Capital Account Transactions (Section 6)

If current account transactions are the lifeblood of everyday foreign trade and are presumptively free, capital account transactions are the opposite animal: they are presumptively forbidden. Section 6 of the Foreign Exchange Management Act, 1999 (FEMA) is the gateway through which every cross-border movement of capital must pass, and it carries a single, unforgiving default rule. A person may sell or draw foreign exchange for a capital account transaction only if the Reserve Bank of India (RBI) or, after 2015, the Central Government has by regulation permitted it. Nothing is allowed unless it has been opened up. This chapter unpacks Section 6 subsection by subsection, traces the Finance Act, 2015 surgery that split regulatory power between the RBI and the Government, and grounds the doctrine in the leading authorities, from Vodafone International Holdings B.V. v. Union of India to Asha John Divianathan v. Vikram Malhotra.

What is a capital account transaction?

The definition does not sit in Section 6 at all; it lives in the definitions clause, Section 2(e). A capital account transaction means a transaction which alters the assets or liabilities, including contingent liabilities, outside India of persons resident in India, or the assets or liabilities in India of persons resident outside India. The definition is deliberately structured around alteration of the balance sheet rather than around the purpose of the payment. If a transaction changes what a resident owns or owes abroad, or what a non-resident owns or owes in India, it is on the capital side of the line.

This is the conceptual hinge that separates Section 6 from Section 5. A remittance for a foreign holiday or a child's school fees alters no asset or liability; it is a current account transaction, free unless restricted. The purchase of a flat in London by a resident, by contrast, creates a foreign immovable asset and is therefore capital in character, forbidden unless a regulation permits it. Section 2(e) expressly sweeps in contingent liabilities, so a guarantee given by a resident in favour of an overseas lender is itself a capital account transaction even though no money has yet moved. Section 2(j) further provides that a transaction that is neither expressly a current nor a capital account transaction is treated, for regulatory purposes, by reference to the residual category, which is why the Act takes care to define current account transactions inclusively.

The default rule: prohibited unless permitted

The single most examinable proposition about Section 6 is its inversion of the Section 5 presumption. Under Section 5, any person may sell or draw foreign exchange for a current account transaction, and restriction is the exception that the Central Government must affirmatively impose. Under Section 6, the logic runs the other way. Section 6(1) opens with a permissive face, providing that, subject to the rest of the section, a person may sell or draw foreign exchange to or from an authorised person for a capital account transaction. But the permission is hollow until the RBI or the Central Government specifies a class of permissible capital account transactions. The practical maxim, repeated in every commentary, is that current account transactions are permitted unless prohibited, while capital account transactions are prohibited unless permitted.

This default reflects FEMA's underlying policy of managed rather than regulated foreign exchange, the philosophical break from the draconian Foreign Exchange Regulation Act, 1973 that the chapter on the FERA to FEMA transition explores. India liberalised the current account fully by accepting Article VIII obligations of the IMF, but retained capital controls as a buffer against volatile cross-border flows. Section 6 is the statutory expression of that retained caution: capital convertibility remains partial and is opened category by category through subordinate legislation rather than conceded wholesale.

Section 6(1) and the permissive shell

Section 6(1) reads that, subject to the provisions of sub-section (2), a person may sell or draw foreign exchange to or from an authorised person for a capital account transaction. Two limbs deserve attention. First, the transaction must be routed through an authorised person, the licensed intermediary defined in Section 2(c) and discussed under regulation of foreign exchange dealings; one cannot lawfully transact in foreign exchange outside the authorised-dealer channel. Second, the words sell or draw tie Section 6 to the mechanics of acquiring or disposing of foreign exchange, which is why the operative control is exercised over the foreign-exchange leg of the transaction.

Section 6(1) is best read as a permissive shell that has no content of its own. It tells you that capital account transactions can be done, but it is the regulations made under sub-sections (2) and (2A) that tell you which ones may be done and on what terms. Until a regulation carves out a permitted class, the default prohibition bites. The architecture is therefore enabling-plus-delegation: the statute authorises the activity in principle and delegates the line-drawing to the regulator.

Section 6(2): the RBI's power over debt instruments

Section 6(2) is the heart of the regulatory machinery. As it stands after the Finance Act, 2015, it empowers the Reserve Bank, in consultation with the Central Government, to specify any class or classes of capital account transactions involving debt instruments which are permissible, the limit up to which foreign exchange may be admissible for such transactions, and any conditions which may be placed on such transactions. The proviso preserves a vital safeguard: the RBI may not impose any restriction on the drawal of foreign exchange for payment due on account of amortisation of loans or for depreciation of direct investments in the ordinary course of business.

Before the 2015 amendment, Section 6(2) and the now-omitted Section 6(3) gave the RBI a broad mandate over all capital account transactions, both debt and non-debt. The amendment surgically narrowed the RBI's exclusive remit to debt instruments, external commercial borrowings, foreign-currency loans and cross-border guarantees on the debt side. The proviso protecting amortisation and depreciation payments is examiner-friendly because it shows that even within capital controls FEMA refuses to choke off the routine servicing of legitimate cross-border investment.

Section 6(2A): the Central Government's power over non-debt instruments

The Finance Act, 2015 inserted Section 6(2A), a structurally significant change that moved regulatory power over non-debt instruments, principally equity, from the Reserve Bank to the Central Government. Sub-section (2A) provides that the Central Government may, in consultation with the Reserve Bank, prescribe any class or classes of capital account transactions, not involving debt instruments, which are permissible, the limit up to which foreign exchange is admissible, and the conditions attaching to them.

The amendment, though enacted in 2015, became operational only when the consequential machinery was notified, with the key date being 15 October 2019, when the relevant clauses took effect and the Government issued the Foreign Exchange Management (Non-debt Instruments) Rules, 2019 alongside RBI's Debt Instruments Regulations. The result is a clean bifurcation: foreign direct investment, portfolio investment and acquisition of Indian immovable property by non-residents (all non-debt) now sit with the Central Government, while borrowings, bonds, debentures and other debt instruments remain with the RBI. Section 6(7), also inserted in 2015, completes the design by providing that the Central Government, in consultation with the RBI, shall determine what constitutes a debt instrument, thereby fixing the boundary between the two regulators' turf.

The rationale for the 2015 realignment was institutional rather than merely technical. Foreign investment policy, the FDI sectoral caps and the entry routes are quintessentially matters of economic and industrial policy that the Government, advised by the Department for Promotion of Industry and Internal Trade, is better placed to set, whereas debt flows bear directly on monetary stability, the exchange rate and external debt management, which are central-banking functions. By aligning regulatory authorship with institutional competence, Parliament removed a long-standing anomaly under which the RBI nominally regulated FDI even though policy was driven by the Government. Candidates should be able to state both the mechanical effect of Section 6(2A) and this underlying policy logic.

Section 6(3): omitted, but worth knowing

Section 6(3), as originally enacted, contained an enumerated list of the capital account transactions the RBI could regulate, including the transfer or issue of foreign securities by residents, the transfer or issue of securities by non-residents, borrowing and lending in foreign exchange and in rupees between residents and non-residents, deposits, export-import of currency, the transfer of immovable property outside India by residents and the acquisition or transfer of immovable property in India by non-residents, and the giving of guarantees in respect of debt or obligation incurred by a resident and owed to a non-resident. The Finance Act, 2015 omitted Section 6(3) in its entirety, its subject matter being redistributed between the reframed Section 6(2) (debt) and the new Section 6(2A) (non-debt).

For an exam, the safe formulation is that the original Section 6(3) list survives in substance through the 2019 rules and regulations made under Section 6(2) and 6(2A), even though the enumerated sub-section itself no longer appears in the bare Act. Candidates who quote the old Section 6(3) list as current law commit a dated error; the correct statement is that those heads of transaction are now regulated under the post-2015 framework.

Sections 6(4) and 6(5): grandfathered foreign and Indian assets

Sub-sections (4) and (5) are mirror-image safe harbours. Section 6(4) provides that a person resident in India may hold, own, transfer or invest in foreign currency, foreign security or any immovable property situated outside India if such currency, security or property was acquired, held or owned by such person when he was resident outside India, or was inherited from a person who was resident outside India. Section 6(5) is the symmetrical inverse: a person resident outside India may hold, own, transfer or invest in Indian currency, security or immovable property situated in India if it was acquired, held or owned when he was resident in India, or inherited from a person who was resident in India.

These provisions prevent FEMA from operating retrospectively to strip people of legitimately-acquired assets merely because their residential status later changed. A returning Indian who built up a portfolio while working abroad keeps it; an emigrant who owned property in India before leaving keeps that too. The reach of Section 6(4) was clarified by the RBI itself in A.P. (DIR Series) Circular No. 90 of 9 January 2014, which read it as covering foreign assets acquired by a resident out of remittances under the Liberalised Remittance Scheme or out of income earned abroad, alongside inherited assets. The relationship between these grandfathered holdings and the general scheme is developed in the chapter on holding of foreign exchange.

Section 6(6): branch and liaison offices of non-residents

Section 6(6) empowers the Reserve Bank to prohibit, restrict or regulate the establishment in India of a branch, office or other place of business by a person resident outside India, for carrying on any activity relating to such branch, office or other place of business. This is the statutory basis for the RBI's well-known regime governing branch offices, liaison offices and project offices of foreign companies, now contained in 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.

The provision recognises that a foreign entity setting up a place of business in India is conducting a capital account activity, because it establishes an Indian presence that can hold assets and incur liabilities. The RBI accordingly screens such establishments, prescribes net-worth and profit-track-record conditions for branch and liaison offices, and channels approvals through authorised-dealer banks under the automatic route or through prior approval for sensitive sectors and applicants from certain jurisdictions. Liaison offices are confined to representational and coordination activities and may not earn income in India, branch offices may undertake the limited commercial activities permitted to them, and project offices are tied to a specific contract; the differential treatment shows how Section 6(6) lets the RBI calibrate the depth of a non-resident's Indian footprint rather than treating every establishment alike.

The list: who may do what

The content of the permission is found not in Section 6 but in the regulations made under it, historically the Foreign Exchange Management (Permissible Capital Account Transactions) Regulations, 2000, now substantially supplemented by the Non-debt Instruments Rules, 2019 and the Debt Instruments Regulations, 2019. The 2000 Regulations classify permissible transactions into two schedules. Schedule I lists what a person resident in India may do: investment in foreign securities (overseas direct investment), foreign-currency loans raised in India and abroad, transfer of immovable property outside India, guarantees, export and import and holding of currency within limits, loans to non-residents, and remittances under the Liberalised Remittance Scheme, currently capped at USD 250,000 per financial year.

Schedule II lists what a person resident outside India may do: investment in Indian securities by way of foreign direct investment and portfolio investment within sectoral caps, acquisition and transfer of immovable property in India other than agricultural land, plantation property and farmhouses, deposits between residents and non-residents, and foreign-currency accounts. Cutting across both schedules, Regulation 4 sets out an absolute prohibition: no person may make investment, whether resident in or outside India, in a company engaged in the business of chit funds, Nidhi companies, agricultural or plantation activities, real estate business (excluding development of townships and construction of buildings) or construction of farmhouses, or trading in transferable development rights. These are forbidden outright and no permission opens them.

Vodafone and the character of offshore transfers

The most cited authority touching the capital account is Vodafone International Holdings B.V. v. Union of India, (2012) 6 SCC 613. A Netherlands company acquired, from a Hong Kong seller, the shares of a Cayman Islands company (CGP Investments) whose subsidiaries indirectly held a controlling stake in an Indian telecom operator. The Supreme Court, per Kapadia C.J., with Radhakrishnan and Swatanter Kumar JJ., held that the Indian revenue had no jurisdiction to tax this offshore share transfer between two non-residents, because Section 9(1)(i) of the Income-tax Act, 1961 was not a look-through provision reaching indirect transfers of underlying Indian assets.

For FEMA purposes the significance is conceptual. The Court characterised the transaction as the offshore transfer of a foreign capital asset, and stressed that India's fiscal and exchange-control jurisdiction does not automatically follow the underlying Indian business through layers of foreign holding companies. The decision underscores that whether a transaction is a capital account transaction within India's regulatory reach turns on residence and situs, the very coordinates Section 2(e) uses. While Parliament responded with retrospective amendments to the Income-tax Act (later softened by the Taxation Laws (Amendment) Act, 2021), the FEMA principle that capital controls attach to transactions altering Indian or foreign assets of the relevant resident or non-resident remains intact and is routinely cited in cross-border M&A planning.

Consequences of contravention: Asha John Divianathan

What happens to a capital account transaction done without the required permission? The leading modern answer is Asha John Divianathan v. Vikram Malhotra, (2021) SCC OnLine SC 110, decided on 26 February 2021 by a three-judge bench of Khanwilkar, Indu Malhotra and Ajay Rastogi JJ. A foreign national had gifted immovable property in India without obtaining the previous permission of the Reserve Bank required by Section 31 of the predecessor FERA, 1973. The Court held that the requirement of previous permission was mandatory, and that a transfer made in contravention is void, not merely voidable or irregular.

Relying on Mannalal Khetan v. Kedar Nath Khetan, (1977) 2 SCC 424, the Court reasoned that where a statute prohibits an act on grounds of public policy and backs the prohibition with a penalty, the prohibited act, if done, is void even though no express clause declares it so, and even if the penalty itself is not enforced. The High Court view that Section 31 was directory and a contravening transfer was not void was expressly held to be not good law. Although decided under FERA, the principle migrates directly into FEMA: a capital account transaction undertaken without the permission Section 6 demands is liable to be treated as void and is independently exposed to penal proceedings under Section 13 of FEMA. The lesson for the cross-border practitioner is unambiguous: in capital account matters, permission is a condition precedent, not an afterthought.

Interaction with realisation, repatriation and the wider scheme

Section 6 does not operate in isolation. Capital account dealings interlock with the obligations of realisation and repatriation of foreign exchange under Section 8, which requires residents to take reasonable steps to realise and repatriate foreign exchange due to them, and with the holding rules under Section 4. When a resident makes a permitted overseas direct investment under Section 6, the dividends, interest and disinvestment proceeds it generates become foreign exchange that Section 8 generally requires to be brought back, subject to the exceptions and the RBI's general permissions.

The scheme is therefore best visualised as a circle. Section 6 controls the outflow and inflow of capital, Section 4 governs the lawful holding of the resulting foreign assets, and Section 8 governs the return of foreign exchange earned. A capital account transaction lawfully entered under Section 6 can still attract a Section 8 obligation downstream, and a failure at any point is a contravention triggering the civil-penalty regime of Section 13 enforced by the Directorate of Enforcement and the adjudicating authorities. For a consolidated map of how these provisions fit together, see the FEMA notes hub.

Exam strategy and common traps

Several traps recur in judiciary and CLAT-PG questions. First, do not confuse the Section 5 and Section 6 defaults; the examiner's favourite one-liner is that capital account transactions are prohibited unless permitted. Second, after 2015 do not attribute power over equity and foreign direct investment to the RBI; that non-debt power moved to the Central Government under Section 6(2A), with the debt power retained by the RBI under Section 6(2), the boundary being set by the debt-instrument definition in Section 6(7). Third, remember that Section 6(3) has been omitted; quoting its enumerated list as current statutory text is a dated error, even though its subject matter survives in the 2019 rules and regulations.

Fourth, on consequences, cite Asha John Divianathan for the proposition that want of mandatory RBI permission renders the transaction void, building on Mannalal Khetan. Fifth, keep the grandfathering provisions in 6(4) and 6(5) at your fingertips, since fact-pattern questions about returning NRIs and emigrants turn on them. Finally, anchor everything in the Section 2(e) definition: the question whether a given transaction is capital account at all is answered by asking whether it alters cross-border assets or liabilities, including contingent liabilities, and not by the label the parties give it. Master these six points and Section 6 becomes one of the most reliably scoring topics in the FEMA syllabus.