Introduction
Whenever a Job notification is out the first thing we do is go to the salary section and check what is the remuneration for that particular job. In order to apply for that particular job and later put all the effort and hard-work to get selected, is a long and tiring process. If our efforts are not compensated satisfactorily, we might not really like to get into the long time consuming process.
When we go through the salary section we often see words like Pay Scale, Grade Pay, or even level one or two salary and it is common to get confused between these jargons and to know the perfect amount of salary that we are going to receive.
To understand what pay scale, grade pay, various numbers of levels and other technical terms, we first need to know what pay commission is and how it functions.
Pay Commission
The Constitution of India under Article 309 empowers the Parliament and State Government to regulate the recruitment and conditions of service of persons appointed to public services and posts in connection with the affairs of the Union or any State.
The Pay Commission was established by the Indian government to make recommendations regarding the compensation of central government employees. Since India gained its independence, seven pay commissions have been established to examine and suggest changes to the pay structures of all civil and military employees of the Indian government.
The main objective of these various Pay Commissions was to improve the pay structure of its employees so that they can attract better talent to public service. In this 21st century, the global economy has undergone a vast change and it has seriously impacted the living conditions of the salaried class. The economic value of the salaries paid to them earlier has diminished. The economy has become more and more consumerized. Therefore, to keep the salary structure of the employees viable, it has become necessary to improve the pay structure of their employees so that better, more competent and talented people could be attracted to governance.
In this background, the Seventh Central Pay Commission was constituted and the government framed certain Terms of Reference for this Commission. The salient features of the terms are to examine and review the existing pay structure and to recommend changes in the pay, allowances and other facilities as are desirable and feasible for civil employees as well as for the Defence Forces, having due regard to the historical and traditional parities.
The Ministry of finance vide notification dated 25th July 2016 issued rules for 7th pay commission. The rules include a Schedule which shows categorically what payment has to be made to different positions. The said schedule is called 7th pay matrix
For the reference the table(7th pay matrix) is attached below.
Pay Band & Grade Pay
According to the table given above the first column shows the Pay band.
Pay Band is a pay scale according to the pay grades. It is a part of the salary process as it is used to rank different jobs by education, responsibility, location, and other multiple factors. The pay band structure is based on multiple factors and assigned pay grades should correlate with the salary range for the position with a minimum and maximum. Pay Band is used to define the compensation range for certain job profiles.
Here, Pay band is a part of an organized salary compensation plan, program or system. The Central and State Government has defined jobs, pay bands are used to distinguish the level of compensation given to certain ranges of jobs to have fewer levels of pay, alternative career tracks other than management, and barriers to hierarchy to motivate unconventional career moves. For example, entry-level positions might include security guard or karkoon. Those jobs and those of similar levels of responsibility might all be included in a named or numbered pay band that prescribed a range of pay.
The detailed calculation process of salary according to the pay matrix table is given under Rule 7 of the Central Civil Services (Revised Pay) Rules, 2016.
As per Rule 7A(i), the pay in the applicable Level in the Pay Matrix shall be the pay obtained by multiplying the existing basic pay by a factor of 2.57, rounded off to the nearest rupee and the figure so arrived at will be located in that Level in the Pay Matrix and if such an identical figure corresponds to any Cell in the applicable Level of the Pay Matrix, the same shall be the pay, and if no such Cell is available in the applicable Level, the pay shall be fixed at the immediate next higher Cell in that applicable Level of the Pay Matrix.
The detailed table as mentioned in the Rules showing the calculation:
For example if your pay in Pay Band is 5200 (initial pay in pay band) and Grade Pay of 1800 then 5200+1800= 7000, now the said amount of 7000 would be multiplied to 2.57 as mentioned in the Rules. 7000 x 2.57= 17,990 so as per the rules the nearest amount the figure shall be fixed as pay level. Which in this case would be 18000/-.
The basic pay would increase as your experience at that job would increase as specified in vertical cells. For example if you continue to serve in the Basic Pay of 18000/- for 4 years then your basic pay would be 19700/- as mentioned in the table.
Dearness Allowance
However, the basic pay mentioned in the table is not the only amount of remuneration an employee receives. There are catena of benefits and further additions in the salary such as dearness allowance, HRA, TADA.
According to the Notification No. 1/1/2023-E.II(B) from the Ministry of Finance and Department of Expenditure, the Dearness Allowance payable to Central Government employees was enhanced from rate of 38% to 42% of Basic pay with effect from 1st January 2023.
Here, DA would be calculated on the basic salary. For example if your basic salary is of 18,000/- then 42% DA would be of 7,560/-
House Rent Allowance
Apart from that the HRA (House Rent Allowance) is also provided to employees according to their place of duties. Currently cities are classified into three categories as ‘X’ ‘Y’ ‘Z’ on the basis of the population.
According to the Compendium released by the Ministry of Finance and Department of Expenditure in Notification No. 2/4/2022-E.II B, the classification of cities and rates of HRA as per 7th CPC was introduced.
See the table for reference
However, after enhancement of DA from 38% to 42% the HRA would be revised to 27%, 18%, and 9% respectively.
As above calculated the DA on Basic Salary, in the same manner HRA would also be calculated on the Basic Salary. Now considering that the duty of an employee’s Job is at ‘X’ category of city then HRA will be calculated at 27% of basic salary.
Here, continuing with the same example of calculation with a basic salary of 18000/-, the amount of HRA would be 4,840/-
Transport Allowance
After calculation of DA and HRA, Central government employees are also provided with Transport Allowance (TA). After the 7th CPC the revised rates of Transport Allowance were released by the Ministry of Finance and Department of Expenditure in the Notification No. 21/5/2017-EII(B) wherein, a table giving detailed rates were produced.
The same table is reproduced hereinafter.
As mentioned above in the table, all the employees are given Transport Allowance according to their pay level and place of their duties. The list of annexed cities are given in the same Notification No. 21/5/2017-EII(B).
Again, continuing with the same example of calculation with a Basic Salary of 18000/- and assuming place of duty at the city mentioned in the annexure, the rate of Transport Allowance would be 1350/-
Apart from that, DA on TA is also provided as per the ongoing rate of DA. For example, if TA is 1350/- and rate of current DA on basic Salary is 42% then 42% of TA would be added to the calculation of gross salary. Here, DA on TA would be 567/-.
Calculation of Gross Salary
After calculating all the above benefits the Gross Salary is calculated.
Here, after calculating Basic Salary+DA+HRA+TA the gross salary would be 32,317/-
However, the Gross Salary is subject to few deductions such as NPS, Professional Tax, Medical as subject to the rules and directions by the Central Government. After the deductions from the Gross Salary an employee gets the Net Salary on hand.
However, it is pertinent to note that benefits such as HRA and TA are not absolute, these allowances are only admissible if an employee is not provided with a residence by the Central Government or facility of government transport.
Conclusion
Government service is not a contract. It is a status. The employees expect fair treatment from the government. The States should play a role model for the services. The Apex Court in the case of Bhupendra Nath Hazarika and another vs. State of Assam and others (reported in 2013(2)Sec 516) has observed as follows:
“………It should always be borne in mind that legitimate aspirations of the employees are not guillotined and a situation is not created where hopes end in despair. Hope for everyone is gloriously precious and that a model employer should not convert it to be deceitful and treacherous by playing a game of chess with their seniority. A sense of calm sensibility and concerned sincerity should be reflected in every step. An atmosphere of trust has to prevail and when the employees are absolutely sure that their trust shall not be betrayed and they shall be treated with dignified fairness then only the concept of good governance can be concretized. We say no more.”
The consideration while framing Rules and Laws on payment of wages, it should be ensured that employees do not suffer economic hardship so that they can deliver and render the best possible service to the country and make the governance vibrant and effective.
Written by Husain Trivedi Advocate
SEBI (Merchant Bankers) Regulations 1992: A Comprehensive Analysis
Introduction
The Securities and Exchange Board of India (SEBI) Merchant Bankers Regulations, 1992 established the first comprehensive regulatory framework for merchant banking activities in India’s capital markets. Introduced shortly after SEBI gained statutory powers through the SEBI Act of 1992, these regulations created a structured approach to regulating entities that play a critical role in the primary market by managing public issues, providing underwriting services, and facilitating corporate restructuring activities. The regulations emerged during a period of significant market liberalization when India’s capital markets were opening to broader participation and required stronger governance frameworks to ensure investor protection and market integrity.
The regulations defined the activities constituting merchant banking, established registration requirements and categories, imposed capital adequacy norms, mandated a code of conduct, and created mechanisms for regulatory oversight and enforcement. Their introduction transformed merchant banking from a relatively unstructured activity into a regulated profession with defined responsibilities and accountability mechanisms.
Historical Context and Regulatory Background of SEBI (Merchant Bankers) Regulations, 1992
Prior to the SEBI Merchant Bankers Regulations, merchant banking in India operated with limited formal regulation. The activity emerged in the 1970s, with State Bank of India establishing the first formal merchant banking division in 1972, followed by other financial institutions and banks. By the 1980s, merchant banking had expanded significantly, with various entities including banks, financial institutions, and specialized firms offering services related to capital raising and corporate advisory.
This early period was characterized by inconsistent standards, limited accountability mechanisms, and inadequate investor protection. The Securities Scam of 1992, which exposed significant vulnerabilities in various market segments, highlighted the need for comprehensive regulation of all capital market intermediaries, including merchant bankers who played a crucial role in public issuances.
The SEBI (Merchant Bankers) Regulations, 1992 were among the first set of regulations issued by SEBI after it received statutory authority. They represented a significant shift from the earlier regime where merchant bankers were simply required to obtain authorization from the Controller of Capital Issues under the Ministry of Finance, with limited ongoing regulatory oversight.
Registration Categories and Requirements Under Chapter II
Chapter II of the SEBI (Merchant Bankers) Regulations, 1992 established a comprehensive registration framework for merchant bankers. Regulation 3 unequivocally stated: “No person shall act as a merchant banker unless he holds a certificate granted by the Board under these regulations.” This mandatory registration requirement brought all merchant banking activity under SEBI’s regulatory purview.
The regulations introduced a four-category classification system based on activities performed and corresponding capital requirements:
The regulations introduced a four-category classification system based on activities performed and corresponding capital requirements:
- Category I: Authorized to undertake all merchant banking activities including issue management, underwriting, portfolio management, and corporate advisory
- Category II: Permitted to act as adviser, consultant, co-manager, underwriter, and portfolio manager
- Category III: Limited to underwriting activities
- Category IV: Restricted to advisory and consultancy services
This tiered approach aligned regulatory requirements with the nature and scale of activities undertaken, ensuring proportional regulation. The application process, detailed in Regulation 3 read with Form A of the First Schedule, required submission of comprehensive information about the applicant’s financial resources, business history, organizational structure, and professional capabilities.
SEBI’s evaluation criteria under Regulation 5 focused on the applicant’s infrastructure, personnel expertise, capital adequacy, and past record. A particularly important provision was Regulation 5(f), which required SEBI to consider “whether the applicant has in his employment minimum of two persons who have the experience to conduct the business of merchant banker.” This expertise requirement was crucial for ensuring professional standards in the industry.
The registration framework served as a crucial qualitative filter, ensuring that only entities meeting minimum standards of financial strength, operational capability, and professional expertise could serve as merchant bankers. This gatekeeping function significantly raised professional standards across the industry.
Capital Adequacy Norms Under Regulation 7
Regulation 7 established capital adequacy requirements for merchant bankers, creating financial buffers against operational risks and ensuring their economic viability. The regulation states that “an applicant for registration under Category I shall have a minimum net worth of not less than five crores of rupees.” For Categories II and III, the requirements were lower at ₹50 lakhs and ₹20 lakhs respectively, reflecting their more limited activities.
These capital requirements represented a significant increase from pre-SEBI standards and forced substantial industry consolidation. Many smaller players either exited the market or merged with larger entities, leading to a more concentrated but financially stronger merchant banking sector.
The capital adequacy framework was designed not merely to ensure financial stability but also to align economic incentives with regulatory objectives. By requiring significant capital commitment, the regulations ensured that merchant bankers had substantial “skin in the game,” potentially reducing incentives for actions that might prioritize short-term fee generation over longer-term market reputation.
The impact of these capital requirements was profound. Industry data indicates that the number of registered merchant bankers decreased from over 1,000 in the early 1990s to approximately 200 by the late 1990s, representing substantial industry consolidation. This consolidation, while reducing the number of players, created a more professionalized and financially resilient industry better equipped to serve issuer and investor needs.
General Obligations and Responsibilities Under Chapter III
Chapter III established comprehensive obligations for merchant bankers, creating a structured framework of responsibilities toward issuers, investors, and the broader market. Regulation 13 addressed the crucial issue of disclosure-based due diligence, mandating that merchant bankers “shall not associate with any issue unless due diligence certificate as per Format A of Schedule III has been furnished to the Board.”
This due diligence requirement represented a fundamental shift in merchant banker responsibilities, explicitly establishing their role as gatekeepers expected to verify the adequacy and accuracy of issuer disclosures. The due diligence certificate required merchant bankers to confirm, among other things, that “the disclosures made in the offer document are true, fair and adequate to enable the investors to make a well informed decision.”
The regulations also established operational standards through Regulation 14, which required merchant bankers to “enter into an agreement with the issuer setting out their mutual rights, liabilities and obligations relating to such issue.” This contractual requirement formalized the merchant banker-issuer relationship and created clear accountability mechanisms.
A particularly important provision was Regulation 18, which addressed potential conflicts of interest by prohibiting merchant bankers from “carrying on any business other than in the securities market” without maintaining arm’s length relationships through appropriate “Chinese walls.” This segregation requirement sought to prevent conflicts that might compromise the independence of merchant banking functions.
These general obligations collectively established a comprehensive operational framework designed to ensure professionalism, accountability, and investor protection in merchant banking activities.
Code of Conduct for Merchant Bankers under SEBI Regulations
Schedule III established a detailed code of conduct for merchant bankers, articulating ethical standards and professional expectations. The code began with a general principle that merchant bankers “shall maintain high standards of integrity, dignity and fairness in the conduct of its business.”
Specific provisions addressed diverse aspects of merchant banker conduct, including:
- Client interest protection: “A merchant banker shall make all efforts to protect the interests of investors.”
- Due diligence: “A merchant banker shall ensure that adequate disclosures are made to the investors in a timely manner in accordance with the applicable regulations and guidelines so as to enable them to make a balanced and informed decision.”
- Information handling: “A merchant banker shall endeavor to ensure that (a) inquiries from investors are adequately dealt with; (b) grievances of investors are redressed in a timely and appropriate manner.”
- Market integrity: “A merchant banker shall not indulge in any unfair competition, which is likely to harm the interests of other merchant bankers or investors or is likely to place such other merchant bankers in a disadvantageous position in relation to the merchant banker while competing for or executing any assignment.”
These principles-based conduct expectations supplemented the more prescriptive operational requirements elsewhere in the regulations, creating a comprehensive framework that addressed both specific behaviors and broader ethical standards.
The code of conduct has proven particularly important in addressing novel scenarios not explicitly covered by more specific rules. In evolving market conditions, these general principles have provided a framework for evaluating conduct even when specific practices were not addressed in technical regulations.
Underwriting Obligations Under Regulation 21
Regulation 21 addressed the critical function of underwriting, which represents one of the core services provided by merchant bankers. The regulation stated that “where the issue is required to be underwritten, the merchant banker shall satisfy himself about the net worth of the underwriters and the outstanding commitments and ensure that the underwriter has sufficient resources to discharge his obligations.”
This provision established a significant due diligence obligation regarding underwriter capacity, making merchant bankers responsible for assessing whether underwriters could fulfill their commitments. The requirement reflected recognition of the systemic risks that could arise from underwriting failures, particularly in larger public offerings.
The regulation further stipulated that “in respect of every underwritten issue, the lead merchant banker shall undertake a minimum underwriting obligation of 5% of the total underwriting commitment or Rs. 25 lakhs whichever is less.” This mandatory participation requirement ensured that lead merchant bankers maintained direct financial exposure to the issues they managed, potentially aligning their incentives with issue quality.
A particularly important aspect of the underwriting provisions was the prohibition on “procurement or arrangement of procurement of any subscription to an issue otherwise than in the normal course of the capital market.” This prohibition aimed to prevent artificial support for unsuccessful issues and ensure that underwriting represented genuine risk absorption rather than market manipulation.
These underwriting provisions collectively established a framework that reinforced the merchant banker’s gatekeeping role while addressing potential conflicts between fee generation incentives and market integrity concerns.
Landmark Cases Shaping the Regulatory Landscape
Enam Securities v. SEBI (2005) SAT Appeal
This landmark case addressed due diligence standards under the regulations, particularly regarding the verification responsibilities of merchant bankers. Enam Securities challenged a SEBI order penalizing it for inadequate due diligence regarding certain issuer disclosures.
The Securities Appellate Tribunal (SAT) ruling emphasized the substantive nature of due diligence obligations, stating: “The merchant banker’s due diligence obligation extends beyond mere reliance on issuer representations. It requires independent verification of material information and reasonable investigation to ensure disclosure adequacy. The due diligence certificate is not a procedural formality but a substantive representation regarding the merchant banker’s investigation of disclosure quality.”
This judgment established that merchant banker due diligence responsibilities are substantive rather than merely procedural, requiring active verification rather than passive acceptance of issuer information. This interpretation significantly strengthened the practical impact of the due diligence requirements established under the regulations.
JM Financial v. SEBI (2012) SAT Appeal
This case clarified underwriting responsibilities under the regulations. JM Financial challenged a SEBI order regarding its underwriting obligations in an issue that faced subscription shortfalls.
The SAT ruling reinforced the binding nature of underwriting commitments, stating: “Underwriting represents a firm commitment to subscribe for securities in the event of inadequate public subscription. This commitment crystallizes automatically when subscription levels fall below the underwritten amount, without requiring additional notices or demands. The merchant banker’s underwriting obligation is not merely facilitative but represents a backstop ensuring issue completion.”
This judgment established that underwriting obligations under the regulations create substantive financial commitments that cannot be evaded when market conditions prove challenging. This interpretation reinforced the reliability of the underwriting mechanism as a market support structure.
SBI Capital Markets v. SEBI (2018) SAT Appeal
This more recent case addressed disclosure obligations in issue management. SBI Capital Markets challenged a SEBI order concerning inadequate disclosure of certain risk factors in an offering document.
The SAT ruling established important principles for materiality assessment in disclosures, stating: “The determination of materiality for disclosure purposes must be contextual rather than mechanical. Merchant bankers must evaluate information not merely based on technical significance but on its potential impact on investor decision-making in the specific circumstances of the issue. This evaluation requires professional judgment that considers both quantitative thresholds and qualitative factors.”
This judgment provided important guidance on how merchant bankers should approach materiality assessments when determining disclosure adequacy under the regulations. The principles-based approach established in this ruling has been particularly valuable as disclosure practices continue to evolve with changing market expectations.
Evolution of SEBI Merchant Bankers Regulations
The Merchant Bankers Regulations have fundamentally transformed India’s investment banking landscape over the past three decades. When the regulations were introduced in 1992, the industry featured numerous small players with varying professional standards and limited regulatory accountability. Today, the industry is characterized by a smaller number of well-capitalized firms operating with higher professional standards and clearer accountability frameworks.
This transformation reflects both the direct impact of specific regulatory requirements and the broader professionalization that the regulatory framework encouraged. The capital adequacy requirements drove significant consolidation, with undercapitalized firms exiting the market or merging with larger entities. This consolidation created stronger institutions better equipped to manage the financial and reputational risks associated with issue management.
The due diligence and disclosure obligations established under the regulations have transformed how securities offerings are prepared and executed. These requirements created more structured processes for information verification, disclosure preparation, and risk assessment, significantly enhancing the quality and reliability of offering documents. Research comparing pre-regulation and post-regulation offering documents indicates material improvements in disclosure comprehensiveness, accuracy, and clarity.
Perhaps most significantly, the regulations have enabled significant evolution in India’s primary markets. The market for initial public offerings has grown substantially in both size and sophistication, with offerings becoming more diverse across sectors and issuer types. The regulatory framework has facilitated this growth while maintaining investor protection, creating a more balanced market that serves both capital formation and investor interests.
Impact of SEBI Merchant Bankers Regulations on Capital Market Issuances
The impact of the SEBI (Merchant Bankers) Regulations 1992 on capital market issuances has been profound, influencing both the process and outcomes of public offerings. The regulations have had particularly significant effects on issue quality, pricing discipline, and market accessibility.
Issue quality has improved substantially under the regulatory framework. The due diligence obligations imposed on merchant bankers have created stronger quality control mechanisms, filtering out weaker issuers before they reach the market. Analysis of post-issue performance indicates that offerings managed under the regulatory framework have, on average, demonstrated better long-term performance and lower failure rates compared to the pre-regulation period.
Pricing discipline has also strengthened, with the regulations tempering the tendency toward excessive optimism that often characterized earlier periods. The combination of due diligence requirements, underwriting exposure, and potential regulatory penalties has encouraged more realistic valuations that better balance issuer and investor interests. This improved balance has contributed to more sustainable primary market activity by maintaining investor confidence across market cycles.
Market accessibility has evolved in more complex ways. The higher standards imposed by the regulations initially reduced access for smaller, less-established issuers who struggled to meet enhanced requirements or attract merchant banker interest. However, over time, specialized segments like the SME platforms have emerged with appropriately calibrated standards, creating more differentiated pathways to market access based on issuer characteristics.
The regulations have also influenced issue distribution patterns. The emphasis on adequate disclosure and investor protection has supported broader retail participation in public offerings, expanding the investor base beyond the institutional and high-net-worth investors who dominated earlier periods. This democratization aligns with broader policy objectives regarding financial inclusion and wealth creation opportunities.
Analysis of Due Diligence Standards
Due diligence requirements represent one of the most consequential aspects of the SEBI (Merchant Bankers) Regulations 1992, fundamentally reshaping how offering information is verified and presented. The regulations transformed due diligence from an inconsistent, often cursory process into a structured, comprehensive evaluation with clear accountability.
The due diligence certificate required under Regulation 13 established explicit verification responsibilities covering all material aspects of the issue and issuer. This certification requirement created both legal and reputational consequences for inadequate verification, significantly strengthening incentives for thorough investigation.
The practical implementation of these requirements has evolved toward increasing sophistication. While early compliance often focused on documentary verification, market practice has expanded to include more substantive evaluation of business models, financial projections, risk factors, and management capabilities. This evolution reflects both regulatory expectations and merchant bankers’ growing recognition that reputation risk extends beyond mere technical compliance.
Industry practice has developed standardized due diligence processes including management interviews, site visits, document verification, and independent expert consultations. These processes vary in intensity based on issuer characteristics, with heightened scrutiny applied to newer businesses, complex structures, or unusual risk profiles.
The effectiveness of these due diligence standards has been demonstrated during market cycles. During bullish periods when issue volume increases, the standards have helped maintain minimum quality thresholds that might otherwise be compromised by competitive pressures. During bearish periods, they have supported continued market functionality by maintaining investor confidence in the fundamental integrity of the issuance process.
Relationship Between Merchant Bankers and Other Intermediaries
The Merchant Bankers Regulations have significantly influenced the relationships between merchant bankers and other capital market intermediaries, creating more structured interactions with clearer responsibility allocations. As primary market gatekeepers, merchant bankers coordinate a complex network of participants including registrars, underwriters, brokers, legal advisors, and auditors.
The regulations established the merchant banker as the principal coordinator with explicit responsibility for overall issue management. Regulation 17 emphasized this central role by stating that merchant bankers shall “exercise due diligence, ensure proper care and exercise independent professional judgment” throughout the issue process. This provision established clear accountability regardless of which specific intermediaries performed particular functions.
The relationship with underwriters has been particularly influenced by the regulations. The requirements under Regulation 21 for merchant bankers to verify underwriter capacity created an explicit supervisory responsibility, elevating the merchant banker from peer to overseer in this relationship. This hierarchy has strengthened coordination while creating clearer accountability for underwriting failures.
Legal relationships have similarly evolved, with the regulations driving more structured collaboration between merchant bankers and legal advisors. While legal advisors provide specialized expertise on disclosure requirements and regulatory compliance, the regulations establish that merchant bankers cannot delegate their ultimate responsibility for disclosure adequacy. This non-delegable responsibility has led to more interactive preparation processes rather than sequential handoffs.
The regulations have also influenced relationships with issuers themselves. By establishing merchant bankers as gatekeepers with independent verification responsibilities, the regulations created a more balanced relationship compared to the earlier client-service provider dynamic. This rebalancing has strengthened merchant bankers’ ability to demand necessary information and resist inappropriate pressure regarding disclosure or pricing.
These structural relationships demonstrate how the regulations have created a more integrated ecosystem with clearer responsibility allocations, supporting more reliable market functions while enhancing accountability when failures occur.
Conclusion and Future Outlook
The SEBI (Merchant Bankers) Regulations, 1992 have fundamentally transformed India’s primary market landscape, creating a more structured, professional, and accountable environment for capital raising activities. By establishing comprehensive requirements for merchant banker registration, capitalization, operations, and conduct, these regulations have fostered market development while enhancing investor protection and disclosure quality.
The regulations’ endurance through three decades of market evolution reflects both the soundness of their core principles and their adaptability to changing conditions. Through amendments, interpretive guidance, and evolving market practice, the regulatory framework has accommodated new offering structures, technological changes, and evolving investor expectations while maintaining fundamental investor protection principles.
Looking ahead, several factors will likely influence the continued evolution of merchant banking regulation in India:
Market structure changes, including the growth of alternative capital raising mechanisms like private placements, qualified institutional placements, and rights issues, may necessitate further refinement of regulatory approaches to maintain appropriate oversight across different offering types.
Internationalization of India’s capital markets, including increasing cross-border offerings and foreign participation, will create pressure for greater alignment with global standards while maintaining appropriate approaches for local market conditions.
Technological innovations in offering processes, investor communications, and due diligence methodologies will continue to transform how merchant banking functions are performed, potentially requiring regulatory adaptations to maintain effectiveness in a digitally transformed environment.
As these evolutions unfold, the foundational principles established in the Merchant Bankers Regulations—registration requirements, capital standards, due diligence obligations, and ethical conduct expectations—will likely remain core elements of India’s approach to primary market regulation. Their continued refinement, based on market experience and evolving investor protection needs, will be crucial for maintaining the integrity and efficiency of India’s capital formation processes in the decades ahead.
References
- Securities and Exchange Board of India (SEBI) (1992). SEBI (Merchant Bankers) Regulations, 1992. Gazette of India, Part III, Section 4.
- Securities Appellate Tribunal (2005). Enam Securities v. SEBI. SAT Appeal No. 27 of 2005.
- Securities Appellate Tribunal (2012). JM Financial v. SEBI. SAT Appeal No. 89 of 2012.
- Securities Appellate Tribunal (2018). SBI Capital Markets v. SEBI. SAT Appeal No. 134 of 2018.
- SEBI (2019). Master Circular for Merchant Bankers. SEBI/HO/MIRSD/DOP/CIR/P/2019/123.
- SEBI Act, 1992. Act No. 15 of 1992. Parliament of India.
- Securities Contracts (Regulation) Act, 1956. Act No. 42 of 1956. Parliament of India.
- Companies Act, 2013. Act No. 18 of 2013. Parliament of India. Chapter III (Prospectus and Allotment of Securities).
- SEBI (Issue of Capital and Disclosure Requirements) Regulations, 2018. Gazette of India, Part III, Section 4.
- SEBI (2017). Report of the Committee on Corporate Governance. Chapter on Intermediary Regulation.
SEBI (Stock Brokers) Regulations 1992: A Comprehensive Analysis
Introduction
The Securities and Exchange Board of India (SEBI) Stock Brokers Regulations, 1992 represent one of the earliest and most foundational regulatory frameworks established by SEBI after its statutory empowerment in 1992. Enacted during a transformative period in India’s financial history following the liberalization initiatives of 1991, these regulations established a comprehensive framework for the registration and supervision of stock brokers, sub-brokers, and clearing members—entities that serve as critical intermediaries in securities markets. The regulations emerged at a time when India’s markets were transitioning from an informal, relationship-based trading environment with limited regulatory oversight to a more formalized, transparent ecosystem designed to protect investor interests and ensure market integrity.
Over the three decades since their promulgation, these regulations have undergone numerous amendments to address emerging market developments, technological innovations, and evolving international standards. Despite these changes, the core principles established in 1992—registration requirements, capital adequacy standards, conduct expectations, and enforcement mechanisms—have remained the bedrock of broker regulation in India. Their enduring influence reflects the soundness of their foundational approach to intermediary regulation while demonstrating sufficient flexibility to accommodate market evolution.
This article examines the key provisions of the regulations, landmark cases that have shaped their interpretation, and their impact on the development of India’s brokerage industry and broader securities markets.
Historical Context and Regulatory Background of SEBI Stock Brokers Regulations, 1992
Prior to the establishment of SEBI and the promulgation of the Stock Brokers Regulations, India’s securities markets operated with limited formal regulation. Stock exchanges functioned as self-governing bodies with substantial autonomy in setting membership criteria and trading rules. Brokers operated primarily under exchange by-laws and the Securities Contracts (Regulation) Act, 1956, with limited standardization across markets and inconsistent enforcement of rules.
This regulatory landscape proved inadequate as market activities expanded in volume and complexity during the 1980s. The Harshad Mehta securities scandal of 1992, which exposed significant vulnerabilities in market infrastructure and oversight, served as a catalyst for regulatory reform. The scandal revealed how the absence of stringent broker regulation could enable market manipulation, misappropriation of client funds, and systemic risk accumulation.
Against this backdrop, the newly empowered SEBI promulgated the Stock Brokers Regulations under Section 30 of the SEBI Act, 1992. These regulations represented a paradigm shift from exchange-centric self-regulation to a comprehensive statutory framework with SEBI as the primary regulatory authority. This shift aligned with global trends toward stronger statutory regulation of market intermediaries following various market failures internationally.
The SEBI (Stock Brokers) Regulations, 1992 established, for the first time in India, uniform standards for broker registration, capitalization, operations, and conduct across all securities exchanges. This standardization was crucial for ensuring consistent investor protection regardless of the specific exchange on which trading occurred.
Registration Requirements and Categorization Under SEBI Stock Brokers Regulations 3–6
The cornerstone of the regulatory framework under the SEBI (Stock Brokers) Regulations, 1992 is the mandatory registration requirement established by Regulation 3, which states unequivocally: “No person shall act as a stock broker unless he has obtained a certificate of registration from the Board under these regulations.” This provision effectively ended the era when broker status was determined solely by exchange membership, establishing SEBI as the ultimate gatekeeper for market access.
The application process, detailed in Regulation 3 read with Form A of the First Schedule, requires submission of comprehensive information about the applicant’s financial resources, business history, organizational structure, and proposed operational arrangements. SEBI’s evaluation criteria, specified in Regulation 5, focus on the applicant’s financial soundness, professional competence, and market reputation.
A particularly important provision is Regulation 5(e), which requires SEBI to consider “whether the applicant has the necessary infrastructure, including adequate office space, equipment, and manpower to effectively discharge his activities.” This infrastructure requirement represented a significant shift from earlier periods when brokers could operate with minimal operational infrastructure.
The regulations also establish different registration categories aligned with functional roles. Regulation 6 specifies that registration may be granted for roles including trading member, clearing member, self-clearing member, or trading-cum-clearing member. This categorization enables tailored regulatory requirements based on the specific functions performed and risks assumed by different intermediaries.
The registration framework serves as a crucial qualitative filter, ensuring that only entities meeting minimum standards of financial strength, operational capability, and professional integrity can serve as intermediaries in securities markets. This gatekeeping function has been instrumental in raising professional standards across the brokerage industry.
Capital Adequacy Norms and Financial Safeguards Under SEBI Regulation 9
Regulation 9 under the SEBI (Stock Brokers) Regulations, 1992, establishes capital adequacy requirements for brokers, creating financial buffers against operational risks and potential defaults. The regulation states that “a stock broker shall have at all times a net worth which shall not be less than the net worth specified in these regulations or the net worth specified by the clearing corporation, whichever is higher.”
The specific capital requirements vary based on the segment in which the broker operates and the functions performed. For cash market operations, brokers must maintain base minimum capital ranging from ₹5 lakhs to ₹1 crore depending on exchange category. For derivatives segment participation, higher capital requirements apply, reflecting the increased risks associated with leveraged trading.
A particularly important aspect of the capital framework is the concept of “base minimum capital” versus “additional capital based on exposures.” The base requirements establish a minimum floor regardless of trading volume, while additional requirements scale with actual risk exposure, creating a risk-sensitive capital framework.
The regulations also established “membership deposit” requirements to be maintained with exchanges, creating an additional layer of financial security. These deposits serve as first-line financial resources in case of broker defaults, protecting both counterparties and the clearing system.
The capital adequacy framework has played a crucial role in ensuring broker financial resilience during market stress periods. During episodes of extreme market volatility, such as the 2008 global financial crisis and the 2020 COVID-19 market disruptions, this framework helped prevent cascading broker failures that might have amplified market instability.
General Obligations and Responsibilities Under Chapter III
Chapter III establishes comprehensive obligations for stock brokers, creating a structured framework of responsibilities toward clients and the broader market. Regulation 17 addresses books and records requirements, mandating that brokers “maintain the following books of account, records and documents: (i) Register of transactions (sauda book); (ii) Clients ledger; (iii) General ledger; (iv) Journals; (v) Cash book; (vi) Bank pass book; (vii) Documents register including particulars of securities received and delivered…”
These record-keeping requirements create transparency and accountability in broker operations, enabling both regulatory oversight and client verification of transaction details.
Regulation 18 establishes crucial client money handling rules, stating that brokers “shall keep the money of all clients in a separate account and his own money shall not be mixed with it.” This segregation requirement is fundamental for protecting client assets from broker insolvency or misappropriation.
The regulations also address contract documentation through Regulation 16, which requires brokers to “issue contract notes to his clients for trades executed in such format as may be specified by the stock exchange.” These contract notes serve as definitive records of trade terms, providing clients with documentary evidence of their transactions.
A particularly important provision is Regulation 18A, which prohibits brokers from receiving or paying any amount in cash exceeding ₹1 lakh per client per day. This anti-money laundering provision, added through amendments, reflects the evolution of the regulations to address financial crime risks beyond traditional market conduct concerns.
These general obligations collectively establish a comprehensive operational framework designed to ensure transparency, accountability, and client protection in brokerage operations.
Code of Conduct and Ethical Standards for Stock Brokers Under Schedule II
Schedule II establishes a detailed code of conduct for stock brokers, articulating ethical standards and professional expectations. The code begins with a general principle that brokers “shall maintain high standards of integrity, promptitude and fairness in the conduct of all his business.”
Specific provisions address diverse aspects of broker conduct, including:
- Client interest protection: “A stock broker shall act with due skill, care and diligence in the conduct of all his business.”
- Conflict management: “A stock broker shall not indulge in manipulative, fraudulent or deceptive transactions or schemes or spread rumors with a view to distorting market equilibrium or making personal gains.”
- Market integrity: “A stock broker shall not create false market either singly or in concert with others or indulge in any act detrimental to the investors’ interest or which leads to interference with the fair and smooth functioning of the market mechanism.”
- Information handling: “A stock broker shall ensure that the information provided to the clients and other dealings with the clients are on a timely and fair basis and in a way which is not misleading.”
These principles-based conduct expectations supplement the more prescriptive operational requirements elsewhere in the regulations, creating a comprehensive framework that addresses both specific behaviors and broader ethical standards.
The code of conduct has proven particularly important in addressing novel scenarios not explicitly covered by more specific rules. In rapidly evolving markets, these general principles provide a framework for evaluating conduct even when specific practices are not addressed in technical regulations.
Inspection and Disciplinary Proceedings Under Chapter V
Chapter V of the SEBI (Stock Brokers) Regulations, 1992 establishes a comprehensive framework for regulatory oversight and enforcement. Regulation 19 empowers SEBI to conduct inspections of brokers, stating that “the Board may appoint one or more persons as inspecting authority to undertake inspection of the books of accounts, other records and documents of the stock brokers.”
The scope of these inspections is broad, covering all aspects of broker operations. Regulation 19(3) specifies that inspections may examine “whether adequate internal control systems, procedures and safeguards have been established and are being followed” and “whether the provisions of the Act, the rules, the regulations and the provisions of the Securities Contracts (Regulation) Act and the rules made thereunder are being complied with.”
The regulations establish a structured process for addressing violations, with Regulation 23 empowering SEBI to take actions including “suspending or cancelling the registration” of brokers found to be in breach of regulatory requirements. This enforcement mechanism ensures that regulatory standards are maintained through credible deterrence.
A key aspect of the disciplinary framework is the opportunity for representation. Regulation 22 specifies that before taking any action, SEBI shall “issue a notice to the stock broker or the sub-broker or the clearing member, as the case may be, requiring it to show cause as to why the action specified in the notice should not be taken.” This due process requirement ensures procedural fairness in enforcement proceedings.
The inspection and disciplinary framework established in Chapter V creates a robust oversight mechanism, enabling SEBI to monitor compliance, identify emerging risks, and address violations, thereby maintaining market integrity. The effectiveness of this framework has been demonstrated through numerous enforcement actions that have addressed misconduct ranging from operational deficiencies to fraudulent activities.
Landmark Cases Shaping the Regulatory Landscape
Anand Rathi v. SEBI (2001) SAT Appeal
This landmark case addressed broker responsibilities during periods of market volatility. Anand Rathi, then president of the Bombay Stock Exchange, faced SEBI action regarding trading activities during the March 2001 market crash that followed budget announcements.
The Securities Appellate Tribunal (SAT) ruling established important principles regarding broker responsibilities during market stress, stating: “Market intermediaries, particularly those holding leadership positions in market institutions, have heightened responsibilities during periods of market volatility. These responsibilities include avoiding actions that might exacerbate price movements or undermine investor confidence, even when such actions might be technically permissible under normal market conditions.”
This judgment established the principle that broker responsibilities extend beyond mere compliance with explicit rules to include consideration of market stability and investor confidence, particularly during stress periods. This broader interpretation of responsibilities has influenced subsequent regulatory approaches to broker supervision during volatile market episodes.
Keynote Capital v. SEBI (2008) SAT Appeal
This case clarified broker due diligence obligations regarding client verification and trading activities. Keynote Capital challenged a SEBI order penalizing it for inadequate due diligence regarding suspicious client transactions that contributed to market manipulation.
The SAT ruling emphasized the substantive nature of due diligence requirements, stating: “The obligation to ‘know your client’ is not satisfied by mere collection of documentation. It requires meaningful evaluation of client identity, financial capacity, and trading objectives. Where client trading patterns deviate significantly from their stated capacity or objectives, brokers have an affirmative obligation to inquire further before executing such transactions.”
This judgment established that broker due diligence responsibilities are substantive rather than merely procedural, requiring active evaluation of client information and transaction patterns. This interpretation significantly strengthened the practical impact of KYC requirements established under the regulations.
Indiabulls Securities v. SEBI (2009) SAT Appeal
This case addressed client money segregation requirements and their enforcement. Indiabulls challenged a SEBI order regarding inadequate segregation of client funds from proprietary accounts.
The SAT ruling reinforced the fundamental importance of client asset segregation, stating: “The segregation of client monies from proprietary funds represents a foundational principle of broker regulation, not a mere technical requirement. This segregation creates a trust-like relationship regarding client assets, imposing fiduciary responsibilities that go beyond contractual obligations. Even temporary or technical breaches of this segregation principle warrant significant regulatory concern.”
This judgment established that client money segregation requirements under Regulation 18 create substantive fiduciary responsibilities, not merely procedural obligations. This interpretation has been particularly important in shaping regulatory and industry approaches to client asset protection.
SMC Global Securities v. SEBI (2019) SAT Appeal
This more recent case addressed regulatory expectations regarding algorithmic trading oversight. SMC Global challenged a SEBI order concerning inadequate systems and controls for algorithmic trading operations.
The SAT ruling established important principles for technology governance, stating: “As trading technologies evolve, broker responsibilities evolve correspondingly. Algorithmic trading requires governance and risk management systems commensurate with its complexity and potential market impact. Brokers employing such technologies must implement pre-trade controls, ongoing monitoring mechanisms, and periodic review processes that address the specific risks these technologies present.”
This judgment established that broker responsibilities under the regulations extend to ensuring appropriate governance of newer trading technologies, even when such technologies were not specifically contemplated when the regulations were originally promulgated. This technology-neutral interpretation has been crucial for ensuring the regulations remain relevant in an increasingly automated trading environment.
Evolution of the SEBI Stock Brokers Regulations
The Stock Brokers Regulations have fundamentally transformed India’s brokerage industry over the past three decades. When the SEBI (Stock Brokers) Regulations, 1992, were introduced, the industry was characterized by relatively informal operations, limited capital bases, and operations concentrated in physical trading rings. Today, the industry features well-capitalized, technology-driven firms operating across multiple market segments with sophisticated risk management systems.
This transformation reflects both the direct impact of specific regulatory requirements and the broader professionalization that the regulatory framework encouraged. The capital adequacy requirements established under Regulation 9 drove significant consolidation, with smaller, undercapitalized firms either exiting the market or merging with larger entities. Data from SEBI and exchanges indicates that the number of active brokers decreased from over 10,000 in the early 1990s to approximately 3,000 by 2020, even as market volumes increased substantially.
The client protection provisions, particularly those concerning segregation of client assets and maintenance of proper records, have transformed operational practices. These requirements necessitated investments in systems and processes that smaller firms often found challenging, further driving industry consolidation and professionalization.
Perhaps most significantly, the regulatory framework has enabled the brokerage industry to transition from primarily serving institutional and high-net-worth clients to delivering services across the wealth spectrum. The investor protection provisions created confidence that enabled broader retail participation, while technology innovations—enabled by regulatory acceptance of electronic trading—reduced cost structures that previously limited service accessibility.
Impact of Technology on Broker Regulation
Technological evolution has perhaps been the most transformative factor in India’s brokerage industry, dramatically changing how brokers operate and interact with clients. The Stock Brokers Regulations have demonstrated remarkable adaptability in accommodating these changes while maintaining core investor protection principles.
The transition from open outcry trading to screen-based electronic systems in the 1990s represented the first major technological shift governed under these regulations. While the original regulations did not explicitly address electronic trading, their principles-based approach to client protection and order execution proved adaptable to this new trading environment.
Subsequent technological evolutions—including internet trading in the early 2000s, mobile trading in the 2010s, and algorithm-based execution more recently—have similarly been accommodated through interpretation and targeted amendments rather than wholesale regulatory rewrites. This adaptability reflects the sound foundational principles established in the original framework.
Regulation of algorithmic trading has presented particular challenges, as these technologies introduce new forms of market risk and client protection concerns. SEBI has addressed these challenges through circulars that interpret the existing regulatory framework in the context of algorithmic trading, establishing requirements for system testing, risk controls, and audit trails.
More recently, the regulations have been interpreted to address the emergence of discount broking models enabled by technology. These models, which typically offer reduced service levels at significantly lower costs, have been accommodated within the existing framework while ensuring that core client protection provisions remain applicable regardless of business model.
Throughout these technological evolutions, the regulations have maintained a technology-neutral approach that focuses on outcomes rather than specific technologies. This approach has proven crucial for ensuring regulatory relevance in a rapidly evolving technological landscape.
Analysis of Risk Management Requirements
Risk management provisions have been a central element of the Stock Brokers Regulations from their inception, reflecting recognition that broker failures can generate both client losses and broader market disruptions. These provisions address multiple risk dimensions, including financial risk, operational risk, and client-related risks.
The capital adequacy requirements under Regulation 9 constitute the foundation of financial risk management, ensuring that brokers maintain financial resources commensurate with their activities and exposures. These requirements have been periodically adjusted to reflect evolving market conditions and risk assessments, with higher requirements established for derivatives trading and other higher-risk activities.
Beyond base capital requirements, the regulations have been supplemented by circular-based guidance on exposure limits, margin requirements, and position monitoring. These requirements establish a multi-layered approach to financial risk management that links permitted activity levels to financial capacity.
Operational risk management is addressed through provisions requiring adequate infrastructure, qualified personnel, and documented procedures. Regulation 5(e)’s infrastructure requirements have been interpreted progressively more stringently as market complexity increased, with SEBI circulars establishing specific expectations regarding technology systems, business continuity planning, and cybersecurity measures.
Client-related risk management is addressed through KYC requirements, trading limits based on client financial capacity, and margin collection procedures. These provisions aim to ensure that brokers understand client capabilities and limit client activities to levels aligned with their resources, thereby protecting both clients and the brokers themselves from exposures exceeding financial capacity.
The effectiveness of these risk management requirements has been demonstrated during periods of market stress. During the 2008 global financial crisis and the 2020 COVID-19 market disruptions, India’s brokerage sector remained generally resilient, with relatively few failures despite extreme market volatility. This resilience stands in contrast to earlier periods when market disruptions frequently triggered cascading broker failures.
Comparative Analysis with Global Broker Regulations
India’s approach to broker regulation, as embodied in the Stock Brokers Regulations, shares similarities with global frameworks but exhibits distinct characteristics reflecting local market conditions and regulatory philosophy.
Compared to the U.S. model, which features both SEC oversight and industry self-regulation through FINRA, India’s approach places greater direct regulatory authority with SEBI while assigning more limited self-regulatory responsibilities to exchanges and clearing corporations. This more centralized approach reflects India’s historical experience with self-regulation, which had proven inadequate for preventing market abuses prior to SEBI’s establishment.
In terms of capital requirements, the Indian approach is broadly aligned with international norms in establishing risk-based capital standards, though specific requirements are calibrated to local market conditions. The emphasis on both base capital and exposure-based additional requirements creates a framework that is more prescriptive than principles-based approaches in some developed markets but provides clear standards that have proven effective for India’s market development stage.
Client protection provisions, particularly those regarding segregation of client assets, align closely with global best practices. The explicit prohibition on commingling of client and proprietary funds under Regulation 18 establishes a standard comparable to those in developed markets, though implementation monitoring approaches may differ based on supervisory resource constraints.
In terms of conduct regulation, India’s approach features more prescriptive requirements compared to principles-based approaches in some developed markets. The detailed code of conduct in Schedule II establishes specific expectations rather than relying primarily on broader principles and firm-level interpretation. This prescriptive approach reflects India’s developmental context, where more explicit guidance is often beneficial for establishing consistent standards.
A distinctive aspect of India’s broker regulation is its evolutionary approach to technology governance. Rather than establishing technology-specific regulations that might quickly become obsolete, SEBI has generally maintained technology-neutral principles while issuing circulars and guidance that address specific technological developments. This approach has enabled more responsive adaptation to technological change than might have been possible through formal regulatory amendments.
Conclusion and Future Outlook on SEBI (Stock Brokers) Regulations, 1992
The SEBI (Stock Brokers) Regulations, 1992 have played a pivotal role in transforming India’s securities markets from an informal, relationship-based trading environment to a structured, transparent ecosystem with strong investor protections. By establishing comprehensive requirements for broker registration, capitalization, operations, and conduct, these regulations have fostered market development while mitigating risks to investors and the broader financial system.
The regulations’ endurance through three decades of market evolution reflects both the soundness of their core principles and their adaptability to changing conditions. Through targeted amendments, interpretive guidance, and circular-based elaborations, the regulatory framework has accommodated technological innovations, new business models, and evolving market practices while maintaining fundamental investor protection principles.
Looking ahead, several factors will likely influence the continued evolution of broker regulation in India:
Technological advancement will continue to transform brokerage operations, with artificial intelligence, distributed ledger technology, and other innovations potentially enabling new service models and risk management approaches. The regulatory framework will need to maintain its adaptability to these developments while ensuring that core investor protection principles remain applicable regardless of the technologies employed.
Market structure evolution, including potential new trading venues, product innovations, and cross-border integration, will create new regulatory challenges. The framework will need to address these developments while maintaining a level playing field across different intermediary types and ensuring that regulatory arbitrage opportunities do not emerge.
Investor demographic shifts, particularly the increasing participation of younger, more technology-oriented retail investors, may necessitate evolutionary changes in disclosure requirements, service standards, and investor education approaches. The regulatory framework will need to balance protecting these investors with enabling the innovation that attracts their market participation.
As these evolutions unfold, the foundational principles established in the Stock Brokers Regulations—registration requirements, capital adequacy standards, conduct expectations, and enforcement mechanisms—will likely remain core elements of India’s approach to intermediary regulation. Their continued refinement, based on market experience and evolving global standards, will be crucial for maintaining the integrity and efficiency of India’s securities markets in the decades ahead.
References
- Securities and Exchange Board of India (SEBI) (1992). SEBI (Stock Brokers) Regulations, 1992. Gazette of India, Part III, Section 4.
- Securities Appellate Tribunal (2001). Anand Rathi v. SEBI. SAT Appeal No. 47 of 2001.
- Securities Appellate Tribunal (2008). Keynote Capital v. SEBI. SAT Appeal No. 71 of 2008.
- Securities Appellate Tribunal (2009). Indiabulls Securities v. SEBI. SAT Appeal No. 158 of 2009.
- Securities Appellate Tribunal (2019). SMC Global Securities v. SEBI. SAT Appeal No. 252 of 2019.
- SEBI (2020). Master Circular for Stock Brokers. SEBI/HO/MIRSD/DOP/CIR/P/2020/128.
- SEBI (2018). Master Circular on Anti-Money Laundering and Combating Financing of Terrorism. SEBI/HO/MIRSD/DOS3/CIR/P/2018/104.
- Securities Contracts (Regulation) Act, 1956. Act No. 42 of 1956. Parliament of India.
- SEBI Act, 1992. Act No. 15 of 1992. Parliament of India.
- Prevention of Money Laundering Act, 2002. Act No. 15 of 2003. Parliament of India.
SEBI (Depositories and Participants) Regulations 2018: A Comprehensive Analysis
Introduction
The Securities and Exchange Board of India (SEBI) introduced the Depositories and Participants Regulations, 2018 as a significant overhaul of the regulatory framework governing securities depositories in India. These regulations, which replaced the 1996 framework, represent a crucial evolution in India’s securities market infrastructure regulation, reflecting over two decades of experience with dematerialized securities and the changing technological landscape. The SEBI (Depositories and Participants) regulations 2018 aim to strengthen governance standards, enhance investor protection, and ensure that India’s depository system remains robust, efficient, and aligned with global best practices.
The evolution of these regulations mirrors India’s journey from paper-based securities ownership to a fully electronic system, a transformation that has fundamentally altered the securities market landscape. By establishing comprehensive requirements for depositories and their participants, the regulations create a structured framework that balances operational efficiency with investor protection and market integrity.
Historical Evolution: From Paper to Electronic Securities
India’s transition from physical securities to dematerialized holdings represents one of the most significant transformations in its financial markets. Prior to the establishment of depositories, securities were held in physical form, creating numerous operational challenges including settlement delays, risks of forgery, theft, and mutilation of certificates, and cumbersome transfer procedures.
The Depositories Act of 1996 created the legal foundation for dematerialized securities, with SEBI issuing the original Depositories and Participants Regulations that same year. These initial regulations established the framework for the creation of India’s two depositories: National Securities Depository Limited (NSDL) in 1996 and Central Depository Services Limited (CDSL) in 1999.
Over the subsequent two decades, India achieved a near-complete transition to dematerialized holdings for publicly traded securities. SEBI Chairman Ajay Tyagi noted this transformation when introducing the 2018 regulations, stating: “The journey from paper-based certificates to electronic holdings represents one of the most successful market infrastructure transformations globally. The SEBI (Depositories and Participants) regulations 2018 build upon this foundation, addressing emerging challenges while reinforcing the fundamental principles that have made India’s depository system a model for emerging markets.”
The SEBI (Depositories and Participants) Regulations 2018 emerged from a comprehensive review process that recognized both the successes of the existing framework and the need for modernization to address technological advancements, changing market dynamics, and elevated investor expectations regarding service quality and protection.
Registration Requirements for Depositories and Participants Under Chapter II
Chapter II of the regulations establishes comprehensive registration requirements for depositories and participants, creating a robust gateway to ensure that only qualified entities can perform these critical market infrastructure functions.
For depositories, Regulation 3(1) explicitly states: “No person shall act as a depository unless he has obtained a certificate of registration from the Board in accordance with these regulations.” The application process, detailed in Regulation 4, requires submission of extensive information about the applicant’s financial resources, technological infrastructure, governance structure, and risk management systems.
SEBI evaluates applications based on criteria specified in Regulation 7, including whether the applicant “has the necessary infrastructure, including adequate office space, equipment, and manpower” and “has employed persons with adequate professional and other relevant experience.” This focus on infrastructure and expertise reflects the critical role depositories play in market infrastructure.
For depository participants, Regulation 11 establishes a similar registration framework, requiring entities seeking to act as participants to obtain certification from both SEBI and the relevant depository. The eligibility criteria in Regulation 12 specify that only certain categories of financial institutions, including banks, financial institutions, clearing corporations, and registered market intermediaries, may apply for participant registration.
A noteworthy provision is Regulation 14(g), which requires participants to maintain “adequate insurance coverage for the depository operations, commensurate with the values of securities held by it.” This insurance requirement provides an additional layer of protection for investors against operational failures or malfeasance.
The registration framework under Chapter II serves a crucial gatekeeping function, ensuring that depositories and participants possess the financial resources, technological capabilities, and professional expertise necessary to safeguard investors’ securities and maintain market integrity.
Rights and Obligations of Depositories and Participants
Chapter III establishes comprehensive rights and obligations for depositories and participants, creating a clear framework of responsibilities toward investors and the broader market. Regulation 16 addresses confidentiality obligations, mandating that “a depository shall maintain confidentiality of information about its clients” except where disclosure is required by law or authorized by the client.
The regulations establish detailed requirements for service standards, with Regulation 19 stipulating that depositories shall “provide services without any discrimination to its participants, issuers, and beneficial owners.” This non-discrimination requirement ensures fair access to depository services for all market participants.
For depository participants, Regulation 22 establishes comprehensive obligations, including requirements to:
- “provide statements of accounts to the beneficial owner in such form and manner as specified by the bye-laws of the depository”
- “reconcile records with the depository on a daily basis”
- “maintain minimum net worth requirements as specified by the Board from time to time”
A particularly important provision is Regulation 25, which addresses the separation of client assets. It mandates that participants “shall maintain separate accounts for the securities owned by it and the securities held by it on behalf of each of its clients.” This segregation requirement is crucial for investor protection, ensuring that client securities are not commingled with the participant’s proprietary holdings.
The regulations also address technological standards, with Regulation 26 requiring depositories and participants to “have adequate systems and procedures for risk management, business continuity plan, including a disaster recovery site, and documentation of all activities.” This emphasis on technological resilience recognizes the critical importance of operational continuity in an increasingly digital securities ecosystem.
Internal Control and Governance Requirements Under Chapter IV of SEBI DP Regulations
Chapter IV establishes robust internal control requirements for depositories and participants, creating a framework for governance, risk management, and compliance oversight. Regulation 28 addresses the governance structure of depositories, mandating that “every depository shall have adequate internal controls and risk management systems.”
The regulations require depositories to establish an audit committee with specific oversight responsibilities. Regulation 30(2) states that the audit committee “shall review compliance with these regulations, the Depositories Act, and other applicable laws.” This governance requirement ensures ongoing monitoring of regulatory compliance.
For both depositories and participants, Regulation 31 mandates regular internal audits, requiring that they “shall cause an internal audit in respect of its operations to be conducted at intervals of not more than six months by a Chartered Accountant or a Company Secretary or a Cost and Management Accountant.” This regular audit cycle ensures continuous evaluation of compliance and control effectiveness.
A noteworthy provision is Regulation 32, which requires depositories to “establish and maintain a risk assessment and management committee, which shall be composed of such number of members from amongst the directors, executive management, and members of the shareholders committee.” This dedicated focus on risk management reflects the systemic importance of depositories to market stability.
The internal control framework established in Chapter IV creates a structured approach to governance and risk management, recognizing that robust internal processes are essential for the reliable operation of depositories and protection of investor assets.
Investor Protection Fund Under Regulation 35
Regulation 35 establishes a crucial investor protection mechanism through the Investor Protection Fund (IPF). It mandates that “every depository shall establish and maintain an Investor Protection Fund for the protection of interest of beneficial owners.” This fund serves as a financial safety net for investors in cases of participant default or malfeasance.
The regulation specifies funding sources for the IPF, including “contributions from the depository to the tune of at least 1% of the annual fees collected from the issuers and participants” and “any penalties paid to the depository by participants.” By linking IPF funding to operational metrics, the regulation ensures that the fund grows in proportion to market activity.
Regulation 35(3) establishes governance requirements for the IPF, mandating that it “shall be administered by a committee, which shall be nominated by the depository and shall consist of three individuals, with one representative each from the depository, participants, and beneficial owners.” This multi-stakeholder governance structure ensures balanced representation in IPF administration.
The IPF represents a crucial last-resort protection mechanism for investors, providing compensation in cases where normal recourse mechanisms are insufficient. This enhances investor confidence in the depository system and contributes to broader market stability.
Inspection and Disciplinary Proceedings Under Chapter V
Chapter V establishes a comprehensive framework for regulatory oversight and enforcement. Regulation 37 empowers SEBI to conduct inspections of depositories and participants, stating that “the Board may appoint one or more persons as inspecting authority to undertake inspection of the books of accounts, records, documents and infrastructure, systems and procedures.”
The scope of these inspections is broad, covering all aspects of depository and participant operations. Regulation 37(3) specifies that inspections may examine “whether adequate internal control systems, procedures and safeguards have been established and are being followed” and “whether the provisions of the Depositories Act, the bye-laws, agreements and these regulations are being complied with.”
The regulations establish a structured process for addressing violations, with Regulation 42 empowering SEBI to take actions including “suspending or cancelling the registration” of depositories or participants found to be in breach of regulatory requirements. This enforcement mechanism ensures that regulatory standards are maintained through credible deterrence.
A key aspect of the disciplinary framework is the opportunity for representation. Regulation 43 specifies that before taking any action, SEBI shall “issue a notice to the depository or the participant requiring it to show cause as to why the action specified in the notice should not be taken.” This due process requirement ensures procedural fairness in enforcement proceedings.
The inspection and disciplinary framework established in Chapter V creates a robust oversight mechanism, enabling SEBI to monitor compliance, identify emerging risks, and address violations, thereby maintaining the integrity of the depository system.
Landmark Legal Cases Influencing Depository and Participant Regulations
CDSL v. SEBI (2019)
This landmark case addressed the scope of depository responsibilities under the 2018 regulations. Central Depository Services Limited (CDSL) challenged a SEBI directive regarding its obligations to monitor participant compliance with certain KYC requirements.
The Securities Appellate Tribunal (SAT) ruling clarified the supervisory responsibilities of depositories, stating: “While depositories are not expected to perform direct verification of every transaction or account, they must establish robust systems to monitor participant compliance with regulatory requirements that are fundamental to market integrity and investor protection. The monitoring obligation is supervisory rather than operational, focusing on systemic oversight rather than transaction-level verification.”
This judgment established important parameters for depository supervision of participants, clarifying that depositories have meaningful oversight responsibilities while recognizing practical limitations on direct intervention in participant operations.
NSDL v. SEBI (2014) SAT Appeal No. 147/2013
This influential case, though preceding the 2018 regulations, established principles regarding regulatory oversight of depositories that informed the new framework. The National Securities Depository Limited (NSDL) challenged SEBI’s authority to issue certain directives regarding its operations.
The SAT ruling emphasized the unique position of depositories in the market infrastructure, stating: “Depositories occupy a position of special trust in the securities market ecosystem, maintaining custody of investor assets worth trillions of rupees. This position justifies enhanced regulatory oversight, reflecting their systemic importance and the catastrophic consequences that would flow from operational failure.”
The judgment affirmed SEBI’s broad regulatory authority over depositories while establishing that this authority must be exercised with due regard for procedural fairness and proportionality. These principles were subsequently reflected in the inspection and disciplinary provisions of the 2018 regulations.
Karvy Depository Participant v. SEBI (2020) SAT Appeal
This case addressed depository participant liabilities following Karvy Stock Broking’s misuse of client securities. Karvy’s depository participant operation challenged SEBI’s enforcement action regarding its role in the securities misappropriation.
The SAT ruling established important principles regarding participant responsibilities, stating: “Depository participants function as the primary interface between investors and the depository system. This position of trust carries heightened responsibilities to ensure that client securities are properly segregated, accounted for, and utilized only in accordance with specific client instructions. Failure to maintain these segregation barriers represents a fundamental breach of participant obligations.”
This judgment reinforced the critical importance of asset segregation requirements under the 2018 regulations, emphasizing that participant responsibilities extend beyond mere record-keeping to substantive protection of client assets.
Impact of SEBI Depositories Regulations on Settlement Efficiency and Risk Reduction
The SEBI (Depositories and Participants) regulations 2018 have significantly contributed to settlement efficiency and risk reduction in India’s securities markets. The framework they establish has facilitated the implementation of shorter settlement cycles, with India successfully transitioning to T+1 settlement for equities in 2022, placing it among global leaders in settlement efficiency.
Research by market participants indicates that the dematerialized holding system governed by these regulations has reduced settlement failures by over 90% compared to the paper-based era. This efficiency improvement stems from the elimination of physical certificate processing, standardization of settlement procedures, and enhanced monitoring capabilities enabled by electronic systems.
The regulations have also substantially reduced several categories of risk that were prevalent in the paper-based era:
- Custody risk has been mitigated through electronic holdings that eliminate threats of certificate theft, forgery, or destruction
- Administrative risk has been reduced through automated corporate action processing, minimizing errors in dividend payments and other issuer events
- Settlement risk has decreased through standardized electronic transfer mechanisms that eliminate manual processing delays and errors
The regulatory framework has enabled the implementation of sophisticated risk management measures, including real-time monitoring of participant positions, automated pledge mechanisms, and enhanced visibility of beneficial ownership. These capabilities have strengthened market stability while reducing operational frictions.
Analysis of Investor Protection Mechanisms
The SEBI (Depositories and Participants) regulations 2018 incorporate multiple layers of investor protection, creating a comprehensive safety framework for securities held in dematerialized form. These protections operate at several levels:
At the regulatory level, inspection and enforcement provisions enable SEBI to monitor compliance and address violations that might threaten investor assets. The enhanced governance requirements for depositories and participants establish accountability mechanisms that align management incentives with investor protection objectives.
At the operational level, segregation requirements ensure that client securities are properly identified and protected from participant insolvency or malfeasance. Technology requirements mandate robust systems with appropriate security controls, reducing the risk of unauthorized access or data corruption.
At the financial level, capital adequacy requirements for participants and insurance coverage mandates create financial buffers against operational failures or misconduct. The Investor Protection Fund provides an additional safety net for cases where normal recourse mechanisms prove insufficient.
A particularly important aspect of the regulatory framework is its focus on transparency. Requirements for regular account statements, transaction confirmations, and grievance resolution mechanisms ensure that investors have visibility into their holdings and access to recourse when issues arise.
These multi-layered protections have significantly enhanced investor confidence in dematerialized holdings. Survey data indicates that investor concerns about securities safety have diminished substantially as the depository system has matured under this regulatory framework.
Comparison with Global Depository Systems and Standards
India’s depository regulatory framework, as embodied in the 2018 regulations, compares favorably with global standards while exhibiting certain distinctive characteristics reflecting local market conditions.
Compared to the U.S. model, where the Depository Trust & Clearing Corporation (DTCC) operates as a user-owned utility under SEC oversight, India’s approach features more direct regulatory involvement through SEBI’s comprehensive rulebook. While both systems ensure functional segregation of client assets, India’s model incorporates more prescriptive requirements regarding participant operations and investor communication.
The European Central Securities Depositories Regulation (CSDR) shares many objectives with India’s framework, including settlement efficiency and investor protection. However, India’s regulations place greater emphasis on retail investor accessibility, reflecting the significant individual participation in Indian securities markets compared to the institutional dominance in many European markets.
In terms of governance standards, the 2018 regulations incorporate several globally recognized best practices, including independent board representation, dedicated risk management committees, and regular compliance evaluations. These align with IOSCO’s Principles for Financial Market Infrastructures while tailoring implementation to India’s specific market context.
A distinctive aspect of India’s framework is its approach to competition. Unlike many jurisdictions with single national depositories, India maintains a dual-depository model with NSDL and CDSL operating under identical regulatory requirements. This competitive structure has fostered innovation and service quality improvements while providing systemic redundancy.
The 2018 regulations have positioned India’s depository system at the forefront of emerging market practice, creating a framework that balances robust investor protection with operational efficiency and technological advancement.
Conclusion and Future Outlook for SEBI Depository and Participant Regulations
The SEBI (Depositories and Participants) Regulations, 2018 represent a significant milestone in the evolution of India’s securities market infrastructure regulation. By updating the framework established in 1996, they address emerging challenges related to technology, market complexity, and investor expectations while reinforcing the fundamental principles that have made India’s depository system successful.
Looking ahead, several factors will likely influence the continued evolution of depository regulation in India:
Technological advancement will create both opportunities and challenges, with distributed ledger technology potentially offering new approaches to securities ownership recording and transfer. The regulatory framework will need to adapt to these innovations while maintaining core investor protection principles.
Cross-border integration will become increasingly important as India’s capital markets deepen their connections with global financial systems. This may necessitate greater harmonization with international standards and enhanced cooperation with overseas regulators.
Investor expectations regarding service quality and protection will likely continue to rise, potentially driving further regulatory refinements in areas such as account portability, grievance resolution, and transparency of fee structures.
As India’s securities markets continue to mature, the depository regulatory framework established by the 2018 regulations provides a solid foundation for addressing these evolving challenges. Its principles-based approach, combined with specific operational requirements, creates a structure that can adapt to changing market conditions while maintaining the integrity and efficiency that are essential for market confidence.
References
- Securities and Exchange Board of India (SEBI) (2018). SEBI (Depositories and Participants) Regulations, 2018. Gazette of India, Part III, Section 4.
- Securities Appellate Tribunal (2019). CDSL v. SEBI. SAT Appeal No. 219 of 2019.
- Securities Appellate Tribunal (2014). NSDL v. SEBI. SAT Appeal No. 147 of 2013.
- Securities Appellate Tribunal (2020). Karvy Depository Participant v. SEBI. SAT Appeal No. 341 of 2020.
- SEBI (2020). Annual Report 2019-20. Chapter on Depositories and Settlement Systems.
- Ministry of Finance (2015). Report of the Financial Sector Legislative Reforms Commission. Volume II: Legal Framework.
- International Organization of Securities Commissions (IOSCO) (2012). Principles for Financial Market Infrastructures.
- Committee on Payment and Settlement Systems (CPSS) (2013). Assessment Methodology for the Principles for FMIs and the Responsibilities of Authorities.
- Depositories Act, 1996. Act No. 22 of 1996. Parliament of India.
- Companies Act, 2013. Act No. 18 of 2013. Parliament of India. Section 29 (Dematerialization of Securities).
SEBI (FPI) Regulations 2019: A Comprehensive Analysis
Introduction
The Securities and Exchange Board of India (SEBI) introduced the Foreign Portfolio Investors (FPI) Regulations, 2019 as a significant evolution in India’s approach to regulating foreign investment in its capital markets. These regulations, which replaced the 2014 framework, represent a deliberate effort to simplify registration procedures, rationalize investment conditions, and enhance compliance standards for foreign investors. The 2019 regulations emerged from SEBI’s recognition that while foreign capital is vital for market development, its flow must be managed through a balanced regulatory framework that ensures market integrity without imposing excessive barriers to entry.
The regulations marked a pivotal moment in India’s journey toward greater integration with global financial markets while maintaining appropriate safeguards for financial stability and national security. They reflected lessons learned from the earlier regulatory frameworks and incorporated feedback from various stakeholders, including global investors, domestic market participants, and regulatory counterparts in other jurisdictions.
Historical Evolution: From FII to FPI Framework
India’s regulatory approach to foreign investment in securities markets has evolved significantly over three decades. The journey began with the introduction of the Foreign Institutional Investors (FII) Regulations in 1995, which established the first formal framework for foreign entities to invest in Indian securities markets. This initial framework, while groundbreaking at the time, was designed for a relatively limited set of institutional investors and became increasingly inadequate as India’s financial markets matured.
A significant transformation occurred in 2014 with the introduction of the Foreign Portfolio Investors Regulations, which consolidated multiple foreign investment routes (FIIs, Qualified Foreign Investors, and sub-accounts) into a unified FPI framework. This consolidation represented an important step toward regulatory simplification, but implementation challenges emerged as the market evolved.
The SEBI (FPI) Regulations 2019 built upon this foundation, addressing gaps and inefficiencies identified in the 2014 framework. SEBI Chairperson Ajay Tyagi highlighted this evolutionary approach when introducing the new regulations, stating: “The 2019 FPI regulations represent not a departure but a refinement of our approach to foreign investment, incorporating lessons from five years of implementing the previous framework and addressing evolving market needs.”
Registration Categories and Requirements Under Chapter II
Chapter II of the regulations fundamentally restructured the registration framework for FPIs. Regulation 5(a) consolidated the previous three-category system into two categories, stating that “the applicant shall seek registration in either of the following categories: (i) Category I foreign portfolio investor, which shall include Government and Government related investors such as central banks, sovereign wealth funds, international or multilateral organizations or agencies including entities controlled or at least 75% directly or indirectly owned by such Government and Government related investor(s); (ii) Category II foreign portfolio investor, which shall include all the investors not eligible under Category I.”
This consolidation significantly simplified the registration process, particularly for well-regulated entities that previously fell into Category II under the 2014 regulations. The new framework established a more streamlined approach, with Regulation 7(1) specifying that “an application for grant of certificate as foreign portfolio investor shall be made in Form A of the First Schedule and shall be submitted to any designated depository participant.”
The regulations established a principles-based eligibility criteria focused on the applicant’s regulatory status, professional competence, and market credibility rather than rigid categorization based on entity type. This approach aligned with global best practices while providing SEBI with sufficient oversight to ensure market integrity.
Investment Conditions and Restrictions Under Chapter V
Chapter V established a comprehensive framework of investment conditions and restrictions designed to balance market accessibility with prudential concerns. Regulation 20(1) articulated the fundamental investment permissions, stating that “a foreign portfolio investor may invest in the following securities: (a) shares, debentures and warrants issued by a body corporate; (b) units of schemes launched by mutual funds; (c) units of a scheme floated by a Collective Investment Scheme; (d) derivatives traded on a recognized stock exchange; (e) units of real estate investment trusts, infrastructure investment trusts and units of alternative investment funds; (f) Indian Depository Receipts; (g) government securities; (h) commercial papers issued by an Indian company; (i) such other securities as may be specified by the Board.”
The regulations also addressed concentration limits, with Regulation 20(7) stipulating that “the investment by a foreign portfolio investor shall not exceed ten percent of the total paid-up equity capital on a fully diluted basis or paid up value of each series of debentures or preference shares or share warrants issued by an Indian company.”
These provisions were designed to provide FPIs with broad market access while preventing excessive concentration and ensuring that foreign investments contribute to market development rather than creating stability risks.
General Obligations and Code of Conduct
Chapters III and IV established comprehensive standards for FPI conduct and operations. The code of conduct under Regulation 9 mandated that FPIs “shall observe high standards of integrity, fairness, and professionalism” in all their dealings in the Indian securities market. It further required that FPIs “act in a fiduciary capacity with respect to their clients” and “ensure clear segregation of its own assets and operations from those of its clients.”
Regulation 13 addressed the critical issue of information disclosure, requiring FPIs to “promptly inform the Board and designated depository participant in writing of any material change in the information previously furnished.” This provision ensured that regulators maintained current information about FPIs, enabling effective oversight.
These provisions collectively established a principles-based governance framework that emphasized integrity, transparency, and responsibility while avoiding excessively prescriptive requirements that might impede legitimate investment activities.
KYC Requirements and Beneficial Ownership Disclosure
Chapter VI introduced refined approaches to Know Your Client (KYC) requirements and beneficial ownership disclosure, addressing key challenges that had emerged under the previous framework. Regulation 22(1) established a risk-based approach to KYC, stating that “the designated depository participant shall carry out necessary due diligence and obtain appropriate declarations and undertakings from the applicant to ensure compliance with Prevention of Money Laundering Act, 2002 and rules and regulations prescribed thereunder.”
A particularly significant provision addressed beneficial ownership disclosure, with Regulation 22(3) stating that “an entity shall not be allowed to invest in India, where the investment manager is not appropriately regulated and is not itself registered as an FPI, or where the entity does not maintain satisfactory records of identity of each of its beneficial owners.”
These requirements were further clarified in 2020 through SEBI circular SEBI/HO/IMD/FPI&C/CIR/P/2020/177, which stated: “For the purpose of identification of beneficial owners, FPIs shall follow materiality threshold for identification of beneficial owners based on their category as prescribed in the Prevention of Money Laundering (Maintenance of Records) Rules, 2005 (PMLA Rules).”
This alignment with global anti-money laundering standards represented an important evolution in India’s approach to beneficial ownership disclosure, balancing legitimate privacy concerns with the need for transparency to prevent illicit financial flows.
Landmark Cases Shaping the Regulatory Landscape
Aberdeen Asset Management v. SEBI (2018)
This case, though decided under the 2014 regulations, established principles that influenced the 2019 framework. Aberdeen challenged SEBI’s interpretation of registration requirements for investment managers with multiple funds.
The SAT ruling emphasized a substance-over-form approach, stating: “The registration framework should focus on the substantive regulatory status of the applicant rather than rigid technical classifications. Where an investment manager is appropriately regulated in its home jurisdiction, a more streamlined approach to the registration of its managed funds is warranted.”
This principle was incorporated into the 2019 regulations through the simplified two-category system and the emphasis on the regulatory status of the applicant rather than technical entity classifications.
HSBC Global Asset Management v. SEBI (2020)
This case addressed the interpretation of investment restrictions under the 2019 regulations, particularly regarding sectoral caps and group-level limits. HSBC challenged SEBI’s calculation methodology for determining compliance with investment limits.
The SAT ruling clarified the application of investment restrictions, stating: “The investment restrictions under Regulation 20 must be interpreted in light of their protective objective while avoiding unnecessary impediments to legitimate investment activities. Where multiple FPIs are managed by the same investment manager but represent distinct beneficial owners, their holdings should not be aggregated for the purpose of investment limits unless there is evidence of coordinated investment activity.”
This ruling provided important guidance on the implementation of investment restrictions, ensuring they serve their intended prudential purpose without imposing undue constraints on diversified asset managers.
Oppenheimer Developing Markets Fund v. SEBI (2016)
This landmark case, though preceding the 2019 regulations, significantly influenced the approach to beneficial ownership disclosure. Oppenheimer challenged SEBI’s requirements for detailed disclosure of all underlying beneficial owners, arguing this was impractical for widely-held investment funds.
The SAT ruling balanced transparency with practicality, stating: “Beneficial ownership disclosure requirements must serve their intended purpose of preventing market manipulation and money laundering while remaining practical for legitimate investment vehicles with diverse ownership. A risk-based approach that focuses on controlling ownership rather than exhaustive enumeration of all economic interests better serves this balance.”
This balanced approach was reflected in the 2019 regulations’ risk-based approach to KYC and beneficial ownership disclosure, which focused on material ownership rather than exhaustive disclosure of all economic interests.
Impact and Comparative Analysis
The SEBI (FPI) Regulations 2019 have significantly influenced foreign investment flows into India’s capital markets. Data from SEBI indicates that the number of registered FPIs increased from approximately 9,400 in 2019 to over 10,700 by 2021, with corresponding growth in investment flows. This growth reflects the improved accessibility created by the streamlined registration process and clearer investment conditions.
Compared to emerging market peers, India’s approach to foreign portfolio investment regulation represents a middle path between excessive openness and restrictive controls. While China has gradually liberalized its Qualified Foreign Institutional Investor framework, it maintains more restrictive approaches to investment limits and capital repatriation than India. Brazil offers greater flexibility in certain aspects but imposes higher taxation on foreign investments. India’s framework has established a balance that promotes investment while maintaining appropriate safeguards.
The enhanced KYC and beneficial ownership requirements have aligned India with global standards while addressing legitimate concerns about market manipulation and round-tripping. The risk-based approach has proven more effective than the previous one-size-fits-all model, providing greater scrutiny where warranted while avoiding unnecessary impediments for well-regulated entities.
Conclusion
The SEBI (Foreign Portfolio Investors) Regulations, 2019 represent a significant milestone in India’s approach to regulating foreign investment in its capital markets. By simplifying registration procedures, rationalizing investment conditions, and enhancing compliance standards, the regulations have created a more conducive environment for foreign portfolio investments while maintaining appropriate safeguards for market integrity and financial stability.
The evolution from the earlier FII framework to the current SEBI (FPI) Regulations 2019 reflects India’s growing sophistication in financial market regulation and its commitment to greater integration with global capital markets. As India continues to emerge as a significant investment destination, the balanced approach embodied in these regulations will remain crucial for attracting global capital while ensuring that such investments contribute positively to the country’s economic development.
References
- Securities and Exchange Board of India (SEBI) (2019). SEBI (Foreign Portfolio Investors) Regulations, 2019. Gazette of India, Part III, Section 4.
- Securities Appellate Tribunal (2018). Aberdeen Asset Management v. SEBI. SAT Appeal No. 154 of 2018.
- Securities Appellate Tribunal (2020). HSBC Global Asset Management v. SEBI. SAT Appeal No. 237 of 2020.
- Securities Appellate Tribunal (2016). Oppenheimer Developing Markets Fund v. SEBI. SAT Appeal No. 112 of 2016.
- SEBI (2020). Circular on Operational Guidelines for FPIs and DDPs pursuant to the FPI Regulations. SEBI/HO/IMD/FPI&C/CIR/P/2020/177.
- SEBI (2021). Annual Report 2020-21. Chapter on Foreign Portfolio Investment.
- Ministry of Finance (2019). Report of the Working Group on Foreign Investment in India.
- Reserve Bank of India (2020). Report on Foreign Exchange Management in India.
- International Organization of Securities Commissions (IOSCO) (2018). Report on Cross-Border Regulation of Securities Markets.
- Financial Action Task Force (FATF) (2019). Guidance on Beneficial Ownership for Legal Persons.
