Rule 23 explained: this guide covers what it means, who it applies to, the step-by-step process, documents required, fees, due dates and penalties in India — so you can stay compliant with confidence and avoid costly mistakes.
Rule 23 of the Foreign Exchange Management (Non-debt Instruments) Rules, 2019 governs downstream investment: investment by an Indian entity that has foreign investment into another Indian entity. Sub-rules (1) to (4) say that the receiving entity must meet the entry route, caps and pricing rules, how an LLP and a bank in restructuring are treated, how total foreign investment is counted, and what the investing entity must do before it invests.
This article is based on the Rules as notified on 17 October 2019 (S.O. 3732(E)) as amended by the notifications named in this article; the latest amendment consulted is S.O. 4870(E) dated 2 September 2026. Rule 23(1) to (7) and its Note are as notified; none of the 19 amending notifications up to 2 September 2026 changes them, although the Explanation to rule 23 was amended (S.O. 3206(E) and S.O. 3492(E)) and is explained separately. Amendments made after that date should be checked in the Gazette. There is no official consolidated text. If a group of companies has foreign shareholders, our downstream investment reporting service covers the filings.
An Indian entity that has received indirect foreign investment must comply with the entry route, sectoral caps, pricing guidelines and other conditions that apply to foreign investment (sub-rule (1)). An LLP that is not owned and not controlled by resident Indian citizens, or is owned or controlled by non-residents, may invest downstream only in an Indian company in a sector open to one hundred percent foreign investment on the automatic route with no FDI linked performance conditions. Sub-rule (4) requires Board approval and, for the investing entity, funds brought from abroad, not funds borrowed in the domestic markets; internal accruals are allowed.
Rule 23(1): the basic rule and the LLP Explanation
Sub-rule (1): an Indian entity which has received indirect foreign investment shall comply with the entry route, sectoral caps, pricing guidelines and other attendant conditions as applicable for foreign investment. The Reserve Bank's Master Direction - Foreign Investment in India, updated up to June 15, 2026, states the guiding principle in paragraph 9 as "what cannot be done directly, shall not be done indirectly". That sentence is the Master Direction's; the Rule does not print it.
Explanation under sub-rule (1) (as notified): downstream investment by an LLP not owned and not controlled by resident Indian citizens, or owned or controlled by persons resident outside India, is allowed in an Indian company operating in sectors where foreign investment up to one hundred percent is permitted under the automatic route and there are no FDI linked performance conditions. The Master Direction repeats it in paragraph 9.3.2 and adds in 9.3.3 that indirect foreign investment is permitted in an LLP in sectors open to one hundred percent on the automatic route without FDI linked performance conditions.
Who counts as owned, controlled and indirect, and the "Indian entity" and "LLP" terms, are explained in our article on the Explanation to rule 23. The definition of "control" in rule 2(da) is in our article on Indian company, control, startup and investor classes.
Rule 23(2): banks under restructuring
With effect from the 31st day of July, 2012, downstream investments made under Corporate Debt Restructuring, or another loan restructuring mechanism, or in the trading book, or for acquisition of shares due to defaults in loans, by a banking company (as defined in clause (c) of section 5 of the Banking Regulation Act, 1949) incorporated in India, which is not owned and not controlled by resident Indian citizens or is owned or controlled by persons resident outside India, shall not count towards indirect foreign investment. Their strategic downstream investment is counted towards indirect foreign investment for the company in which it is made. The Master Direction repeats this in paragraphs 9.4.1 and 9.4.2.
Rule 23(3): guidelines for calculating total foreign investment
| Clause | Guideline |
|---|---|
| (a) | Any equity holding by a person resident outside India resulting from conversion of any debt instrument under any arrangement is reckoned for total foreign investment |
| (b) | FCCBs and depository receipts having underlying instruments in the nature of debt are not reckoned |
| (c) | The methodology applies at every stage of investment, in each and every Indian company |
| (d) | For downstream investment, the portfolio investment held as on 31st March of the previous financial year in the Indian company making the investment is considered for computing its total foreign investment |
| (e) | Indirect foreign investment received by a wholly owned subsidiary of an Indian company is limited to the total foreign investment received by the company making the downstream investment |
"Total foreign investment" is defined in the Explanation as foreign investment plus indirect foreign investment, reckoned on a fully diluted basis. The sectoral cap in rule 2(am) is the same composite measure; see our article on FDI, foreign portfolio investment and the sectoral cap.
Rule 23(4): conditions on the investing entity
Downstream investment that is treated as indirect foreign investment for the investee entity is subject to these conditions:
- (a) the downstream investment shall have the approval of the Board of Directors, as also a shareholders' agreement, if any;
- (b) the Indian entity making the downstream investment shall bring in requisite funds from abroad and not use funds borrowed in the domestic markets. The investment may be made through internal accruals, which means profits transferred to reserve account after payment of taxes. Further raising of debt and its utilisation shall be in compliance with the Act, rules or regulations made under it.
The Master Direction (paragraphs 9.3.5 to 9.3.7) restates these. It adds, as its own statements, that subscription by non-residents to non-convertible debentures of an Indian company is not construed as funds borrowed or leveraged in the domestic market (9.3.6), that a company with no operations making a downstream investment must comply with the relevant sectoral conditions (9.3.8), and, in a Note to paragraph 9, that arrangements available for direct investment, such as swaps and the payment arrangements of rule 9(6), are available for downstream investment provided the transaction does not circumvent rule 23, including the restriction on borrowed funds. See our articles on swap of equity instruments and equity capital and gift, optionality, deferred payment and escrow.
Where this leads
Sub-rules (5) to (7), on transfers by foreign-owned companies, the auditor's annual certificate and LLPs, are in our article on transfers by foreign-owned companies and the auditor certificate. The reporting of downstream investment on Form DI is explained in our article on Form DI and the late submission fee. The Master Direction's January 2025 clarifications are discussed in our note on downstream investment under rule 23 and the FOCC relaxations, and our older guide on FDI downstream investment rules remains available.
A worked example
Nordvik Holdings, a foreign company, owns Pelican Industries Private Limited. Pelican is "owned and controlled by persons resident outside India", so its investment in Lakshya Components Private Limited is downstream investment and counts as indirect foreign investment in Lakshya. Lakshya must meet the entry route, cap and pricing rules as if Nordvik had invested directly. Pelican's Board must approve the investment; Pelican must bring in the funds from abroad or use internal accruals, and must not use rupee borrowings from the domestic market. If Pelican were an LLP instead, it could invest only in an Indian company in a sector open to one hundred percent on the automatic route with no FDI linked performance conditions.
Need help with a downstream investment?
Downstream investment turns on ownership and control tests in several tiers, then a report. Our downstream investment reporting team can map the chain and handle the filing.
Key takeaways
- An Indian entity with indirect foreign investment must meet the entry route, cap, pricing and other conditions for foreign investment.
- An LLP's downstream investment is limited to sectors open to one hundred percent on the automatic route without FDI linked performance conditions.
- Bank holdings under restructuring from 31 July 2012 do not count; strategic downstream investment does.
- Total foreign investment is counted at every stage and on a fully diluted basis.
- Board approval, funds from abroad or internal accruals, and no domestic borrowing are required for the investing entity.
Read next
- Rule 23(5) to (7) of the FEM (Non-debt Instruments) Rules, 2019: transfers by foreign-owned companies and the auditor certificate
- Explanation to rule 23 of the FEM (Non-debt Instruments) Rules, 2019: indirect foreign investment and ownership tests
- Rule 9A of the FEM (Non-debt Instruments) Rules, 2019: swap of equity instruments and equity capital
- Downstream investment under rule 23 and the FOCC relaxations
Disclaimer: Based on the Gazette text of the instrument this article names, as notified and as amended by the notifications named in the article (for the Foreign Exchange Management (Non-debt Instruments) Rules, 2019 the latest amendment consulted is S.O. 4870(E) dated 2 September 2026), as consulted on 2 October 2026. There is no official consolidated text; the provisions were read with each amendment applied. Sectoral caps, entry routes, conditions, forms and time limits change by notification, press note and circular; later changes should be checked on the Gazette, DPIIT and Reserve Bank sites. This article is general information, not legal advice; check the official text before acting.