Foreign Exchange Management Act (FEMA): Its Regulations and Penalties

Import and export are essential components of the aggregate trade that occurs in India. Import-export involves trading with multiple countries to allow businesses to grow and expand in global markets. Moreover, import allows the country to fulfil the domestic demand for a product not indigenously produced or produced in limitation.

While import and export are important trading activities, some rules and regulations are required to govern them. These rules and regulations prevent disputes and ensure that the trade is carried out fairly. The government of India’s Foreign Exchange Management Act (FEMA), 1999 governs foreign trade and exchange policies. 

Read on for details.

What is Foreign Exchange Management Act?

The FEMA Act 1999 lays down regulations that empower the Reserve Bank of India and the government to formulate rules governing foreign trade and currency exchange. 

The Foreign Exchange Management Act was passed in 1999 and came into effect on June 1, 2000. The act regulates the inflow and outflow of an international currency in the Indian economy. 

Objectives of the Foreign Exchange Management Act

The main objectives of the Foreign Exchange Management Act, 1999, are as follows:

• Facilitation of international trade and payments
• Development and maintenance of the foreign exchange market of India
• To lay down the rules and procedures of foreign exchange transactions

Also Read: What is Bank Secrecy Act (BSA) and Its Importance in Record Keeping

Features and Provisions under FEMA

Some of the salient features and provisions under FEMA are as follows:

• FEMA works with the RBI and allows it to categorise the different types of capital account transactions that happen and their respective exchange rates.
• While authorised persons are allowed to trade in foreign exchange, FEMA allows the RBI to impose restrictions on the capital accounts of such persons. Now, authorised persons must regularly furnish the details of their foreign exchange transactions to the RBI.
• The act allows Indians to trade in foreign exchange and also to own an immovable property internationally. This is allowed if the asset was acquired when the individual lived internationally or inherited from someone living internationally.
• Forex remittances are also covered under FEMA. Moreover, currency exchange for international travel also falls under FEMA’s purview.
• FEMA authorises the Central government to regulate the inflow and outflow of funds concerning an individual outside India.
• Any international transaction, including transactions in foreign securities or assets, must adhere to FEMA guidelines and should get approval from the act.

The FEMA was established for a liberalised foreign trade and forex policy to bolster the international participation of India.

Applicability of Foreign Exchange Management Act

The rules and regulations contained in the Foreign Exchange Management Act are applicable throughout India. Moreover, if a resident of India owns any agency, office, or branch outside the country, FEMA rules would also apply to them.

Here’s a list of transactions and categories to which FEMA rules apply:

• Foreign security 
• Forex or foreign exchange
• Import of any commodity or service to India from an international country
• Export of any commodity or service from India to an international country
• Any type of sale, purchase or transfer in kind
• Securities as defined under the Public Debt Act, 1994
• Financial, banking and insurance services
• An overseas company wherein an NRI has an ownership of 60% and above
• An Indian citizen who resides in a foreign country, i.e., an NRI

Regulations of FEMA

While the FEMA contains a list of regulations, some of the most common and important ones are as follows:

• An individual should not engage in foreign security or foreign exchange for another unless he is an authorised person.
• An individual should not transfer any money to an NRI.
• An individual should not receive any money transfer on behalf of an NRI even if an authorised person does the transfer.
• An individual should not interfere in any financial transaction by an NRI in India.
• An individual residing in India is not allowed to own, hold, transfer or possess any type of immovable property that is located internationally.

Transactions under FEMA

Foreign exchange transactions in India can be divided into two categories. They are described as follows:

a) Capital Account Transactions

Capital account transactions are those transactions that are capital in nature. For instance, investments in a foreign asset or an international investment in India are of a capital nature and are entered into the capital account.

b) Current Account Transactions

On the other hand, current account transactions are those done in the regular course of business. Such transactions involve the inflow and outflow of an international currency in India for international trade and payment. For example, payment made for exporting or importing goods would be recorded in the current account.

Transactions in the current account can be categorised into three distinct heads. These are as follows:

• Transactions not allowed by FEMA
• Transactions that require the approval of the Central government
• Transactions that require the approval of the Reserve Bank of India (RBI)

Penalties Under FEMA

Every individual engaged in foreign trade and payment must follow FEMA guidelines dictating the transaction. Failure to comply with the rules would result in penalties. This penalty is computed in absolute amounts and incurs a considerable expense.

The penalty is calculated as thrice the amount involved in violating the FEMA rules up to a maximum of Rs. 2 lakh. Moreover, if you continue violating the regulations of FEMA, you might have to bear an additional penalty of Rs. 5,000/day for each day that you violate the rules. 

What is Foreign Exchange Regulation Act (FERA), and Why Was it Replaced with FEMA?

Before the Foreign Exchange Management Act was passed in 1999, foreign trade and exchange were governed under another act called the Foreign Exchange Regulation Act (FERA). The FERA was passed in 1973, and it was implemented on January 1, 1974. This act laid down strict and rigid rules with respect to foreign trade. However, in 1991, the liberalisation process started. This process relaxed various rules on foreign exchange and international trade to promote economic development. As such, the government abolished FERA and replaced it with FEMA.

Also Read: What is Capital Expenditure (CapEx) and How Does it Work?

Differences between FEMA and FERA 

The FERA and FEMA Acts are quite different from one another. The differences are as follows:

Final Word

If you are engaged in the import and export business or trade in foreign currency, you’ll be well-advised to get complete clarity on the Foreign Exchange Management Act. Know the FEMA rules about your transaction so that you can follow the rules and avoid any violation. Remember, violations incur penalties which, in turn, incur additional expenses. So, follow the FEMA rules and avoid penalties for engaging in foreign trade easily.

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