IFSC Banking Units – offshore branches with onshore dispute resolution

The Gujarat International Financial Tec-City (“GIFT”) in Gandhinagar, Gujarat, is India’s first operational greenfield smart city, housing a domestic tariff zone and an International Financial Services Centre (“IFSC”) in a Multi-service Special Economic Zone (“SEZ”). As part of developing India’s very own and first IFSC, both Indian and foreign banks are permitted to establish and operate IFSC Banking Units (“IBU”) from GIFT IFSC, upon obtaining the requisite licenses and permissions. The IBUs have the advantage or the ability to transact in freely convertible foreign currencies in the offshore markets, while being situated within the territorial borders of India. From 2015 to early 2020, the Reserve bank of India issued notifications and regulations related to the IFSC framework. Thereafter, on April 27, 2020, the International Financial Services Centres Authority Act, 2020, was notified, pursuant to which the International Financial Services Centres Authority (“IFSCA”) was established on October 1, 2020, as the unified regulator with wide powers to develop and regulate financial products, financial services, and financial institutions in IFSCs, including IBUs.

 As per governing regulations, for the purposes of exchange control laws, the IBU of an Indian Bank is to be treated as an offshore branch of that Indian bank. To illustrate, an IBU is permitted to extend credit facility to a foreign creditor in freely convertible currency, as well as source foreign currency funds from non-residents who are looking to invest in India. Often, such transactions may lead to situations that require dispute resolution by a suitable dispute redressal mechanism. In such a scenario, the question that arises is whether Indian courts would have territorial jurisdiction over the disputes arising out of and or in relation to the activities of an IBU in a SEZ. Several interesting corollaries may also arise, such as-

  • What happens to disputes arising out of issues other than FEMA, for which the law does not designate the IFSC as a foreign territory, such as fraud, forgery and criminal breach of trust?
  • What laws apply if data theft takes place in an IBU, which law enforcement agency would have the powers to investigate?
  • In cases of civil or criminal dispute, which court of law would have jurisdiction to adjudicate?

 Therefore, if the disputes arising out of or in connection to an IBU have to eventually be subject to the territorial jurisdiction of an Indian court, is the intent to promote foreign players to invest in India and Indian player to use offshore status and trade in freely convertible currencies really achieved? Is IFSC truly international?

Disputes arising in relation to facilities extended by an IBU of Indian bank  

While the IFSCA supervises and regulates all banking activities of IBUs set up in an IFSC, there is no exclusive court or alternate dispute resolution forum notified under Indian Laws, for the purposes of adjudicating disputes, arising out of a transaction undertaken by an IBU.

In the absence of any such notification/ regulation, the next step in determination may be to consider the territorial jurisdiction of a court in India because SEZ is technically a specified area within the territorial borders of India. The Special Economic Zones Act, 2005, states that a SEZ shall, on and from the appointed day, be deemed to be a territory outside the customs territory of India. Therefore, it may be said that while on the one hand, deeming fiction created for IBUs in SEZ considers them as foreign entities for exchange control laws and customs duty purposes, on the other, for issues relating to territorial jurisdiction of courts, the laws of India will apply, making IBUs a hybrid creature in a complex ecosystem.

Therefore, it may be said that the objective of categorization of an IBU as a ‘foreign branch’ is in stricto sensu from a foreign exchange regulatory perspective and does not have any implication on the territorial application of other Indian laws (including the recovery of debts laws). In such a scenario, it becomes imperative that the players availing of the IFSC platform be conscious of the interplay of laws that come with it. This is especially relevant to Borrowers and Guarantors, as generally in lending documents, the choice of forum is the prerogative of the lender and certain restrictions apply on the borrower. For e.g. an IBU and a foreign borrower may enter into a credit facility agreement and choose a foreign governing law, but they must bear in mind that in case of a default, they may have to approach an Indian Court for adjudication of the dispute, given that currently there are no specialised disputes resolution mechanism dedicated to IFSC.

Further, in the absence of a contractual term, between an IBU lender and a foreign borrower, to confer exclusive jurisdiction to a court, the Indian IBU lender may approach Indian Courts as their first preference, contending that Indian courts have jurisdiction over the dispute because the loan amounts were disbursed from and are due repayment in an IFSC. A foreign borrower may object to such territorial jurisdiction of an Indian court by contenting that as per IFSC Regulations, an IBU is to be treated as ‘person resident outside India’ or a ‘foreign branch of an Indian bank’. However, it may be open to the Indian IBU lender to argue that the IBU is not a separate legal entity or juristic person than that of the parent bank having presence in India. Therefore, the IBU of a bank having presence in India may be considered as a ‘bank’ under the Banking Regulation Act, 1949, and may not be said to be a foreign entity for the purposes of territorial jurisdiction of Indian Courts. Obviously, the later argument may not be available to an IBU of foreign bank, not having presence in India, thereby paving the way for an interplay of principles of private international law.

At times, depending upon the facts, the complex interplay of laws, as mentioned before may be triggered. For e.g. In a case of default, wherein an IBU that is a branch of a foreign bank not having presence in India, extends credit facility to a non-resident borrower for providing offshore funding for an offshore project, the borrower, in the absence of an exclusive jurisdiction clause, may argue that the courts in India have no jurisdiction as they do not have the ‘closest and most real connection’ to the subject matter of the dispute. Therefore, the parties may have to navigate not just through the existing Indian legal framework, but through the intertwined principles of private international law as well.

Territorial Jurisdiction of a Debt Recovery Tribunal (“DRT”) in relation to IBUs

A natural choice for such an IBU having parent in India may be to approach the DRT, which is a special court established under the Recovery of Debts and Bankruptcy Insolvency Resolution and Bankruptcy of Individuals and Partnership Firms Act, 1993 (“Recovery of Debts Act”), for the benefit of banks and financial institutions.

In terms of Section 19 of the Recovery of Debts Act, territorial jurisdiction is conferred to a DRT, either on the basis of the location of the branch/ office of the bank maintaining the concerned account (wherein debt claimed is due) or the place where the defendant actually and voluntarily resides or carries on business or personally works for gain or where the cause of action, wholly or partly arises.

With respect to a foreign branch of an Indian bank, the High Court of Delhi, in the matter of Spentex Industries Limited vs. State Bank of India & Ors., [AIR 2018 Del 160] upheld the judgement passed by the DRT, New Delhi, and the Debt Recovery Appellate Tribunal, New Delhi, whereby an original application under Recovery of Debts Act was admitted against a borrower incorporated in Uzbekistan, in relation to a term loan availed from the Tokyo branch of State Bank of India on the ground that DRT, New Delhi, had jurisdiction over the matter under Section 19 of the Recovery of Debts Act. Further, the High Court of Delhi, in the case of HDFC Bank Limited vs. Faim Khan & Ors., [2018 SCC OnLine Del 12503], held that the branch from which the loan facilities were extended to the borrower, the DRT having jurisdiction over that branch will have territorial jurisdiction over the dispute. The court further held that the place of execution of the loan agreement will be inconsequential. It may be noted that while determining jurisdiction of an Indian Court in a dispute between an IBU lender and a foreign borrower, various factors may require consideration, such as jurisdiction clauses of the agreement and the governing law of the agreement itself. Therefore, the applicability of the jurisdictional principles of Indian law, while determining the jurisdiction of Indian Courts/ tribunals with respect to IBUs may only reflect one side of the coin, as another pertinent issue may arise with respect to enforcement of decrees of Indian Courts in cases where the borrower and guarantors do not have assets in India.

It may be noted that while an Indian court, such as a DRT, may assume territorial jurisdiction, in such a case, practical difficulties of enforcement of such a decree or award may arise in cases where either of the parties, be it foreign borrower and/ or guarantor do not have any assets in India.

Conclusion

IBUs are a new legal concept that India is embracing, and their effectiveness can be multiplied if their governing legal framework with respect to dispute resolution and enforcement can be stream-lined from within the existing laws. IBUs are hybrid entities as they are constantly navigating between intersecting territorial laws of India and deeming fictions of an IFSC. While they operate out of an IFSC, they are also within the territorial borders of India and their treatment as foreign branches of banks having presence in India appears to be for regulatory purposes only. Therefore, at this pivot point, where India is moving ahead with incentivising legal and commercial innovation, the IFSCA may consider framing regulations with respect to territorial jurisdiction of Indian courts/ tribunals having jurisdiction over the disputes arising from or in relation to the transactions undertaken by IBUs.

Further, there is a need to ensure that parties choose dispute resolution options that are available to them by express contractual terms of choice of law and jurisdiction and not leave the same to chance. This will equip the IFSC ecosystem to deal with modern/ dynamic developments in international contracts and attract more beneficiaries by trimming the uncertainties associated with local procedure and possible litigations before Indian courts. A separate dispute resolution mechanism carved out of the existing framework of Indian laws would result in the IFSC being a preferred investment location, especially from a foreign investment point of view, wherein the uncertainties associated with unfamiliar local court procedures and timelines are eased for foreign investors. It shall also ensure that IBUs, foreign borrowers and stakeholders can consider the aspects of jurisdiction while drafting the governing law clauses of their financial documents and navigate with increased visibility in making the most out of IBUs – the hybrid creatures at the GIFT City.