SAFEMA Appellate Tribunal Sets Aside FEMA Penalties in Tamilnad Mercantile Bank Share Transfer Matter

1. Background of the Appeals

The Appellate Tribunal under SAFEMA, New Delhi, decided a group of connected appeals filed against a common adjudication order dated 14.08.2020 passed by the Special Director, Enforcement Directorate, Chennai.

The adjudication order had imposed substantial penalties under various provisions of the Foreign Exchange Management Act, 1999 (FEMA) on:

  • Tamilnad Mercantile Bank Ltd. (TMBL)
  • Standard Chartered Bank
  • Several Directors, Chairmen, Managing Directors, CEOs, Company Secretaries and RBI Nominee Directors of TMBL
  • A senior officer of Standard Chartered Bank

The penalties arose broadly from four clusters of alleged contraventions involving:

  1. Transfer of 46,862 shares of TMBL to seven non-resident investors without prior RBI approval.
  2. Subsequent transfer of a portion of these shares between non-resident entities.
  3. Opening and operation of two escrow accounts, related deposits and guarantees, and foreign loans granted by Standard Chartered Bank, Mauritius.
  4. Opening and operation of a foreign bank account by Shri M. G. M. Maran and non-repatriation of foreign exchange received therein.

The Enforcement Directorate (ED) alleged violations of:

  • Section 6(3)(b), Section 6(3)(f) and Section 6(3)(j) of FEMA
  • Section 4 and Section 8 of FEMA
  • Section 42 of FEMA (vicarious liability)
  • Regulation 4 of the Foreign Exchange Management (Transfer or Issue of Security by a Person Resident outside India) Regulations, 2000
  • Regulation 3 of the FEM (Deposit) Regulations, 2000
  • Regulation 3 of the FEM (Guarantees) Regulations, 2000
  • Regulation 3 and 4 of the FEM (Realisation, Repatriation and Surrender of Foreign Exchange) Regulations, 2000
  • Regulation 3 of the FEM (Foreign Currency Accounts by a person resident in India) Regulations, 2000

The Tribunal, after a detailed review of facts, correspondence with RBI, Company Law Board (CLB) orders, High Court directions, and the statutory framework, ultimately quashed the penalties in favour of all appellants.

The Tribunal examined, in particular, the following statutory provisions and regulations that formed the basis of the ED’s case:

2.1 FEMA Provisions

  • Section 6(3)(b) – permits RBI, by regulation, to “prohibit, restrict or regulate” transfer or issue of any security by a person resident outside India.
  • Section 6(3)(f) – authorises RBI to regulate deposits between residents and non-residents.
  • Section 6(3)(j) – controls guarantees or sureties for debts or obligations involving non-residents.
  • Section 4 – restricts acquisition, holding or transfer of foreign exchange/foreign security/immovable property outside India by a person resident in India, unless otherwise permitted.
  • Section 8 – requires persons resident in India to realise and repatriate foreign exchange due or accrued to them.
  • Section 42 – provides for vicarious liability of directors and officers for contraventions by a company in certain circumstances.

2.2 Key FEMA Regulations

  • Regulation 4 of the Foreign Exchange Management (Transfer or Issue of Security by a Person Resident outside India) Regulations, 2000 – bars an Indian entity from issuing or recording transfer of securities to a non-resident, save as permitted under the Act/Rules/Regulations; RBI may grant approval on application.

  • Regulation 3 of the Foreign Exchange Management (Deposit) Regulations, 2000 – generally prohibits deposits between residents and non-residents unless permitted by law or RBI approval.

  • Regulation 3 of the Foreign Exchange Management (Guarantees) Regulations, 2000 – bars residents from giving guarantees in respect of non-resident liabilities, absent specific permission.

  • Regulation 3 and Regulation 4 of the Foreign Exchange Management (Realisation, Repatriation and Surrender of Foreign Exchange) Regulations, 2000 – mandate realisation and repatriation of foreign exchange and spell out permissible modes of repatriation.

  • Regulation 3 of the Foreign Exchange Management (Foreign Currency Accounts by a person resident in India) Regulations, 2000 – prohibits residents from opening/maintaining foreign currency accounts unless permitted by RBI.

The Tribunal also noted the Foreign Exchange Management (Deposit) (Third Amendment) Regulations 2007 (Notification No. FEMA 162/2007-RB) and RBI A.P. (DIR Series) Circular No.62 dated 24.05.2007, dealing with Escrow Accounts for share transfer transactions.

3. Factual Matrix Behind TMBL’s Shareholding Dispute

3.1 Origin of the Shareholding Controversy

The Tribunal recorded the long-standing dispute over control of TMBL:

  • TMBL had a paid-up capital of Rs. 28,44,540 divided into 2,84,454 equity shares of Rs.10 each. Historically, shares were largely held by members of the Nadar community in Tamil Nadu.
  • Around 1994, certain existing shareholders agreed to transfer 1,91,455 shares (about 67% of capital) to seven companies belonging to Essar Group.
  • The TMBL Board declined consent to the transfer on 06.02.1995.
  • Essar Group entities moved the Company Law Board (CLB) seeking recognition of the transfers.

CLB by order dated 04.05.1996 directed TMBL to register the Essar companies as shareholders, subject to RBI’s acknowledgment. Subsequently, RBI, on or about 14.10.1996, declined to acknowledge the acquisition, citing concerns about links with a large industrial house, as per prevailing guidelines. As a result, TMBL did not record the transfers.

3.2 Entry of the Sterling Group and Further Complications

Between late 1996 and 1998, entities and individuals aligned with the Sterling Group acquired six of the seven Essar transferee companies to gain control of the TMBL shares they held. The seventh entity, M/s Essar Investments, also sold its TMBL shares to Sterling Group controlled entities.

On RBI’s refusal to acknowledge the Sterling Group’s acquisition, TMBL’s Board on 27.07.1998 again declined to record the transfers. This led to an impasse, and TMBL could not regularly hold AGMs.

An activist group, the Nadar Mahajana Bank Share Investor Forum, mobilised the community to repurchase shares from the Sterling Group. Through this effort, about 96,000 shares (out of 1,91,455) were purchased by around 28,000 individuals and, pursuant to CLB directions dated 14.08.2003, these transfers were recorded in TMBL’s books without production of transfer deeds.

On 12.03.2004, TMBL conducted seven pending AGMs together and authorised certain persons to vote in respect of the remaining 95,418 shares.

3.3 RBI Correspondence on Fresh Sale to Domestic and Non-Resident Investors

Former TMBL Directors Shri B. R. Adityan and Shri M. G. M. Maran were tasked by the Sterling Group to find buyers for the balance 95,418 shares.