INTRODUCTION

The Foreign Exchange Management Act, 1999 (FEMA), came into force to conform to the framework of the World Trade Organization (WTO). The Act was passed to replace the FERA Act and it brought in a regime that converted all criminal offenses related to foreign exchange into civil offences. It extends to the entire territory of India and also applies to agencies and offices outside of India, but those that are owned or managed by an Indian national. The need to replace FERA arose because it was not in line with the liberalization policy of the Government of India. Subsequently, FEMA also made way for the Prevention of Money Laundering Act, 2002, which came into effect on July 1, 2005.

HISTORY AND BACKGROUND

FERA was implemented during a period when the nation's foreign exchange reserves were low, foreign exchange being a scarce commodity at the time. FERA thus operated under the premise that all foreign exchange produced by citizens of India legally belonged to the Indian government, needed to be gathered and turned over to the Reserve Bank of India (RBI). All the transactions related to foreign trade, dealings and exchange that the RBI did not approve of were specifically prohibited by the FEMA.

Strict rules were imposed by FERA on a number of payment types, securities and other transactions related to foreign trade and exchange, as well as transactions that indirectly affected import and export of foreign currencies by India. Since the dealings with foreign countries was very new to India, the RBI had a strict supervision over these dealings which was established through the passing of the Foreign Exchange Regulation Act.

Until 1977, Coca-Cola was India's prime soft drink, however, unfortunately, it left India after the new government ordered the company to dilute its stake in the Indian unit under FERA. In 1993, the company returned (along with PepsiCo) after the introduction of India's liberalisation policy. By 1993, FERA became redundant which created a need for a new legislation, which could ease exchange controls and accommodate a more empirical policy for the achievement of the goals set out in the Act. FERA was eventually repealed by the Atal Bihari Vajpayee government in 1998 and replaced by the Foreign Exchange Management Act, which liberalized foreign exchange regulation and placed certain limitations on foreign investment.

UNDERSTANDING THE MECHANISM OF FEMA

The foreign exchange market being not only the biggest but also the most liquid market in the whole world and dynamic, it can either benefit a nation or put it at greater risk. Foreign exchange market management, thus, becomes very important in tackling such risks. Proper management of the foreign exchange market through an organised and competent policy is essential for the economics of the country. It becomes quite essential to have a controlling hand and supervision over the foreign exchange taking place. It is necessary to keep a sufficient amount of foreign exchange to keep at par with the other countries in the foreign exchange market.

The main objective for which FEMA was implemented in India was to facilitate foreign trade and the payment made in respect of them. Apart from this, it aims helping in the proper maintenance and growth of the Indian foreign exchange market. These foreign exchange transactions are classified into two kinds: capital account transactions and current account transactions. According to FEMA, the balance of payment is the record of dealings between the citizens of different countries in goods, services and assets. It is divided into the aforementioned categories. Facilitation of foreign trade and payments.

FUNDAMENTAL PRINCIPLE

Under FEMA, there are certain rules that are followed:

1. Every current account transaction is permitted unless it has been specifically prohibited by the Act.

2. Every capital account transaction is prohibited unless it has been expressly permitted through a statement in the Act.

CAPITAL ACCOUNT TRANSACTIONS AND CURRENT ACCOUNT TRANSACTIONS

Verifying if a transaction is allowed under the terms of the Foreign Exchange Management Act, the Foreign Exchange Management Rules, and any pertinent notices, circulars, etc. is necessary. All foreign exchange transactions are categorized as either capital or current account transactions under the FEMA. These transactions, which involve both residents and non-residents, are the foundation of FEMA. These transactions are defined under clauses (e) and (j) of the interpretation clause under Section 2 of the FEMA.

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It is important to note that FEMA does not define terms such as ‘assets’, ‘liabilities’, and ‘contingent liabilities’, making it difficult to determine whether a transaction is a current account transaction or a capital account one. There are also instances where a transaction may fall within FEMA's "gray" budgets. In other words, it may not fully be able to be identified as one transaction out of the two. An exclusivity fee is typically paid during a corporate transaction of acquisition or investment to guarantee that the party receiving the charge is prohibited from negotiating the same type of transaction with another party for a predetermined amount of time. FEMA does not contain a clause that allows for the payment of an exclusivity fee between a resident and a non-resident. Given that the exclusivity charge is associated with a capital account transaction involving equity instruments in the Indian economy.

As a result, these payments ought to be regarded as capital account transactions, which FEMA ought to have ideally allowed. Additionally, the exclusivity may be utilized as a set-off against the buyer's required acquisition consideration. When this occurs, the transaction will be classified as a capital account transaction. Similarly, if the exclusivity fee is not deducted from the purchase consideration, the payment in question may also fall under this category.

FEATURES OF THE ACT

According to FEMA, all offenses related to foreign exchange are treated as civil offences, unlike the FERA, which treated these offenses as criminal offences. This is the main feature of the Act, other features include:

1. Only Indian citizens living in India are covered under FEMA. Indian nationals living abroad are exempted. The applicant, or legal body, must have spent at least 182 days in India during the preceding fiscal year in order to be eligible.

2. FEMA also specifies areas that require special approvals from the Reserve Bank of India (RBI) or the government, such as foreign exchange trading.

3. It grants the Central Government the authority to control the flow of money to and from an individual who is located outside the nation.

4. The Indian government has the authority to prevent an authorized person from executing foreign exchange transactions using the current account for the benefit of the public at large.

5. This Act grants Indian citizens living in India the authority to transact in foreign exchange, to hold or own immovable property in a foreign nation in the event that the security, property, or currency was obtained or owned while the person was based abroad, or if they inherit property from someone who is not in the nation.

6. The foreign exchange transactions have been divided into two groups by FEMA: capital accounts and current accounts.

7. Without FEMA's approval, no financial transaction involving foreign exchange or securities can be completed. Every transaction needs to be completed by "Authorized Persons" who is any individual designated by the RBI to deal in foreign exchange or securities as an authorised dealer, money changer, offshore banking unit, or in any other way it sees fit is referred to as an authorised person.

8. Empowers RBI with the authority to impose limits on transactions from capital accounts, even when those transactions are carried out through a person authorised to do so.

STRUCTURE

• The Director is in charge of the Enforcement Directorate, popularly known as the FEMA Head Office, which is situated in New Delhi.

• Each of the five zone offices—which are located in Delhi, Mumbai, Kolkata, Chennai, and Jalandhar—is led by a deputy director.

• Five zones are further divided into seven sub-zonal offices supervised by Assistant Directors and five field units headed by Chief Enforcement Officers.

PENALTY PROVISION

Section 13 of the FEMA sets out the following penalty to the violators of the act:-

• The adjudicator, or the enforcement director, has the power to impose a penalty equal to three times the amount of the infringement, where it is quantifiable.

• In the event that the infraction cannot be measured, the punishment is fixed at Rs .. 2 lakhs.

• In addition, in situations where the infraction is continuing, an additional fine of Rs 5,000 may be imposed for each day of violation.

NATIONAL SECURITY

The FEMA seeks to provide national security to the country with regards to foreign dealing in general and their own citizens engaged in such dealings. Under Section 37 of the FEMA, the Director of Enforcement and other officers of Enforcement, not below the rank of an Assistant Director, have been given the power to investigate matters where contravention of the provision of the Act have taken place or have allegedly taken place. They also have the powers to search and seizure of documents and other material evidence of violation.

The Reserve Bank of India has been granted maximum of powers under the Act for the regulation of foreign dealings and import and export. The RBI issues guidelines and notifications from time to time to adapt to changes in the exchange system as and when they are needed. One such notification was issued in 2004, i.e., Foreign Exchange Management (Transfer or Issue of Any Foreign Security) (Amendment) Regulations, 2004.

The above mentioned regulation's Section 21 addresses investments in foreign securities other than direct investments. It states the following two things:-

(1) Except as allowed by the Act, no Indian resident may issue or transfer a foreign security.

(2) An individual who resides in India, whether they are an Indian company or a body corporate established by a parliamentary act may, in compliance with and subject to the restrictions outlined in Schedule I, grant FCCBs to a person residing outside of India in an amount not to exceed USD 500 million. But, that person can acquire the authority to issue FCCBs worth more than US $500 million, provided that he or she obtains the prior consent of the Reserve Bank of India.

CONCLUSION

The responsibility for supervising the guidelines and rules established by RBI falls on FEMA. It controls these services in order to maintain the free movement of foreign exchange in India. Thus, FEMA's applicability to branches of other countries can be expanded if it is owned by an Indian resident. Foreign exchange management is outside the purview of unauthorized personnel, which is FEMA's primary competency.

The FERA was rightly replaced by the FEMA. All the offences that were deemed to be criminal offences under FERA were made civil offences and penalties were imposed upon these offences accordingly. The FERA had also failed to comply with the framework of the World Trade Organisation (WTO) which is why FEMA came into operation. FEMA grants the federal government the authority to impose limitations on certain acts, such as sending money to an individual who is located outside the nation or receiving funds through them. In addition, FEMA limits transactions involving foreign currency and foreign security.

The FERA did prove to be the right step in loosening up the restrictions earlier on faces in the foreign exchange market. Even the company- Coca Cola left due to FERA policy and returned after the introduction of India's Liberalization policy. Under FEMA, no such prestigious companies have left and it continues to grow our foreign market and trade.

Author : Samridhi Sanchaya, in case of any query, contact us at Global Patent Filing or write back us via email at support@globalpatentfiling.com.

REFERENCES

1. Foreign Exchange Management Act(FEMA) & Foreign Exchange Regulations Act(FERA)

:https://byjus.com/free-ias-prep/foreign-exchange-management-act-fema/

2. Foreign Exchange Management Act Notification: https://www.rbi.org.in/Scripts/BS_FemaNotifications.aspx?Id=2126#:~:text=Prohi bition%20on%20issue%20of%20foreign,by%20an%20Act%20of%20Parliament.

3. Capitaland Current Account Transactions: A Complete Guide: https://www.skydo.com/blog/what-are-capital-and-current-account-transactions

4. Bare Act available at : https://www.indiacode.nic.in/bitstream/123456789/1988/1/A1999_42.pdf