An Indian company having more than 50% of its shares controlled by a foreign parent company is called a foreign subsidiary. Although the company is a subsidiary of a foreign company, it will be governed by the laws in India.
Overview
The Companies Act, 2013 has been versatile and also accommodative to an exhaustive list of corporate entities. Additionally, the Act also allows the incorporation of Foreign Subsidiary company in India. The fact that the Indian market is a great ground for international businesses, encourages foreign entities to launch their subsidiaries in India. The company, established as a subsidiary of a foreign company, has to be incorporated as per the legal standards set in India and cannot be driven by the law which is prevalent in the country where the parent company is incorporated. A foreign subsidiary is no different from an Indian company with respect to the legal compliances, except that it might have a little more on its plate than the Indian companies. Also, more than 50% of the shares of this company have to be owned by a foreign company for it to be a foreign subsidiary in India. The subsidiary company has to be incorporated within India, regardless of the country where the parent company is registered in.
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What Is a Foreign Subsidiary?
A foreign subsidiary refers to a business entity that functions in a particular country but is owned either wholly or partially by a parent company situated in a different country. It is commonly referred to as a daughter company and operates as an independent legal entity, adhering to the tax and labor regulations of the host country.
Foreign Subsidiary Examples
Google, a prominent parent company based in Mountain View, California, serves as a prime example of an organization with numerous Foreign Subsidiary. With a presence in more than 40 countries across the globe, Google’s extensive network of subsidiaries supports its global operations.
Similarly, WPP, a major American media conglomerate, has strategically established over 2,000 subsidiaries in various key locations worldwide to facilitate its extensive business operations.
Advantages of Establishing a Foreign Subsidiary
Setting up a foreign subsidiary offers several significant benefits:
- Market Expansion: A foreign subsidiary provides access to new markets, allowing businesses to reach a broader customer base and increase their revenue. It enables companies to market their products and services locally, import/export goods, and expand their brand recognition.
- Cost Advantage: Setting up a foreign subsidiary in countries with lower manufacturing costs can help reduce production expenses. Accessing a well-developed manufacturing infrastructure and cheaper labor can lead to cost savings.
- Access to Technical Skills: Foreign subsidiaries can tap into advanced technology and technical expertise available in the host country. This provides opportunities to recruit a diverse and skilled workforce, benefiting from global talent and knowledge.
- Local Knowledge: Establishing a foreign subsidiary enables businesses to develop relationships with local partners, access localized knowledge, and establish joint ventures. This local insight can facilitate market entry, adapt to cultural nuances, and navigate regulatory requirements more effectively.
- Increased Expansion Opportunities: Entering a new country through a subsidiary can lead to enhanced business growth and revenue, especially when the domestic market is saturated with competition. It opens up opportunities for further expansion and diversification.
- Streamlined Processes and Incentives: Some countries actively encourage foreign investment by simplifying the incorporation process, offering tax incentives, eliminating minimum capital requirements, establishing special economic zones or free trade zones, and allowing greater foreign ownership of companies. These streamlined processes and incentives make it more attractive to set up a foreign subsidiary.
By establishing a foreign subsidiary, businesses can leverage these advantages to expand their market reach, reduce costs, access new skills, and gain a competitive edge in the global marketplace.
Disadvantages of Establishing a Foreign Subsidiary
Setting up a foreign subsidiary has several notable disadvantages:
- Increased Cost and Time: Establishing a foreign subsidiary can be a costly and time-consuming process. There may be significant financial requirements, such as paid-up capital, which can vary by country and industry. This financial commitment can pose a barrier for many companies.
- Prohibitions on Foreign Ownership: Some countries impose restrictions on foreign ownership in certain industries. This can limit the ability of foreign companies to have full control over their subsidiary. In some cases, local partners with majority ownership may be required.
- Complicated Immigration Requirements: Working in a foreign country often involves navigating complex immigration processes. Obtaining work visas or permits for employees can be challenging and time-consuming. There may also be limitations on the duration of stay and the activities that can be undertaken.
- Complex Compliance Requirements: Setting up a foreign subsidiary requires compliance with a range of regulations. These can include rules related to employment, payroll management, tax obligations, and business activities. Meeting these requirements can be complex and time-consuming.
It is important for companies considering a foreign subsidiary to carefully evaluate these disadvantages and assess the feasibility and benefits of such a venture. Seeking professional advice and understanding the specific regulations of the target country is crucial to mitigate potential challenges.
Compliances to be Met by a Foreign Subsidiary in India
The compliances of a foreign subsidiary company depend upon the type of company it is incorporated into. The annual turnover of the company, the number of employees the company has employed, and the industry it operates in, is the other relevant factors that decide the set of compliances that have to be adhered to by the company. A foreign subsidiary in India must essentially be in consonance with the provisions stated in the following legislations:
- The Companies Act, 2013
- The Central Goods and Services Tax Act, 2017
- SEBI (Securities and Exchange Board of India) Rules and Regulations
- Foreign Exchange Management Act, 1999
- RBI (Reserve Bank of India) Compliances.
Foreign Subsidiary Compliances Under the Companies Act, 2013
- The form FC-1 has to be filed and presented within 30 days from the date of incorporation of the company. Along with the form, the mandatory files, documents, and certificates from other regulatory bodies such as RBI have to be furnished
- The form FC-3 is required to be submitted to the Registrar of Companies (RoC) of the respective jurisdiction wherein the company is located. Details regarding the genre of business carried out by the company and the financial statements are be attached along with the form
- The form FC-4 which pertains to the company’s annual returns has to be submitted within 60 days from the last date of the preceding financial year
- The company has to duly file all the relevant financial statements within 6 months of the end of the financial year. The financial statement must essentially include the statements pertaining to the transfer of funds, the earnings of the company, various financial transactions such as sales, purchases, and transfer of property of the company
- The accounts of the company must be compiled by a practicing Chartered Accountant. The accounts must be compiled and made available for the purpose of the annual audit
- The documents submitted to the RoC must be authorized by a practicing lawyer in India. Being a foreign subsidiary, if the documents are in a language other than English, the same must be translated into English before submission.
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Apart from the compliances listed above, there are three categories of compliances in general:
- Periodic compliances
- Annual compliances
- Event-based compliances.
Foreign Subsidiary in Periodic Compliances
These compliances have to be adhered to by the foreign subsidiary company on a periodic basis. These compliances may occur at regular intervals, say even for a multiplicity of times within the same year, or on a quarterly or half-yearly basis.
Annual Compliances
These compliances have to be met once every year mandatorily. The GST (Goods and Services Tax) and TDS (Tax Deducted at Source) filings, various compliances stipulated by the RBI and SEBI’s guidelines, etc fall under this category.
Event-Based Compliances
These compliances become mandatory subject to the happening of certain events or conditions, like the following as directed by the RBI and FEMA guidelines.
1) FC- TRS: This form pertains to the transfer of shares of the foreign subsidiary company from an Indian resident to a non-resident investor or vice-versa. The transfer can be facilitated by way of sale or a gift deed. The FDI (foreign direct investment) rules mandate that such business dealings should be notified within 60 days from the date of initiating the transfer. The form FC-TRS must be filed by the Indian resident or the investee company depending upon the scenario regardless of whether the Indian resident is the transferor or the transferee
2) FC-GPR: The form is concerned with the remittance availed by the shareholders of the foreign subsidiary company wherein it specifies, the mode of transfer of the funds made by the company towards its shareholders.
It is of vital significance that the foreign subsidiary company adheres to the compliances listed above. The failure to meet these can result in severe repercussions. The company could be levied penalties or can be charged with criminal action with imprisonment as directed under the provisions of the relevant law.
When Should You Set Up a Foreign Subsidiary?
Deciding whether or not to establish a foreign subsidiary depends on your company’s long-term objectives. If you aim to have a lasting presence in a particular market, hire a significant number of employees in a foreign location, minimize global tax payments, or hold physical assets in a specific market, then setting up a foreign subsidiary may be a viable option. It is important to ensure that you have thoroughly researched and validated your target market and are prepared to make substantial long-term investments.
2 Alternatives to Establishing a Foreign Subsidiary
Businesses that desire global growth but are not ready to establish a foreign subsidiary have flexible alternatives available to them. Two popular options are utilizing contractors or partnering with an employer of record.
- Contractor Engagement: Engaging international contractors provides a simpler approach to entering a foreign market without the complexities of establishing an entity. This option offers benefits such as cost savings, staffing flexibility, and reduced exposure to legal issues. However, it also carries the risk of misclassification, as contractors may be considered employees according to local laws, leading to fines and reputational damage.
- Employer of Record Partnership: Partnering with an employer of record (EoR) allows companies to experience the advantages of entity establishment without the time, upfront investment, and compliance risks involved. An EoR serves as the legal employer for global talent, taking on responsibilities related to onboarding, payroll, benefits administration, immigration services, and compliance with local labor laws. This option is beneficial for businesses looking to explore new markets, efficiently onboard international talent, save costs, and mitigate compliance risks.
By considering these alternatives, businesses can pursue global expansion while managing their level of commitment and mitigating risks associated with establishing a foreign subsidiary.
What Are the Alternatives to Setting Up a Foreign Subsidiary?
When a business decides that establishing a foreign subsidiary may not be the best option, there are several alternatives to consider. These alternatives vary depending on the country in question. Here are some popular alternatives:
- Foreign Affiliates: In this option, the foreign enterprise holds a minority stake in the overseas enterprise. This reduces financial risk and reputational visibility but limits control and can have tax disadvantages.
- Independent Contractors: Instead of a subsidiary, businesses may engage independent contractors based overseas. However, enforcing contractual terms and potential tax liabilities can be challenging.
- Partnership: Individuals can form a partnership to run an enterprise domestically or internationally. Partners share assets, profits, and liabilities, but there may be limitations on foreign participation in some countries.
- Joint Venture: Two businesses, one of which may be foreign, join together for a specific project or enterprise in another country. It can involve establishing a separate company as a joint venture vehicle or an unincorporated joint venture governed by a written agreement.
- Foreign Trusts: Setting up a trust overseas can be used for international tax management and asset protection. Some countries, such as Australia and New Zealand, have trading trusts with tax advantages, but tax consequences in the home country should be considered.
- Global PEO Solution: A global Professional Employer Organization (PEO) solution involves using a specialized global expansion firm to employ staff in a foreign location. This can be a cost-effective alternative to establishing a foreign subsidiary.
These alternatives provide businesses with different approaches to international expansion, each with its own benefits and considerations. It is essential to assess the specific needs and circumstances of the business and seek professional advice to determine the most suitable alternative.
FAQs on Foreign Subsidiary
What Are the Characteristics of a Foreign Subsidiary?
Foreign subsidiaries have different characteristics depending on the jurisdiction, but one common requirement is that they must be majority-owned (at least 50%) by the parent company. These subsidiaries operate independently from their parent company and are subject to the local tax and labor laws of the host country.
What Is a Foreign Subsidiary Strategy?
A foreign subsidiary strategy involves a company establishing a legal entity in a foreign market to conduct business in that country. This strategy enables the parent company to expand globally while also providing protection from legal issues specific to the host country. The foreign subsidiary can promote the parent company's products or services to the local market, engage in import and export activities, and hire employees from the host country.
