🌍 Introduction
With Indian businesses going global, it’s now common for Indian entities to set up subsidiaries abroad. Often, these foreign subsidiaries further establish their own subsidiaries in other jurisdictions. This creates what is known as a Step-Down Subsidiary (SDS) structure.
While such structures are legitimate for business expansion, they are subject to regulatory scrutiny and compliance under FEMA and RBI’s Overseas Investment (OI) Rules, 2022. One of the critical compliance areas here is SDS Reporting.
🧩 What is a Step-Down Subsidiary (SDS)?
A Step-Down Subsidiary (SDS) is defined as:
A foreign entity that is owned or controlled by another foreign entity, which is in turn directly owned or controlled by an Indian entity (i.e., the Indian Party or IP).
In simpler terms:
- Layer 1: Indian Company invests in a Foreign Subsidiary
- Layer 2: That Foreign Subsidiary invests in another Foreign Entity → this becomes the Step-Down Subsidiary
⚖️ Regulatory Framework: RBI’s ODI Rules, 2022
The key provisions governing SDS fall under:
- Rule 19 of the OI Rules, 2022
- Master Direction – Foreign Investment in India by Persons Resident Outside India
- RBI FIRMS Portal Guidelines
- RBI FAQs on Overseas Investment
🚫 Rule 19(3): Layering Restriction
As per Rule 19(3):
“An Indian entity shall not make investment in a foreign entity that has more than two layers of subsidiaries, unless required by law in the host country.”
This provision restricts Indian companies from creating opaque or overly complex offshore structures unless there is legal justification.
📊 Examples to Understand the “Two-Layer Rule”
✅ Permissible Structure (2 Layers)
🧾 ABC Ltd (India)
⬇️ (ODI)
🌐 ABC Global Inc (USA) – 1st Layer
⬇️
🇩🇪 ABC Europe GmbH (Germany) – 2nd Layer (Step-Down Subsidiary)
✅ This structure is allowed as it has only two layers: one direct foreign subsidiary and one step-down subsidiary.
❌ Not Permissible (3 Layers or More)
🧾 ABC Ltd (India)
⬇️
🌐 ABC Global Inc (USA)
⬇️
🇩🇪 ABC Europe GmbH (Germany)
⬇️
🇬🇧 ABC Ventures Ltd (UK) – 3rd Layer
🚫 This structure violates the 2-layer rule unless the third layer is legally required in the host jurisdiction and proper documentation is available.
🧾 SDS Reporting Obligations with RBI
Indian entities investing abroad under ODI must report both their direct and step-down foreign subsidiaries to the RBI through the FIRMS Portal.
1. Form FC/ODI – Part I (Initial Investment Filing)
- When ODI is first made, details of any existing SDS must be declared.
- Requires information like name, jurisdiction, nature of business, etc.
2. Annual Performance Report (APR)
📅 Updated Due Date:
🔔 APR must be filed by 31st December of the following financial year.
For example, for FY 2023–24, the APR is due by 31st December 2024.
📄 Contents of APR:
- Financials of the foreign subsidiary and all SDS:
- Total assets, liabilities, turnover, and profit/loss
- % shareholding of each foreign entity
- Operational status (Active, Dormant, Closed)
- Total assets, liabilities, turnover, and profit/loss
- Declaration by the Authorized Representative
- CA certification (for unaudited accounts)
APR is mandatory even if the entity has not started operations.
📥 How to Report SDS in FIRMS Portal – Quick Steps
- Login to FIRMS Portal
- Go to APR tab
- Select the Direct Foreign Entity
- Add details of each SDS under “Step Down Subsidiary” section
- Upload documents (audited or unaudited financials)
- Submit APR online
⚠️ Consequences of Non-Compliance
- FEMA violation
- Penal action or compounding
- Ineligibility for future ODI
- Reputational risk in foreign jurisdictions
📌 Key Compliance Tips
✅ Keep a full record of the ownership chain and shareholding percentages
✅ Avoid exceeding two foreign layers unless absolutely necessary
✅ Justify additional layers with host country legal documents
✅ Ensure timely APR filings every year
✅ Take professional help for complex ODI structuring
📝 Conclusion
Step-Down Subsidiaries are a natural outcome of overseas expansion, but they must be structured and reported carefully. With the updated regulatory framework under the OI Rules, 2022, RBI has clarified its position on layered foreign investments.
Timely and accurate reporting of SDSs, especially through the APR, ensures continued compliance and smooth future investments.