The Ministry of Corporate Affairs (“MCA”) notified Section 234 of the Companies Act, 2013, as amended (the “Companies Act”), and Rule 25A of the Companies (Compromises, Arrangements and Amalgamations) Rules, 2016, as amended (the “Companies Merger Rules”), on April 13, 2017, to permit merger and amalgamation of a foreign company with and into an Indian company and vice versa. Further, the Reserve Bank of India (“RBI”) notified the Foreign Exchange Management (Cross Border Merger) Regulations, 2018, as amended (“FEMA Merger Regulations”), on March 20, 2018, to address the gaps in the existing framework from a foreign exchange perspective.

Key provisions under the Companies Act

Prior to 2013, the merger or amalgamation of an Indian company with a foreign company was not permitted under the Companies Act, 1956, as amended (“Erstwhile Act”). The Erstwhile Act defined “transferee company” to only include companies incorporated in India and restricted the scope of cross-border mergers to mergers of foreign companies with and into Indian companies.[1] However, Section 234 of the Companies Act removed this restriction and made Chapter XV (Compromise, Arrangement and Amalgamations) applicable to all cross-border mergers. Accordingly, Section 234 of the Companies Act, read with Rule 25A of the Companies Merger Rules, provides the framework for cross-border mergers in India.

Pursuant to such provisions, the concerned company is required to seek prior approval from the RBI for any merger or amalgamation with a foreign company or Indian company, as applicable, and file an application before the National Company Law Tribunal (“NCLT”) in accordance with Sections 230 to 232 of the Companies Act and the applicable rules.[2] The scheme for merger may provide for payment of consideration to the shareholders of the merging company in cash, depository receipts or partly in cash and depository receipts, and is required to comply with the requirements of Sections 230 to 232 of the Companies Act, including approval from the shareholders, creditors, tax authorities, etc.[3]

However, the scope for merger of an Indian company with a foreign company is limited to the jurisdictions identified under the Companies Merger Rules. This includes foreign companies incorporated in the jurisdiction:

1. whose securities market regulator is a signatory to International Organisation of Securities Commission's Multilateral Memorandum of Understanding (“MoU”) or has a bilateral MoU with the Securities Exchange Board of India (“SEBI”), or
2. whose central bank is a member of the Bank for Internal Settlements, and
3. which has not been identified in the public statement of Financial Action Task Force (“FATF”) as: (a) a jurisdiction having a strategic Anti-Money Laundering or Combating the Financing of Terrorism deficiencies to which counter measures apply, or (b) as a jurisdiction that has not made sufficient progress in addressing the deficiencies or has not committed to an action plan developed by the FATF to address the deficiencies.[4]

On May 30, 2022, the MCA notified amendments to Rule 25A of the Companies Merger Rules introducing a new requirement for filing Form No. CAA-16 along with the application filed before the NCLT to confirm government approval in case of a merger with a company incorporated in a country sharing land border with India.[5]

Key Provisions under the FEMA Merger Regulations

The FEMA Merger Regulations define cross-border merger to mean, “any merger, amalgamation or arrangement between an Indian company and foreign company in accordance with Companies (Compromises, Arrangements and Amalgamation) Rules, 2016 notified under the Companies Act, 2013.” The regulations have further classified cross-border mergers as: (i) inbound mergers- where the resultant company is an Indian company, and (ii) outbound mergers - where the resultant company is a foreign company.[6] Any merger which is undertaken in accordance with the FEMA Merger Regulations will be deemed to have prior approval of the RBI for the purpose of Rule 25A of the Companies Merger Rules provided the following conditions are met (if any of such conditions are not met, prior RBI approval will be required):

1. Transfer of Securities:

In case of an inbound merger:

1. The resultant company may transfer its securities to a person resident outside subject to the provisions of the Foreign Exchange Management (Transfer or Issue of Security by a Person Resident outside India) Regulations, 2017, as amended (“FEMA 20-R”). With effect from October 17, 2019, the FEMA 20-R stands superseded by the Foreign Exchange Management (Non-debt Instruments) Rules, 2019, the Foreign Exchange Management (Debt Instruments) Regulations, 2019 and Foreign Exchange Management (Mode of Payment and Reporting of Non-Debt Instruments) Regulations, 2019. Accordingly, references in the FEMA Merger Regulations to the FEMA 20-R should now be replaced with the above foreign exchange rules and regulations, as applicable.
2. If such merger involves a foreign company, then additional compliance is required with respect to the Foreign Exchange Management (Transfer or Issue of any Foreign Security) Regulations, 2004, as amended (“TIFS Regulations”).[7] With effect from August 22, 2022, the TIFS Regulations stand superseded by the Foreign Investment (Overseas Investment) Rules, 2022 (“Overseas Investment Rules”). Accordingly, references in the FEMA Merger Regulations to the TIFS Regulations should now be replaced with the Overseas Investment Rules.

In addition, in case of an outbound merger, a resident individual may acquire or hold securities in the resultant company in accordance with the limits of the Liberalized Remittance Scheme provided under the Foreign Exchange Management Act, 1992, as amended and regulations issued thereunder (“FEMA”).[8]

1. Branch/Office outside India: Pursuant to an inbound merger, the office of the foreign company would be deemed to be the branch/office of the resultant company outside India under the Foreign Exchange Management (Foreign Currency Account by a Person Resident in India) Regulations, 2015, as amended.[9] Further, pursuant to an outbound merger, the office of the Indian company would be deemed to be the branch office of the resultant company in India under the Foreign Exchange Management (Establishment in India of a Branch Office or a Liaison Office or a Project Office or any other Place of Business) Regulations, 2016, as amended.[10] Typically, the business income of such branch office of the foreign company (derived from its operations in India) would be taxed at 40% plus applicable surcharge and cess.
2. Borrowings and Guarantees:
   1. Pursuant to an inbound merger, the borrowings and guarantees of the foreign company from overseas sources vest with the resultant company and such company is required to ensure compliance with the FEMA within a period of two years. No remittance is permitted to be made from India for repayment of the liability during such period and the condition with respect to end use is not applicable.[11]
   2. In case of an outbound merger, the outstanding borrowings and guarantees of the Indian company vest with the resultant company and are required to be repaid in accordance with the terms of the scheme sanctioned by the NCLT. The resultant company is not permitted to acquire any INR liability which is payable to a lender in India unless it is compliant with the FEMA and obtains no-objection certification from Indian lenders to that effect.[12]
1. Acquisition and Transfer of Assets: The resultant company may acquire and hold assets outside India or in India, as permitted under the FEMA and transfer it in the manner permitted therein. Any asset or security of the resultant company contravening the FEMA is required to be sold within two years from the sanction of the scheme by NCLT and the sale proceeds are required to be repatriated outside India or to India, as applicable. The resultant company may thereafter use such sale proceeds to repay any existing liability in India or outside India, as applicable.[13]
2. Bank Accounts:
   1. The resultant company pursuant to an inbound merger may maintain an overseas bank account for the transactions relating to the cross-border merger for a maximum period of two years from the sanction of the scheme by the NCLT.[14]
   2. In case of an outbound merger, the resultant company may open a Special Non-Resident Rupee Account under the Foreign Exchange Management (Deposit) Regulations, 2016, as amended, for a similar period.[15]
3. Valuation: Valuation of the merging companies is required to be undertaken in accordance with Rule 25A of the Companies Merger Rules.[16] Additionally, for an outbound merger, the valuer is required to be a member of a recognised professional body in such jurisdiction and the valuation is required to follow international accounting and valuation standards.[17]

Tax Implications

The exemptions under the Income-tax Act, 1961 (“the IT Act”) for tax neutrality of merger are available only if the transferee company is an Indian company. Such exemptions are not available in case of merger of an Indian company with a foreign company. Accordingly, the Indian company and its shareholders could be liable to tax in case of merger of an Indian company with a foreign company.

It is also relevant to highlight Section 72A of the IT Act which provides for carry forward and set off of accumulated tax business losses and unabsorbed depreciation in case the merger complies with certain specified conditions. In terms of Section 72A, such benefit will not be available in case of outbound mergers. In addition, in case of inbound mergers, tax losses of the foreign company may not qualify as ‘accumulated losses’ under the provisions of IT Act and therefore may lapse.

Conclusion

The facilitation of outbound mergers under the current legal framework has expanded the scope of cross-border mergers in India. However, as a practical matter, the framework for cross-border mergers in India remains of limited efficacy. Such framework has so far largely been utilized only in the context of merger of foreign wholly owned subsidiaries with and into the Indian holding company[18] or vice versa.[19]

This appears to be on account of several reasons, including: (a) the nature of the conditions for deemed RBI approval under the FEMA Merger Regulations (prior RBI approval is required if such conditions are not met), (b) lack of clarity regarding demergers (Section 234 of the Companies Act refers to mergers and amalgamations only instead of compromise and/or arrangement as used in Sections 230 to 232 of the Companies Act), and (c) absence of tax benefits in relation to outbound mergers that are otherwise available for domestic mergers subject to specified conditions, including absence of a provision for carry forward and set off of accumulated tax business losses and unabsorbed depreciation.

This insight has been authored by Rajat Sethi (Partner), Sumit Bansal (Partner) and Oshika Nayak (Associate). They can be reached at [email protected], [email protected] and [email protected], respectively, for any questions. This insight is intended only as a general discussion of issues and is not intended for any solicitation of work. It should not be regarded as legal advice and no legal or business decision should be based on its content.
© 2023 S&R Associates

[1] Section 394(4) of the Companies Act, 1956.[2] Rule 25A of the Companies (Compromises, Arrangements and Amalgamations) Rules, 2016 (“Companies Merger Rules”).

[3] Section 234(2) of the Companies Act, 2013.

[4] Annexure B of the Companies Merger Rules.

[5] The Companies (Compromises, Arrangements and Amalgamations) Amendment Rules, 2022 (notified on May 30, 2022).

[6] Regulation 2 of the Foreign Exchange Management (Cross Border Merger) Regulations, 2018 (“FEMA Merger Regulations”).

[7] Regulation 4(1) of the FEMA Merger Regulations.

[8] Regulation 5(1) and Regulation 5(2) of the FEMA Merger Regulations.

[9] Regulation 4(2) of the FEMA Merger Regulations.

[10] Regulation 5(3) of the FEMA Merger Regulations.

[11] Regulation 4(3) of the FEMA Merger Regulations.

[12] Regulation 5(4) of the FEMA Merger Regulations.

[13] Regulation 4(5) and Regulation 5(6) of the FEMA Merger Regulations.

[14] Regulation 4(6) of the FEMA Merger Regulations.

[15] Regulation 5(7) of the FEMA Merger Regulations.

[16] Regulation 6 of the FEMA Merger Regulations.

[17] Regulation 25A(2) of the Companies Merger Rules.

[18] For example, the Scheme of Amalgamation of Bio Energy Venture-1 (Mauritius) Pvt. Ltd. with Tata Chemicals Limited and Others, 2020 SCC OnLine NCLT 9076, the Scheme of Merger by Absorption of Diamond India DMCC with Diamond India Limited and their respective shareholders, 2020 SCC OnLine NCLT 9224, and the Scheme of Merger by Absorption of Reliance Life Sciences B.V. with Reliance Life Sciences Private Limited and their respective shareholders, 2019 SCC OnLine NCLT 30010.

[19] In the matter of Sigmoid Labs Private Limited and its shareholders and creditors and another, 2020 SCC OnLine NCLT 18859.