of PAN card of the Indian entity and byelaws of the overseas entity, etc.
After submitting the documents, the Authorized Dealer (AD) Bank verifies and validates the documents as per regulations, processes remittance/investment and sends the documents to RBI.
RBI creates a Unique Identification Number (UIN) for a particular Joint Venture/Wholly Owned Subsidiary (JV/WOS) when funds are transferred. The UIN is unique to the foreign JV/WOS and the same UIN is used to make additional investments/transfers to the JV/WOS.
It must be noted that there is a limit to financial commitments. The term ‘Financial Commitments’ consists of the following:
- Direct investment made by the Indian entity through equity/loan.
- 100% of the ‘guarantee’ amount supplied by Indian entities in relation to their foreign JV/WOS.
- 50% of the performance guarantees issued by Indian entities in relation to their foreign JV/WOS.
| Note: For each financial year, the financial commitment limit is marked at 400% of the net worth of the Indian entity, according to their latest audited balance sheet, subject to a maximum of USD 1 billion. |
Union Budget 2023
The LRS observed a major change when an Income Tax Collection at Source (TCS) on foreign remittances was introduced to it under the Union Budget 2023. Followed by this introduction, the Central Board of Direct Taxes (CBDT) issued a circular to tackle the issues that arose in implementing the changes pertaining to TCS deductions on the LRS and on purchases of overseas tour program packages.
- Under the LRS, the new TCS rate of 20% would come into effect from 1 October 2023 on foreign remittances for all purposes apart from educational and medical reasons.
- This is a sharp increase from the earlier 5% TCS charge on foreign transfer above INR 7 lakhs.
- The TCS is duly collected by banks and other authorized merchants at the time of delivery and the same is credited to the Government account.
An individual is eligible to make transactions amounting to INR 7 lakhs through any mode of payment for each financial year under the LRS. As such, there shall be no TCS for the first INR 7 lakh remittance under the LRS.
Once the INR 7 lakh limit is crossed, the TCS rates shall be applicable at the following rates:
- If the remittance for education has been financed by a loan that has been availed from a financial institution – 0.5%
- If the remittance is for education/medical treatment – 5%
- For other remittances – 200%
| With respect to purchases of overseas tour program packages, the TCS shall be applicable at 5% for the first INR 7 lakhs for each individual per annum. Only when this limit is crossed will the 20% rate be applicable. |
The increased TCS for foreign outward remittances might reduce the attractiveness of the LRS for some investors as it significantly increases the cost that they must bear for the money they send abroad. As such, it is expected that this move shall significantly impact several businesses and individuals who use LRS for different reasons.
It must be noted that the increased TCS rates for transferring money abroad shall not be applicable to investments made via the ODI method.
The ODI method has become a viable option for Indian entities that wish to expand their businesses abroad. It permits entities or individuals to expand their businesses, while also helping them make their portfolio more diverse by enabling exploration of opportunities beyond the domestic market. It helps them to gain access to new innovative technologies, resources and markets in foreign countries.
How is the ODI Route better than LRS?
A key advantage of the ODI route is that it permits Indian entities and individuals to invest in foreign companies or set up subsidiaries via the automatic route under specific circumstances. As of now, TCS does not apply to the transfers made via the ODI route. The ODI route has become a popular choice for individuals and entities as it enables expansion overseas without having to incur any additional cost in the form of TCS.
Key Differences between LRS and ODI
- Purpose: LRS is majorly used for personal investments or expenses like in relation to education or certain medical expenses, while ODI is used for business purposes like foreign investments and setting up branches of companies abroad.
- Limits: LRS for any financial year is limited to USD 250,000 per individual, while the ODI route does not have any similar limit. This basically means that an individual can transfer up to USD 250,000 in a financial year through LRS, while a company can invest however much they want via the ODI route.
- Conditions: Certain conditions must be fulfilled to use the ODI route like minimum net worth requirements and restrictions on how the funds shall be used. LRS requires you to meet a significantly lesser number of conditions, but there are only some specific purposes for which these funds can be used, like personal expenses or investments.
- Regulatory infrastructure: While the LRS is regulated by the RBI, the ODI route is managed by the RBI, the Ministry of Corporate Affairs and the Securities and Exchange Board of India (SEBI). This implies that anyone using LRS must comply with the RBI rules, while companies using the ODI route need to adhere to the regulations established by the various government agencies.
Conclusion
While LRS and ODI both allow outward remittances without any extra cost up to a certain limit, individuals and entities must ensure to comply with the requirements of using these methods and adhering to the regulatory requirements of the method they choose as well.
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