Sebi tightens P-Note norms to check money laundering

Tightening its norms to check any misuse of controversy-ridden PNotes, regulator Sebi on Thursday made it mandatory all end-users of these overseas instruments to follow anti-money laundering law in India and asked their issuers to report any suspected breach immediately.

Acting upon recommendations of the Supreme Court-appointed Special Investigation Team on black money, Sebi tightened the due diligence requirements for issuance and transfer of controversy-ridden P-Notes and put the onus on investors to ensure the AML compliance.

The issuers would have to conduct periodic review and report the complete transfer trail of Offshore Derivative Instruments (ODIs) -- commonly known as Participatory Notes or P-Notes -- to Sebi on a monthly basis in addition to the present requirement of reporting details of their holders.

Any change in P-Note regulations often results in a significant impact on the markets. As a Sebi board meeting was on today, markets plunged sharply on anticipation of tightening of the norms.

After the meeting here today, Sebi said its board has approved additional measures for the purpose of enhancing the transferability and control over the issuance of ODIs.

P-Notes are typically instruments issued by registered foreign institutional investors to overseas investors, who wish to invest in the domestic stock markets without registering themselves directly in India, but still need to go through a proper due diligence process.

P-Notes make up for about 10-12% of the total FII inflows, as against over 50% at the peak of stock market bull run in 2007. Total investment through ODIs stood at Rs 2.2 lakh crore at the end of March 2016.

Rules have been tightened several times in recent years to check any misuse of this route, but P-Notes have still continued to court controversies.

The Supreme Court appointed SIT on black money last year had suggested that Sebi should further strengthen its norms to keep a tab on beneficial ownership of P-Notes as they were widely used by foreign investors and could be prone to misuse.

While Sebi (Securities and Exchange Board of India) has been of the view that the regulations have already been strengthened to check any misuse of this route for money laundering like activities, it decided to put in place additional safeguards as suggested by the SIT.

The SIT last year had suggested that Sebi should further strengthen its norms to keep a tab on beneficial ownership of P-Notes as these are widely used by foreign investors and could be prone to misuse.

Sebi said its Board took note of the measures taken by the regulator for tightening the eligibility and investment norms for ODI issuers and subscribers for the past few years.

Under the existing norms, an ODI subscriber cannot be a resident in a country with an inadequate framework for compliance to the global standards for Anti-Money Laundering or Combating the Financing of Terrorism Regulations.

Besides, ODI subscribers are not permitted to have an Opaque Structure -- meaning any structure such as protected cell company, segregated cell company or equivalent, where the details of the ultimate beneficial owners are not accessible.

Even NRIs and Resident Indians are not permitted to transact in ODIs. Sebi said its Board noted that in view of strict norms for ODI issuance, the notional value of ODIs to the Asset Under Control of FPIs has declined over the years from a high of 55.7% in June 2007 to 10% in March 2016.

However, the concerns raised by the SIT with regard to identification of Beneficial Owners and transferability of ODIs were also discussed and the Board approved additional measures for the purpose of enhancing the transparency and control over the issuance of ODIs.

Presently, the ODI issuers follow the KYC/AML norms of either the jurisdiction of the end beneficial owner or of the jurisdiction of the ODI issuer.

In order to bring about an uniformity in the KYC/AML norms, it has been decided that Indian norms will now be applicable to all ODI issuers. These norms will be the same as that applicable for all other domestic investors.

Also, ODI Issuers will be required to identify and verify the beneficial owners in the subscriber entities, who hold in excess of the applicable threshold -- 25% in case of a company and 15% in case of partnership firms, trusts or unincorporated bodies.

In such cases, the ODI issuers will need to identify and verify the persons who control operations of these entities.