Escrow Mechanism

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May 10 – The Reserve Bank of India (RBI) has allowed AD Category – I Banks (AD Banks) to permit assurance of shares of an Indian company seized by non-residents subject to under the following situation:

Assurance in favor of Indian banks in India

  • Reason: Shares may be assured to secure credit facilities comprehensive to resident investee company for bonafide business purposes;
  • Indian company must fulfill with the disclosure norms agreed by the Securities Exchange Board of India; and
  • Pledge of shares in favor of lender bank must be in fulfillment with Section 19 of the Banking Regulation Act, 1949 (the shareholding of a bank, whether as a pledgee, mortgagee or absolute owner is limited to 30 percent of its paid-up share capital or 30 percent of its own paid-up share capital and reserves, whichever is less).

Assurance in favor of overseas banks

  • Reason: Shares may be assured to secure credit conveniences availed from an overseas bank by the nonresident investor/promoter of the Indian company or its overseas group company for genuine business purposes;
  • The loan shall not be given for investments in India, directly or indirectly; and
  • Foreign investment must not result in capital inflow into India

After assurance, transfer of shares shall proceed in agreement with the foreign direct investment policy accessible at the time of creation of the assurance. In case a loan is taken by an Indian company from an overseas bank, it is essential to submit a statement/annual certificate from its statutory auditor that the loan has been used for the confirmed purpose.

In case of a loan taken by a non-resident borrower, a declaration/annual certificate from its chartered accountant or a certified public accountant is necessary to be submitted. Previously, such dealings, the nonresident or the borrower company, as relevant, was mandatory to get a no objection certificate (NOC) from the AD Bank and authorization of the RBI was compulsory for assurance of shares by Indian promoters for securing an external commercial borrowing.

To restructure FDI dealings and to offer operational accessibility, RBI has allowed AD Banks to open and sustain non-interest bearing escrow accounts in Indian rupees in India, with no prior approval subject to inter alia the following situations:

Securities kept/linked to such escrow accounts may be linked to the DEMAT account maintained with the Depository Participant (DP).

No fund/non-fund based facilities shall be allowed against balances in such escrow accounts.

Permitted credits

  • Inbound overseas remittance as a consideration towards issue / transfer of shares through normal banking guides;
  • Rupee consideration from resident acquirers through normal banking guides, upon transfer of shares from non residents to residents

Acceptable debits

  • Consideration for issue / transfer of shares to the bank account of resident issuer/transferor in India or abroad; or
  • Consideration for refund to initial remitter of funds in case of failure of the FDI transaction for which the escrow account was opened, subject to approval of AD Bank of the legitimacy of remittance

Such escrow accounts shall be equipped upto a period of 6 months, beyond which explicit authorization of the RBI would be required.

After the fulfillment of all the stipulations for the attainment of shares, repatriation of the balance amount in the escrow account shall be done at the then-prevailing exchange rates. AD Bank/DP would be accountable for fulfillment with all the ‘Know Your Customer’ customs. The stipulations and setting of operation of the escrow account are requisite to be evidently laid down in the transaction documents. Previously, escrow accounts were allowed to be opened for transfer of shares/convertible debentures of an Indian corporation through open offer/delisting/exit offers. As escrow machinery are a popular choice for commercial transactions, it shows that the goal of this Circular is to relax the use of escrow mechanisms for FDI transactions.

In one of the latest update by the Authority for Advance Rulings (AAR) in India states that transfer of shares for the purpose of business restructuring process, if being done without consideration doesn’t attract capital gains tax. The AAR also states that transfer pricing provisions and regulations which govern withholding tax would apply only if the income is chargeable in India.

Dezan Shira & Associates is boutique professional services firm providing foreign direct investment business advisory, tax, accounting, payroll and due diligence services for multinational clients in India. To contact the firm, please email, visit, or download the firm’s brochure here.