Inauguration of India’s first International Financial Services Centre (“IFSC”) at the Gujarat International Finance Tec-City (“Gift City”) in Gujarat is a positive development to invigorate our financial sector. If everything that is being attempted to achieve is accomplished, it will mark our entry on the global stage. When IFSC was being set up, our then Finance Minister, Late Mr. Arun Jaitley, had envisioned an IFSC at par with other global financial hubs like London, Singapore, Hong Kong, Dubai, etc. An IFSC encourages all major global players to operate in such facility, which in turn would facilitate a two way flow of finance, financial products, financial services, etc.. It would also attract the best talent pool because of access to multiple career opportunities as well as ability to work with the market leaders and world class products. For India, despite being one of the fastest-growing economies in the world, having one of the best talent pools that has created a name for itself in the global scene, having a significantly young population and emerging as one of the most sought after jurisdictions for start-ups, to not have an IFSC of its own and to not offer financial services to businesses across the world, would have been a great travesty.
Further, a series of policy changes, economic reforms and other developments have been introduced to ensure that the concept of IFSC works in India. The International Financial Services Centres Authority Act, 2019 (“IFSCA Act”) was legislated in 2019 and established IFSCA as a separate unified body to handle all affairs of the units operating in the Gift City and has also laid down structures and processes for carrying out their operations in the Gift City. This appears to be one of the most ambitious moves taken by the government that reflects its commitment and dedication towards the Gift City initiative. This is for the first time that powers of four financial services regulators in India, namely, Reserve Bank of India, Securities & Exchange Board of India, Insurance Regulatory Development Authority of India and Pension Fund Regulatory Development Authority of India have been vested in one unified body for regulation of financial institutions, financial services and financial products at the Gift City. Further, the government has, time and again, taken measures to ease the overall framework for carrying out operations in the Gift City as a result of which several foreign players, in addition to Indian parties, are being persuaded to operate from here in place of foreign jurisdictions.
Also, being conscious of the impact of tax policies on prospective participants the government has been highly receptive to the expectations and suggestions of various stakeholders in order to make the IFSC a tax-efficient destination. In the last few Union Budgets, the government has unequivocally introduced new tax offerings and incentives for various financial activities in the IFSC to incentivise foreign investors and financial institutions to move here from other financial centres. The ultimate objective of the government is to ensure adequate advancement and expansion of financial operations at IFSC, Gift City.
Need for self-reliance and opening a gateway to World Financial Market
The aim of establishing and promoting IFSC was to create a world-class financial structure that could rival its counterparts in London, Singapore, Hong Kong, Dubai, etc., and convince investors and businessmen to shift their base here. To put things into perspective, IFSC seeks to ensure that all sophisticated and complex financial transactions that are currently carried out outside India shall be carried out from the Gift City by the same overseas financial institutions and overseas branches/subsidiaries of Indian financial institutions. It is important and indispensable in the long run that offshore financial transactions be brought onshore not only for their financial implications but also for various strategic purposes. It is also important to bring financial service experts sitting offshore and operating outside India back here so that India can also be promoted as a talent hub.
Indian businesses can now access the international markets through the IFSC. Foreign businesses may also be able to raise money through the IFSC without compromising on their ability to repatriate funds. The IFSC thus allows both domestic and international players to access the international market.
Framework for banking units in IFSC
The IFSC offers a great platform for Indian banks to extend their offerings to jurisdictions outside India. An IFSC Banking Unit (“IBU”) is regarded like a foreign branch situated in IFSC, offering world class international banking services. With the opening of an IBU, banks can cater to both domestic and international clients for their various investment and banking requirements. It would expand the overall business operations and revenue base of these banks in the long run as they would be competing with other international banks. IBUs can undertake various banking activities in an IFSC such as lending, investments, credit enhancement, sale and purchase of portfolios, credit insurance, factoring and forfaiting of export receivables, aircraft leasing, etc. More importantly, IBUs are required to conduct such business in freely convertible foreign currencies.
The following entities can setup IBU in IFSC in GIFT City, subject to satisfaction of various requirements laid down by the IFSCA:
IBUs are branches of Indian banks or foreign banks having presence in India, which are setup in the IFSC within the Special Economic Zones (SEZs). The units within the IFSC have to abide by the provisions of the Special Economic Zones Act, 2005 and the Special Economic Zones Rules, 2006 as well as the regulations made thereunder.
IBUs in IFSC are regulated by the IFSCA, to facilitate a single-window clearance. Banks need permission from the IFSCA for opening an IBU in Gift City IFSC. The parent bank, whether it is an Indian bank or a foreign bank, would be required to provide a minimum capital of USD 20 million or equivalent in convertible foreign currency or such amount as may be specified by the IFSCA. A no-objection letter from home country regulator is also required in case of foreign banks. Further, the IFSCA is looking at a suitable mechanism to help foreign banks, that do not have any presence in India, set up an IBU in IFSC.
An IBU caters to the following requirements in Gift City IFSC:
Foreign Currency Accounts (“FCA”)
The IFSCA has provided several new avenues for retail banking services in the IFSC i.e. banking services to individuals by introducing some big bang changes, which could open up the risk averse and conservative Indian banking sector. This is in addition to corporate and institutional entities resident in India or outside India who can open an FCA in IBUs in the manner as may be specified by the IFSCA.
Any Indian national or a foreign national can also hold an FCA in any freely convertible currency in an IBU. This is the first such instance wherein participation or investment by resident individuals has been allowed in IFSC, following demands from banks. Such facility is also advantageous for resident Indians who earn in foreign currency and want to spend it abroad.
The RBI vide a recent circular on February 16, 2021 clarified that current account transactions like travel, education, gifts, etc., and capital account transactions like purchase of immovable property, etc., are not relevant for accounts held in the IFSC. Hence, the RBI allowed resident individuals to invest up to USD 250,000, permitted under LRS, in securities issued by non-resident entities in an IFSC, i.e. upto USD 250,000 limit as specified under the Liberalised Remittance Scheme (“LRS”) of the RBI. Such steps seem to have been taken to deepen the financial markets in the IFSC and provide an opportunity to resident individuals to diversify their portfolios.
Tax incentives in IFSC for banking units
A. Direct Tax
- A decade of Tax Holiday
An IBU setting out to commence operations in the IFSC will have the opportunity to avail a 100% deduction from its income for a period of 10 consecutive assessment years out of the first 15 years of commencement of its operations. Such units in the IFSC have the flexibility to select any 10 years out of the 15-year block.
Further, a special carve out has been provided for IBUs in case they opt for the concessional income tax rate of 22% (plus surcharge and cess) introduced recently. Though an entity opting for such concessional tax rate is not allowed to avail any deduction under Chapter VI-A of IT Act, a specific carve out is available under the IT Act for an IBU in this respect. An IBU opting for the concessional tax rate of 22% still has the option to avail the benefit of the 10-year tax holiday period as specified above and can opt for the concessional tax regime even thereafter.
- Concessional rate of Minimum Alternate Tax (“MAT”): Under the income tax laws, there is a requirement to pay a minimum tax of 15% on the book profits of an assessee, where the total tax liability in a year as per its taxable profits is less than 15% of its book profits. Hence, an assessee availing even a 100% deduction from its profits is required to undertake a minimum tax outgo to the extent of 15% of book profits on account of MAT each year, though MAT paid can be availed as credit from the normal income tax liability arising in future years on account of taxable income.
In this regard, in order to reduce the burden of MAT and to provide a competitive tax regime to units operating in the IFSC, a beneficial MAT rate of 9% has been introduced for units deriving income solely in foreign currency, where tax liability on total income is less than 9% of their book profits. This is especially beneficial in view of the tax holiday period of 10 years made available for such units in IFSC, as it would rationalise the total tax outgo in such years.
- Exemption on income of investment division of foreign banks in IFSC:
Income earned by:
- Category-III Alternative Investment Funds regulated by SEBI located in an IFSC, of which all the units are held by a non-resident other than unit held by a sponsor or manager, or
- investment division of Offshore Banking unit (i.e. banking unit of a non-resident ) in IFSC, granted registration as a Category I Foreign Portfolio Investor, which has commenced its operations on or before March 31, 2024.
from a securitisation trust, which is chargeable under the head business income, is exempt from tax, to the extent that such income is attributable to the investment division of an Offshore Banking unit in IFSC, which has commenced its operations on or before March 31, 2024.
In order to get adequate business and investments from abroad, the government has heavily incentivised the non-residents as set out below:
- Exemption on Interest income:
Interest income derived by a non-resident from an IBU on money borrowed on or after September 01, 2019 has been made exempt from tax. This exemption has been made available with a view to facilitate external borrowings by the IBU in IFSC.
Further, interest income earned by a non-resident or a person not ordinarily resident in India from an IBU on deposits made shall also be exempt.
No tax withholding in the form of TDS i.e. tax deducted at source, shall be required to be done by the payer i.e. IBU on such interest payments made to a non-resident.
- Income from transfer of non-deliverable forward contracts (“NDF”):
NDF markets enable trading of the non-convertible currency outside the influence of the domestic authorities. Due to considerable growth in offshore trading volume in rupee NDFs in recent years, there is need to develop trading market in respect of such NDFs, for India within its shores, in this case in its own IFSC. This also helps the authorities to monitor the currency stability etc., and in view of various financial and strategic considerations, it is regarded relevant to develop this market in the IFSC. In keeping with such considerations, trading of NDFs has been incentivised in IFSC.
Income of a non-resident from transfer of NDFs entered into with an IBU, is exempt, pursuant to fulfilment of certain conditions. By giving an exemption to overseas investors looking out to hedge their currency risk in the form of NDF with an IBU, the idea is to incentivise the NDF market to gradually shift to IFSC in India to derive benefit of better tax prospects.
B. Indirect Tax
- Procurement of goods or services
Setting up of a unit involves huge capital investment in the form of procurement of commercial working space and high-end capital goods such as laptops, servers, other fixtures for office, etc. Further, certain services and goods would have to be procured on regular intervals such as manpower, logistics etc. Typically, Goods and Service Tax (“GST”) at an effective rate of 18% would be payable on procurement of goods or services. Moreover, import of goods may attract customs duty (including basic customs duty, GST and cess) of around 30%. Thus, a huge amount of tax would be payable which undoubtably increases the cost of operations of a unit.
An IBU would not be subject to basic custom duty at the time of procurement of goods from outside India. Further, services/ goods for authorised operations of an IBU procured from the domestic tariff area (“DTA”) are also not subject to any GST. i.e. the DTA unit can supply such goods/services to an IBU without payment of GST, subject to fulfilment of conditions prescribed in this regard. Moreover, services or goods supplied by any other SEZ unit to an IBU would also be zero-rated under GST. Accordingly, an IBU would be able to avail indirect tax benefits which would substantially help in reducing the cost of operations of the unit.
- Supply made by an IBU:
Typically, a banking company has to discharge GST at an effective rate of 18% on financial services provided by it except on specified services which are exempt or zero-rated.
By setting up an IBU in IFSC, the banking unit engaged in rendering services as an intermediary of financial services (a specified class of persons) to a customer located outside India constituting international financial services in currencies other than INR, becomes eligible for exemption from levy of GST on such transactions.
India’s growth story in Gift City
An IFSC in India was a long-standing demand by several market participants. With the opening of IFSC in the Gift City, banking functions that were hitherto not possible, can now be carried on within the Indian shores.
The IFSC in the Gift City is an idea with a vision for the future and its long-term impact and financial and strategic contribution to the country will far outweigh the difficulties faced in the initial years. New companies and investors entering the IFSC will have a spill-over effect on the banks having presence in the Gift City. Banks that are already operating IBUs in the Gift City include Citi Bank, Bank of America, State Bank of India, HDFC Bank, ICICI Bank, Standard Chartered, HSBC, Kotak Mahindra Bank, Yes Bank, IndusInd Bank, Federal Bank, IDBI Bank, RBL, etc. Further, the recent amendments to the IFSC Banking Regulations to expand the list of ‘permissible activities of an IBU’ in Regulation 13 to “any or all of the activities permitted under the IFSCA and Section 6 of Banking Regulation Act, except as specifically prohibited by IFSCA” should further encourage Banks to look at Gift City with renewed vigour.
The Gift City is undoubtedly an important new chapter in the country’s financial ecosystem, but let us bear in mind that banking is an important pillar holding up the overall financial system. It is not possible to develop and grow the financial market at the Gift City without a robust banking system in place. The IFSC, on the other hand, has also opened up great opportunities for the Indian banking sector to tap into new areas of growth and has broadened the horizons to put our country’s banking system on the global financial stage. A banking unit in Gift City seems essential for any banking player hoping to play an important role in the overall banking system of the country in the coming years.
Interestingly, the latest report of the Global Financial Centres Index from March 2021 holds IFSC at GIFT City as one of the top financial centres globally that are considered as likely to gain greater significance in the coming years. We can be hopeful that our country’s IFSC will create its own space in the global financial market in near future.
 International Financial Services Centres Authority
 Refer CBDT Circular No. 26/ 2016 dated July 4, 2016
 Services by way of extending deposits, loans or advances where consideration is represented by way of interest or discount (other than interest involved in credit card services) is exempt from the levy of GST. Also, the inter se sale or purchase of foreign currency amongst banks or authorised dealers of foreign exchange or amongst banks and such dealers is also exempt from the levy of GST. Services rendered by the banking unit (branch office or liaison office) which is an establishment of bank located outside India, to its head office located outside India is also exempt from GST where the services are not in the nature of intermediary.
 Services supplied to a person located outside India or to a unit located in SEZ area for its authorised operations, could be supplied without payment of GST, subject to fulfilment of conditions prescribed in this regard.