Will SEBI walk the talk on disclosure of beneficial ownership in FPIs?

DDPs also act as custodians and monitor investments of FPIs. Given this relationship of DDPs with FPIs, SEBI seems to have now asked DDPs to procure from their FPIs information of beneficial owners, within six months.

FPIs are required to inform SEBI as well as DDP about their beneficial owner as well as when there is any material change including any change in structure, ownership or control. Therefore, the regulatory regime seeks to identify “real” or “ultimate” beneficial ownership.

Beneficial owners are the natural persons who ultimately “own” or “control” an FPI. FPI Regulations along with Prevention of Money Laundering (Maintenance of Records) Rules imposes responsibility on the FPI to maintain and disclose the record of beneficial owners at regular intervals.

Getting FPIs To Comply

Identification and verification of beneficial ownership is determined based on “ownership/entitlement interest or control”, “materiality threshold”, “look through” or where no owner entity is identified, the test of designated “senior managing official (SMO)”. In cases of multiple tier structures, it is not easy to determine the ultimate owner and it is usually the last category that keeps SEBI apprehensive.

Following failure to detail beneficial owners by September 30, 2023, the FPIs shall lose their registration in India and DDP shall restrict FPI from making fresh purchase of securities - compelling FPI to dispose of holdings in 180 days. Continuing to hold securities after 180 days without disclosing the name of the beneficial owner will attract further action from SEBI.

The time bound process that has been initiated by SEBI, according to this reported letter, is an indication of SEBI’s seriousness to bring transparency without hurting foreign investment in India.

Much Needed Transparency

There is another angle. Under Indian tax laws, dividend income is taxable in the hands of the receiver (i.e. investor/FPIs) and the Indian company is required to withhold at source 20 per cent or as per the rate available under the relevant tax treaty, whichever is beneficial to the taxpayer. Countries like Mauritius, Singapore and US have DTAA with India, providing for a lower tax rate (i.e., 5 per cent, 10 per cent, or 15 per cent) on dividend income earned from an Indian company subject to certain prescribed conditions.

In many recent tax assessments, treaty benefits have been denied by revenue department as the foreign funds/FPIs were unable to demonstrate “commercial substance” (Section 97, IT Act) or “beneficial ownership” and the tax department found that the dividend was being received by “pass-through” entities instead of beneficial owner. SEBI’s move will thus help better tax administration and FPIs.

The disclosure of beneficial owner by the FPIs will ensure transparency in the fund flow to and from FPIs, and check instances of FPIs being promoter vehicles. Additionally, stricter disclosure norms will also check instances of round-tripping, i.e., flow of funds having no substantial economic purpose other than to move stocks in a preferred manner.

Whether to identify short sellers or a promoter related FPIs, this is a welcome move, if implemented in spirit. However, a decade of FPI enforcement regime shows that a regulatory intent without dedicated action is simply not enough.

Sumit Agrawal is Founder, Regstreet Law Advisors, and a former SEBI Officer. Views are personal and do not represent the stand of this publication.