# Conversion of Loan into Equity in an Indian Subsidiary (2026)

> Source: https://krystal7.com/insights/conversion-of-loan-into-equity-india-foreign-parent
> Publisher: Krystal7 Consultants (Krystal7 Innovations Private Limited), Gurugram, India
> Author: CA Nandini
> Published: 05 Jan 2026; updated 24 Oct 2026
> Summary: A foreign parent loan converts into equity under section 62(3) and the 2026 ECB rules at fair value, with Form FC-GPR due within 30 days of allotment.

*Written by CA Nandini Hasija, Krystal7 Consultants. Last updated 23 October 2026.*

## AI Overview Summary

- Section 62(3) of the Companies Act, 2013 lets a loan convert into shares without a fresh preferential issue, but only if a special resolution approved the conversion option before the loan was raised.
- Schedule I paragraph 13 of the Borrowing and Lending Regulations, in force from 16 Feb 2026, allows an ECB to convert into equity with lender consent, no extra cost and NDI Rules compliance.
- Shares issued on conversion must be priced at not less than fair value under rule 21 of the NDI Rules, using a valuation not older than 90 days on the date of issue.
- The ECB liability converts at the exchange rate on the date of the conversion agreement, or at any rate that gives a lower rupee liability than that date's rate.
- The company files Form FC-GPR within 30 days of allotment, Form ECB 2 within seven calendar days after month end, and deducts TDS on any interest before converting it.

**An Indian subsidiary converts its foreign parent's loan into equity under two laws at once. Section 62(3) of the Companies Act, 2013 avoids a fresh preferential issue only if a special resolution approved the conversion option before the loan. Under FEMA, Schedule I paragraph 13 of the Borrowing and Lending Regulations lets an ECB convert into shares priced at fair value or more. The company then files Form FC-GPR within 30 days and Form ECB 2 within seven days after month end.**

This page covers the Companies Act route and the ECB conversion conditions in force since 16 Feb 2026. It also covers payables, pre incorporation costs, pricing, filings, stamp duty and tax. Two worked examples show the arithmetic.

## How does conversion of loan into equity work for a foreign owned Indian company?

Conversion of loan into equity means the Indian company allots shares to its lender and the loan falls by the same amount. No money moves across the border. The Companies Act, 2013 decides the corporate route. FEMA decides whether the non resident lender may take the shares and at what price.

Most loans from a foreign parent are External Commercial Borrowings (ECBs). Any borrowing by an Indian company from a person resident outside India falls under the Foreign Exchange Management (Borrowing and Lending) Regulations, 2018. RBI rewrote their ECB part by notification FEMA 3(R)(5)/2026-RB of 9 Feb 2026. The Gazette published it on 16 Feb 2026. The new text sits in [Schedule I of the amended regulations](https://rbi.org.in/ScriptS/BS_FemaNotifications.aspx?Id=13306).

A parent can also hold other claims on its subsidiary. The common ones are unpaid invoices for goods or services, royalty, and costs it paid before the subsidiary existed. FEMA treats each of these differently, so we sort the parent's claims by type before we draft anything.

A loan from a foreign parent is not a deposit under the Companies Act. Rule 2(1)(c) of the Companies (Acceptance of Deposits) Rules, 2014 excludes money from foreign bodies corporate under FEMA. It also excludes money from another company. So the deposit rules do not block the loan or its conversion.

## What does section 62(3) of the Companies Act require?

Section 62(3) switches off the rights and preferential issue rules when a lender exercises a conversion option attached to a loan. The condition is strict. The company must approve the loan terms, including the option, by special resolution in general meeting before it raises the loan. A resolution passed later does not meet the test.

The [text of section 62](https://www.incometaxindia.gov.in/w/section-62-101) requires the loan terms "containing such option" to be approved before the loan is raised. The approval must be "by a special resolution passed by the company in general meeting". A special resolution needs votes in favour of at least three times the votes against (section 114(2)). The company files it with the Registrar in Form MGT-14 within 30 days (section 117).

We draft the conversion clause with FEMA in mind. FEMA prices the shares on the date of conversion, not on the date of the loan. So the clause should fix a formula, not a rupee price agreed years earlier. A workable formula is "fair value under rule 21 of the NDI Rules on the conversion date".

| Point | Section 62(3) conversion | Preferential allotment under section 62(1)(c) |
|---|---|---|
| When it applies | Loan terms carried a conversion option approved before the loan | No prior option, or the option was never approved by special resolution |
| Shareholder approval | Special resolution before the loan is raised | Special resolution before the allotment |
| Valuation under the Companies Act | Not required by section 62(3) itself | Registered valuer report (section 62(1)(c), rule 13) |
| Valuation under FEMA | Required (rule 21 of the NDI Rules) | Required (rule 21 of the NDI Rules) |
| Offer documents | None | Form PAS-4 and PAS-5 (section 42, rule 14) |
| Return of allotment | Form PAS-3 within 30 days (rule 12 of the PAS Rules) | Form PAS-3 within 15 days (section 42(8)) |

## What if the loan agreement had no conversion clause?

Without a prior approved option, the company issues the shares as a preferential allotment under section 62(1)(c), read with section 42. The shareholders pass a fresh special resolution. A registered valuer fixes the price. The company sends Form PAS-4, keeps Form PAS-5, and files Form PAS-3 within 15 days of allotment.

Rule 13 of the Companies (Share Capital and Debentures) Rules, 2014 lists what the explanatory statement must disclose. Section 42(6) requires allotment within 60 days of receipt of the application money. [Section 42](https://www.incometaxindia.gov.in/w/section-42-118) also requires subscription money through a bank channel and bars cash.

A conversion has no fresh money, because the subscription is set off against the loan. The loan itself came in through a bank channel, and that is how we document the set off. We keep the inward remittance certificate for the loan, the lender's request to convert and the board resolution approving the set off in one file. Some Registrar offices ask for them when they scrutinise Form PAS-3.

The preferential route takes longer than a section 62(3) conversion. So we pass the special resolution on the conversion option before the first drawdown of any parent loan. We do this even when nobody plans to convert.

## Can an ECB from the foreign parent be converted into equity?

Yes. Schedule I paragraph 13 of the Borrowing and Lending Regulations lets an ECB convert into a non debt instrument, even after it matures unpaid. The conversion must follow the NDI Rules and carry the lender's consent. It must cost the borrower nothing extra, and other ECB lenders must consent or be informed.

The conditions in paragraph 13 are:

1. The conversion follows the Foreign Exchange Management (Non Debt Instruments) Rules, 2019, so all sector, cap and pricing rules apply (paragraph 13(1)).
2. The lender charges no additional cost for allowing the conversion (paragraph 13(2)(a)).
3. The lender consents (paragraph 13(2)(b)).
4. Other lenders to the borrower consent, or at least exchange information about the conversion (paragraph 13(2)(c)).
5. Where the borrower also has credit from an RBI regulated entity, the prudential rules on restructuring apply (paragraph 13(3)).
6. The liability converts at the exchange rate on the conversion agreement date, or a rate giving no higher liability (paragraph 13(4)).

The minimum average maturity period of three years does not stop a conversion. Paragraph 6(4)(a) lists conversion into non debt instruments as an exception. So a parent can convert a one year old ECB.

"Non debt instrument" covers equity shares and fully and mandatorily convertible preference shares or debentures. Rule 2(k) of the NDI Rules treats these as equity instruments. An optionally convertible instrument is debt, so converting an ECB into one only replaces one ECB with another.

ECBs with an LRN issued before 16 Feb 2026 keep their original conditions, except for reporting (regulation 1(3) of the amending regulations). Those conditions sat in paragraph 7.4 of the [old ECB Master Direction](https://www.rbi.org.in/Scripts/BS_ViewMasDirections.aspx?id=11510). They were close to the new ones: automatic route or approval, sectoral cap, pricing guidelines, lender consent and no extra cost. [A.P. (DIR Series) Circular No. 22 of 16 Feb 2026](https://rbi.org.in/scripts/NotificationUser.aspx?Id=13305&Mode=0) deleted paragraphs 1 to 12 of that Master Direction. RBI keeps the deleted text in the footnotes of the Master Direction for reference.

For how the parent loan is set up in the first place, see our guide to [ECB from a foreign parent](/insights/ecb-loan-from-foreign-parent-india).

## How are the shares priced, and which exchange rate applies?

The shares cannot be issued below fair value. Rule 21 of the NDI Rules requires a valuation of an unlisted company under an internationally accepted method on an arm's length basis. A Chartered Accountant, a SEBI registered merchant banker or a practising cost accountant certifies it. The rupee loan amount comes from the exchange rate on the conversion agreement date.

The [Master Direction on Foreign Investment](https://www.rbi.org.in/scripts/bs_viewmasdirections.aspx?id=11200) adds a freshness test. Paragraph 8.11 says the valuation certificate must not be more than 90 days old on the date of the investment. For a conversion, the investment date is the allotment date. So a certificate dated in June does not support an allotment in late September.

The issue price can be above fair value. FEMA sets only a floor for an issue to a non resident. A higher price means fewer shares for the same loan, which the parent may accept to keep the cap table simple.

| Input | Rule | Source |
|---|---|---|
| Minimum issue price | Not less than fair value of the shares | Rule 21 of the NDI Rules |
| Who certifies fair value | Chartered Accountant, SEBI registered merchant banker or practising cost accountant | Rule 21(2)(a) of the NDI Rules |
| Age of the valuation | Not more than 90 days old on the date of issue | Paragraph 8.11, Master Direction on Foreign Investment |
| Exchange rate for the loan | Rate on the date of the conversion agreement, or any rate giving a lower liability | Schedule I paragraph 13(4), Borrowing and Lending Regulations |
| Companies Act valuation | Registered valuer, only on the preferential route | Section 62(1)(c) and rule 13 |
| Interest included in the conversion | Net of TDS | Paragraph 1.4.1(2), Annex 1, Master Direction on Foreign Investment |

For the methods and certificates, see [FEMA pricing guidelines for share issue and transfer](/insights/fema-pricing-guidelines-share-valuation).

## Can import payables, royalty or other dues be converted into equity?

Yes, if the money could have been remitted. Schedule I paragraph 1(e) of the NDI Rules lets an Indian company issue equity shares against funds payable to a person resident outside India. The remittance must be permitted under FEMA, or need no prior approval, or have RBI permission. Pricing and tax rules still apply.

Paragraph 1.4.1 of Annex 1 to the Master Direction on Foreign Investment adds two conditions. First, import dues that count as ECB, trade credit or payables for second hand machinery follow those specific rules. Second, the conversion is made net of applicable taxes. A royalty invoice of INR 10,00,000 with TDS of INR 1,00,000 converts at INR 9,00,000, not the gross amount.

Where RBI had to permit the remittance, the shares can be issued only after all regulatory action for any delay or contravention is complete. This is the proviso to paragraph 1(e) of Schedule I. So an old payable that breached a FEMA timeline goes to [compounding](/insights/fema-compounding-application-a-complete-guide-to-resolving-fema-contraventions-in-2026) first.

Paragraph 1(e) speaks of "equity shares". Paragraph 1(d), which covers swaps, imported capital goods and pre incorporation expenses, speaks of "equity instruments". Paragraph 1.4.1 of Annex 1 to the Master Direction also speaks of "equity shares (excluding partly paid shares)". On our reading, payables convert into fully paid equity shares only, while the paragraph 1(d) items can also convert into compulsorily convertible preference shares.

| Claim of the foreign parent | Can it convert? | Main condition | Rule |
|---|---|---|---|
| ECB principal, including matured and unpaid | Yes | Lender consent, no extra cost, NDI pricing | Schedule I para 13, Borrowing and Lending Regulations |
| ECB interest accrued | Yes, as funds payable | Net of TDS | Schedule I para 1(e), NDI Rules; Annex 1 para 1.4.1 |
| Import payables for goods | Yes | Trade credit rules apply where the dues are trade credit | Schedule I para 1(e); Annex 1 para 1.4.1(1) |
| Royalty, technical or service fees | Yes | Net of TDS | Schedule I para 1(e); Annex 1 para 1.4.1(2) |
| Imported capital goods (not second hand) | Yes | Independent third party valuation and customs documents | Schedule I para 1(d)(ii); Annex 1 para 1.4.4(c) |
| Pre incorporation or pre operative expenses | Yes, within limits | Auditor certificate, cap for the simplified route | Annex 1 paras 1.3.1 and 1.4.4(d) |
| Payable that needed RBI permission | Yes, after regulatory action | Compounding or late submission fee first | Proviso to Schedule I para 1(e) |

## Can pre incorporation expenses paid by the parent become share capital?

Yes. A wholly owned subsidiary in a 100 percent automatic route sector can issue equity instruments to its parent for pre incorporation expenses the parent paid. The cap is 5 percent of authorised capital or USD 500,000, whichever is lower. FC-GPR is due within one year of incorporation.

The conditions sit in paragraph 1.3.1 of Annex 1 to the Master Direction on Foreign Investment. The sector must have no FDI linked conditions. The company files Form FC-GPR within 30 days of the issue and not later than one year from incorporation. A statutory auditor's certificate goes with the FC-GPR, confirming the amount was used for its purpose.

Paragraph 1.3.2 lists what counts. It includes amounts remitted to the company's account or to the investor's account in India. It also includes payments to consultants, attorneys or other providers for incorporation or for starting operations.

Paragraph 1.4.4(d) gives a second route for pre operative expenses, including rent, without the 5 percent cap. The statutory auditor verifies and certifies the expenses. The overseas promoters submit the foreign inward remittance certificate (FIRC) for the money they sent. The money must have reached the company directly or through the investor's account permitted under FEMA. Where government approval applies, the capitalisation application goes in within 180 days of incorporation.

## Which filings follow a conversion, and when are they due?

A conversion triggers filings with RBI, the Registrar and the income tax department. The core FEMA filings are Form FC-GPR within 30 days of allotment and Form ECB 2 within seven days after month end. The Registrar gets Form PAS-3, and the tax department gets the TDS statement on any interest.

| Filing | Who files | Due date | Rule |
|---|---|---|---|
| Form MGT-14 for the special resolution | Company | 30 days from the resolution | Section 117(1), Companies Act, 2013 |
| Form SH-7, if authorised capital rises | Company | 30 days from the resolution | Section 64 |
| Form PAS-3 | Company | 30 days from allotment (section 62(3) route); 15 days (preferential route) | Rule 12 of the PAS Rules; section 42(8) |
| Form FC-GPR | Company | 30 days from the date of issue | Regulation 4(1), FEMA 395/2019-RB |
| Form ECB 2 | Borrower through the designated Authorised Dealer (AD) bank | Seven calendar days after the month ends | Schedule I para 16(1)(c) |
| TDS deposit on interest | Company | 7th of the next month (30 April for March) | Rule 218(2), Income Tax Rules, 2026 |
| Form 144 (old 27Q) | Company | Quarterly; 31 Oct for July to September | Rule 219 |
| Form 48 (old 3CEB) | Company | One month before the return due date | Section 172 and rule 85 |

Paragraph 16(1)(c) says any event that changes the outstanding borrowing under an LRN goes into Form ECB 2. A full conversion takes the outstanding to nil. The [FEMA 395 regulations](https://rbi.org.in/Scripts/NotificationUser.aspx?Id=11723&Mode=0) fix the FC-GPR clock in regulation 4(1). Late filings attract a late submission fee, and we cover the formula in [late submission fee for FEMA reporting](/insights/late-submission-fee-fema-reporting).

For the FC-GPR, the AD bank usually asks for the valuation certificate, board resolution and company secretary's certificate. It also asks for the loan's original remittance record. Our [FC-GPR filing guide](/insights/fc-gpr-filing-timeline-and-process-for-foreign-founders) lists the attachments. The [PAS-3 guide](/insights/pas-3-return-of-allotment-foreign-investors) covers the Registrar side.

## What is the stamp duty on shares issued on conversion?

Under the Indian Stamp Act, 1899 as amended from 1 Jul 2020, stamp duty on an issue of shares is 0.005 percent of the consideration. On a conversion, the consideration is the loan amount set off. A conversion of INR 18,07,87,200 attracts duty of about INR 9,039.

The Government explained the uniform rates in a [PIB release of 30 Jun 2020](https://pib.gov.in/PressReleasePage.aspx?PRID=1635399). On a demat issue, the depository collects the duty. Rule 9B of the Companies (Prospectus and Allotment of Securities) Rules, 2014 deals with demat issues. It requires every private company that is not a small company to issue securities only in demat form. A subsidiary of a foreign company cannot be a small company under section 2(85), so the parent's new shares go into its demat account.

## How is a loan to equity conversion taxed in India?

The conversion of principal is a capital transaction for the subsidiary and creates no income. The interest is different. The subsidiary deducts TDS on the interest under section 393(2) of the Income Tax Act, 2025 when it credits it. The rate is 20 percent under section 207, or a lower treaty rate.

The main tax points:

1. **Principal.** The subsidiary settles a liability by issuing shares. There is no remission of the loan, so no income arises. The angel tax in section 56(2)(viib) of the Income Tax Act, 1961 was omitted from AY 2025-26. The Income Tax Act, 2025 has no successor. A premium on the new shares is not taxed. See [angel tax abolished](/insights/angel-tax-abolished-foreign-investors).
2. **Interest.** [Section 393(2)](https://www.incometaxindia.gov.in/w/section-393-6) requires TDS at credit or payment, whichever is earlier. Serial 17 of its table covers interest and other sums to a non resident. [Section 207(1)](https://www.incometaxindia.gov.in/w/section-207-78), Table serial 3, taxes interest on foreign currency borrowings at 20 percent plus surcharge and cess. A treaty can cut this, for example to 15 percent under the India US treaty, with a tax residency certificate (TRC) and Form 41.
3. **Suspense credits.** Section 393(11) treats a credit to a suspense account as a credit to the payee. Booking accrued interest to a "conversion pending" ledger still triggers TDS.
4. **Disallowance.** If TDS is unpaid by the return due date, section 35(b)(ii) disallows the whole interest until the year of payment.
5. **Transfer pricing.** The loan and its interest are international transactions reported in Form 48 under section 172. Schedule I paragraph 9 of the Borrowing and Lending Regulations also requires a related party ECB to be at arm's length. On share issues, the Bombay High Court decided Vodafone India Services Private Limited v Union of India (Writ Petition No. 871 of 2014) on 10 Oct 2014. It held that an issue of shares at a premium to a non resident group company is on capital account. Such an issue gives rise to no income, so no transfer pricing adjustment arises. The Union Cabinet decided on 28 Jan 2015 not to appeal and to accept the ruling in similar cases. The [Prime Minister's Office release](https://www.pmindia.gov.in/en/news_updates/acceptance-of-the-order-of-the-high-court-of-bombay-in-the-case-of-vodafone-india-services-private-limited/) records the decision.
6. **The parent.** On our reading, the parent makes no gain when a loan converts at its book amount. The value it gives up equals the value of the shares. Its cost for the shares is the amount converted. Section 70(1)(z) of the Income Tax Act, 2025 says converting a company's debentures into its shares is not a transfer. A plain loan is not a debenture, though.

For the TDS mechanics on payments abroad, see [TDS on payments to non residents](/insights/tds-on-payments-to-non-residents).

## When does a conversion need government approval?

A conversion needs government approval when a fresh share issue to the same investor would need it. That covers sectors under the government route, issues above the automatic sectoral cap, and any investor from a country sharing a land border with India. The ECB rules add no separate RBI approval for a compliant conversion.

Paragraph 13(1) of Schedule I ties the conversion to the NDI Rules. So the usual FDI entry tests apply on the date of conversion. A parent from a land border country, or with beneficial owners there, needs approval under the proviso to rule 6(a) of the NDI Rules. We explain the scope in [Press Note 3 and land border FDI](/insights/press-note-3-fdi-land-border-countries).

Paragraph 1(d) of Schedule I, covering imported capital goods and pre incorporation expenses, adds that government approval is needed wherever it applies. For capital goods under the approval route, paragraph 1.4.4(c) of Annex 1 allows 180 days from shipment to apply.

A loan the parent advanced without an LRN is a contravention. The company regularises it before conversion, either by compounding or by the route RBI allows for the specific default. Converting first and fixing later leaves the FC-GPR exposed.

## Should the parent convert the loan, waive it or keep it?

The choice depends on cash, tax and the balance sheet. Conversion keeps the money in India and lifts net worth. A waiver also lifts net worth but raises a separate income tax question for the subsidiary. Keeping the loan lets the parent take money back as interest and repayment, subject to TDS and the ECB terms.

| Option | Cash effect | FEMA steps | Income tax effect |
|---|---|---|---|
| Convert to equity | None; future cash only by dividend, buy back or sale | FC-GPR, ECB 2, pricing certificate | No income on principal; TDS on interest converted |
| Waive the loan | None | ECB 2; MAMP does not apply to a waiver (para 6(4)(d)) | Remission of a liability needs separate review for the subsidiary |
| Keep and repay | Repayment and interest leave India | ECB 2 for each repayment; MAMP applies | Interest deductible if TDS paid; TDS on each credit |

On equity, a parent's later options to take cash out are dividend, buy back or sale. See [dividend from an Indian subsidiary](/insights/dividend-from-indian-subsidiary-to-foreign-parent) for the dividend route.

Where a kept loan is secured on the company's assets, our guide to [Form CHG-1 for registering charges](/insights/charge-creation-chg-1-loans-indian-company) covers the filing.

A parent that keeps the loan should also check the 30 percent EBITDA cap on interest, which our guide to [thin capitalisation in India](/insights/interest-limitation-thin-capitalisation-india) explains.

## What changed in 2026

The ECB conversion rules moved from the RBI Master Direction into the regulations on 16 Feb 2026. The Income Tax Act, 2025 replaced the 1961 Act from 1 Apr 2026. This page carries a publish date of 5 Jan 2026. Both changes came after that date, and the text states the law as on 23 Oct 2026.

| Old rule | New rule | Date | Instrument |
|---|---|---|---|
| ECB conversion conditions in paragraph 7.4 of the ECB Master Direction | Conditions in Schedule I paragraph 13 of the regulations | 16 Feb 2026 (Gazette) | FEMA 3(R)(5)/2026-RB of 9 Feb 2026 |
| Exchange rate on the agreement date or a lesser rate agreed with the lender | Rate on the agreement date or any rate that does not give a higher liability | 16 Feb 2026 | Schedule I paragraph 13(4) |
| Minimum maturity silent on conversion | Conversion into non debt instruments exempt from MAMP | 16 Feb 2026 | Schedule I paragraph 6(4)(a) |
| All in cost ceiling of benchmark plus 500 basis points | Cost in line with market; related party ECB at arm's length | 16 Feb 2026 | Schedule I paragraphs 7 and 9 |
| Form ECB 2 within seven working days of month end | Form ECB 2 within seven calendar days of month end | 16 Feb 2026 | Schedule I paragraph 16(1)(c) |
| Paragraphs 1 to 12 of the ECB Master Direction | Deleted | 16 Feb 2026 | A.P. (DIR Series) Circular No. 22 |
| TDS under section 195 and disallowance under section 40(a)(i), Income Tax Act, 1961 | Section 393(2) and section 35(b)(ii), Income Tax Act, 2025 | 1 Apr 2026 | Income Tax Act, 2025 |
| Interest rate for non residents under section 115A | Section 207(1), Table serial 3 | 1 Apr 2026 | Income Tax Act, 2025 |

## Worked example

**Scenario 1.** The parent converts an ECB and its accrued interest. A US parent owns 99.99 percent of an Indian IT services subsidiary, a Private Limited company. IT services allow 100 percent foreign investment under the automatic route. The figures below are illustrative, and the exchange rates are assumed.

1. On 1 Apr 2026 the shareholders pass a special resolution approving loan terms with a conversion option. The company files MGT-14 by 1 May 2026.
2. The company gets an LRN and draws USD 2,000,000 on 22 Apr 2026 at 8 percent a year. Interest is payable on maturity or conversion.
3. On 15 Sep 2026 the parties sign a conversion agreement. Interest for 146 days is USD 2,000,000 × 8 percent × 146 ÷ 365 = USD 64,000.
4. The company credits the interest on 15 Sep 2026. It deducts TDS at the India US treaty rate of 15 percent (USD 9,600), with the parent's TRC and Form 41 on file. It deposits the TDS by 7 Oct 2026.
5. A Chartered Accountant certifies fair value of INR 1,087.50 per share on 10 Sep 2026. The board fixes the issue price at INR 1,100 (face value INR 10, premium INR 1,090).
6. The board allots the shares on 30 Sep 2026, inside the 90 day life of the certificate.

| Item | USD | Rate (INR per USD, assumed) | INR |
|---|---|---|---|
| Principal converted | 2,000,000 | 88.00 (agreement date) | 17,60,00,000 |
| Interest accrued | 64,000 | | |
| Less TDS at 15 percent | 9,600 | 88.00 | 8,44,800 (deposited) |
| Net interest converted | 54,400 | 88.00 | 47,87,200 |
| Total consideration for shares | | | 18,07,87,200 |
| Shares at INR 1,100 each | | | 1,64,352 shares |
| Share capital at INR 10 face value | | | 16,43,520 |
| Securities premium | | | 17,91,43,680 |
| Stamp duty at 0.005 percent | | | 9,039 (rounded) |

The principal alone buys 17,60,00,000 ÷ 1,100 = 1,60,000 shares. The net interest buys 47,87,200 ÷ 1,100 = 4,352 shares. The total is 1,64,352 shares.

Suppose the rate on the allotment date is INR 88.60. Using it would raise the principal to INR 17,72,00,000, a liability INR 12,00,000 higher. Paragraph 13(4) does not allow a rate that gives a higher liability than the agreement date rate. So the company stays at INR 88.00, or a lower rate if the parent agrees.

The filing dates follow from the 30 Sep 2026 allotment. Form ECB 2 for September is due by 7 Oct 2026. Form PAS-3 and Form FC-GPR are due by 30 Oct 2026. Form 144 for July to September, which reports the TDS on the interest, is due by 31 Oct 2026.

**Scenario 2.** The parent capitalises pre incorporation costs. A US parent pays INR 7,20,000 of incorporation costs for a new wholly owned subsidiary. The subsidiary is incorporated on 2 Feb 2026 with authorised capital of INR 1,00,00,000. The sector is 100 percent automatic with no FDI linked conditions.

| Step | Working | INR |
|---|---|---|
| Expenses paid by the parent | Consultant, filing and attorney fees | 7,20,000 |
| Cap A: 5 percent of authorised capital | 1,00,00,000 × 5 percent | 5,00,000 |
| Cap B: USD 500,000 at INR 88.00 (assumed) | USD 500,000 × 88 | 4,40,00,000 |
| Amount capitalised under para 1.3.1 | Lower of the caps, limited to the expenses | 5,00,000 |
| Shares issued at fair value of INR 10 | 5,00,000 ÷ 10 | 50,000 shares |
| Balance not capitalised | 7,20,000 minus 5,00,000 | 2,20,000 |

The company files FC-GPR within 30 days of the issue, with the statutory auditor's certificate, and in any case by 2 Feb 2027. The company can reimburse the INR 2,20,000 balance to the parent. It can capitalise it under paragraph 1.4.4(d) only if the parent remitted the money into India and holds the FIRC.

## Common mistakes

1. **Passing the special resolution after the loan.** Section 62(3) needs approval before the loan is raised. Fix: pass it before the first drawdown on every parent loan, or use the preferential route.
2. **Fixing a rupee conversion price in the loan agreement.** FEMA prices the shares on the conversion date. Fix: write a fair value formula into the clause.
3. **Using a stale valuation.** A certificate older than 90 days on the allotment date fails paragraph 8.11. Fix: time the valuation to the board meeting that allots the shares.
4. **Converting gross interest.** The conversion must be net of applicable taxes. Fix: deduct TDS on the credit, deposit it by the 7th, and convert the net amount.
5. **Using the allotment date exchange rate when it is higher.** Paragraph 13(4) caps the liability at the agreement date rate. Fix: record the rate in the conversion agreement.
6. **Skipping the ECB 2 for the month of conversion.** Any change to the outstanding goes into Form ECB 2. Fix: file it within seven calendar days of month end, even when the loan goes to nil.
7. **Converting a loan that never had an LRN.** That loan is a contravention. Fix: regularise it with RBI before allotting shares.
8. **Ignoring the land border test.** Conversion is fresh FDI. Fix: check the parent's beneficial owners under rule 6(a) before you sign the conversion agreement.
9. **Forgetting authorised capital.** The allotment cannot exceed authorised capital. Fix: increase it under section 61 and file SH-7 first. Our [increase in authorised capital](/services/increase-authorized-capital.html) service covers this.

To plan a conversion with the loan file, see our [FEMA compliance service](/services/fema-compliances.html).

## Checklist

1. Collect the loan agreement, LRN letter, drawdown records, ECB 2 history and interest ledger.
2. Confirm whether a special resolution approved the conversion option before the loan was raised.
3. Check the sector, the automatic route cap and the land border status of the parent's owners.
4. Get the lender's written consent and inform any other ECB lenders.
5. Compute the interest to the conversion date, deduct TDS and deposit it by the 7th of the next month.
6. Sign the conversion agreement and record the exchange rate of that date.
7. Obtain a fair value certificate under rule 21 dated within 90 days of the planned allotment.
8. Increase authorised capital and file SH-7 if the new shares need room.
9. Pass the board resolution allotting the shares and credit them to the parent's demat account.
10. File Form PAS-3, Form FC-GPR and Form ECB 2 within their deadlines.
11. Report the loan, interest and conversion in Form 48 for the tax year.

## Key terms

- **External Commercial Borrowing (ECB)**: An ECB is a borrowing by an eligible Indian borrower from a recognised lender resident outside India, governed by the Foreign Exchange Management (Borrowing and Lending) Regulations as amended in 2026. A foreign parent can be a recognised lender. The loan needs a Loan Registration Number before drawdown and monthly reporting in Form ECB 2. (https://krystal7.com/glossary#external-commercial-borrowing)
- **Loan Registration Number (LRN)**: An LRN is the number allotted to an external commercial borrowing through the borrower's AD bank before drawdown, under the FEMA borrowing and lending regulations. It identifies the loan in all later reporting. A parent loan drawn without one is a FEMA gap to fix through the AD bank or RBI compounding. (https://krystal7.com/glossary#loan-registration-number)
- **Form ECB 2**: The return that reports the receipt of ECB proceeds and each debt servicing payment. The borrower files it through its AD bank within seven calendar days after the month end under paragraph 16 of Schedule I. A late return pays a late submission fee under RBI Circular No. 16 of 2022, as changed in 2026. (https://krystal7.com/glossary#form-ecb-2)
- **Form FC-GPR**: The report an Indian company files with the Reserve Bank of India on the FIRMS portal after issuing equity instruments to a person resident outside India. Regulation 4(1) of FEMA 395/2019-RB requires it within 30 days of the issue. The shares must be issued within 60 days of receiving the money, or the money is refunded within 15 days after. (https://krystal7.com/glossary#form-fc-gpr)
- **Section 62(3) conversion option**: A clause in a loan or debenture agreement that lets the lender convert the debt into shares. Section 62(3) of the Companies Act, 2013 exempts such a conversion from the rights and preferential issue rules if a special resolution approved the terms before the loan was raised. (https://krystal7.com/glossary#section-62-3-conversion-option)
- **Pricing guidelines (FEMA)**: Rule 21 of the Foreign Exchange Management (Non Debt Instruments) Rules, 2019 sets the price floor and ceiling for unlisted shares. A resident selling to a non resident must receive at least fair value. A non resident selling to a resident may receive at most fair value, certified by a Chartered Accountant, SEBI registered merchant banker or practising cost accountant. (https://krystal7.com/glossary#pricing-guidelines)
- **Minimum Average Maturity Period (MAMP)**: The shortest average life an ECB must have. Schedule I paragraph 6 of the Borrowing and Lending Regulations sets it at three years, with a one to three year option for manufacturing borrowers up to USD 150 million. Paragraph 6(4) lifts it for a conversion into non debt instruments, a waiver by the lender and some other exits. (https://krystal7.com/glossary#minimum-average-maturity-period)

## Frequently Asked Questions

### Can a foreign parent convert its loan into equity of an Indian subsidiary?

Yes. The Indian subsidiary issues shares and the loan reduces by the same amount. For an ECB, Schedule I paragraph 13 of the Borrowing and Lending Regulations needs lender consent, no extra cost and NDI Rules compliance. The company files Form FC-GPR within 30 days of allotment and Form ECB 2 within seven calendar days after month end.

### Is a special resolution needed for conversion of loan into equity?

Yes. Section 62(3) of the Companies Act, 2013 exempts the conversion from the preferential issue rules on one condition. A special resolution must have approved the conversion option before the loan was raised. If no such resolution exists, the company passes a fresh special resolution for a preferential allotment under section 62(1)(c) and section 42.

### Can a loan be converted into equity if the agreement had no conversion clause?

Yes, through a preferential allotment under section 62(1)(c) read with section 42 of the Companies Act, 2013. The company needs a special resolution, a registered valuer report and Forms PAS-4 and PAS-5. It files Form PAS-3 within 15 days of allotment. FEMA pricing under rule 21 of the NDI Rules still applies to the issue price.

### Does RBI approval apply to converting an ECB into equity?

No separate RBI approval is needed if the conversion meets Schedule I paragraph 13 of the Borrowing and Lending Regulations and the NDI Rules. Government approval is needed for an approval route sector or an issue above the cap. It is also needed where the parent's owners are in a land border country.

### Which exchange rate applies when an ECB converts into shares?

Schedule I paragraph 13(4) of the Borrowing and Lending Regulations uses the exchange rate on the date of the conversion agreement. The parties can use another rate only if it does not produce a higher rupee liability than that date's rate. The fair value of the shares is tested on the date of issue under rule 21 of the NDI Rules.

### Can an ECB be converted before the three year minimum maturity?

Yes. Schedule I paragraph 6(4)(a) of the Borrowing and Lending Regulations exempts a conversion into non debt instruments from the minimum average maturity period. A parent can therefore convert an ECB at any time, subject to its consent, NDI pricing and Form ECB 2 reporting.

### How is the ECB conversion reported in Form ECB 2?

The borrower reports it through its designated AD bank in Form ECB 2 for the month of conversion. The return is due within seven calendar days after that month ends. Schedule I paragraph 16(1)(c) requires any event that changes the outstanding borrowing under the LRN to be reported. The shares go separately into Form FC-GPR within 30 days.

### Can import payables be converted into equity shares?

Yes. Schedule I paragraph 1(e) of the NDI Rules allows equity shares against funds payable to a non resident, where the remittance is permitted. Import dues that count as trade credit follow the trade credit rules. Paragraph 1.4.1 of Annex 1 to the Master Direction on Foreign Investment makes the conversion net of taxes.

### Can royalty or service fees owed to the parent become share capital?

Yes, under Schedule I paragraph 1(e) of the NDI Rules, because royalty and service fees are remittable current account payments. The company first deducts TDS under section 393(2) of the Income Tax Act, 2025 and converts only the net amount. The shares are priced at not less than fair value and reported in Form FC-GPR within 30 days.

### What is the limit for converting pre incorporation expenses into equity?

Paragraph 1.3.1 of Annex 1 to the Master Direction on Foreign Investment covers a wholly owned subsidiary in a 100 percent automatic sector. It can capitalise its parent's pre incorporation expenses up to 5 percent of authorised capital or USD 500,000, whichever is lower. FC-GPR, with a statutory auditor's certificate, is due within one year of incorporation.

### Is TDS payable on interest that is converted into equity?

Yes. Section 393(2) of the Income Tax Act, 2025 requires TDS when the interest is credited or paid, whichever is earlier. Section 393(11) treats a suspense account credit as a credit to the payee. The rate is 20 percent under section 207(1) for foreign currency loans, or the treaty rate with a tax residency certificate.

### Is a premium on shares issued to the foreign parent taxed in India?

No. Section 56(2)(viib) of the Income Tax Act, 1961, which taxed share premium above fair market value, was omitted from AY 2025-26. The Income Tax Act, 2025 has no successor. FEMA still sets a floor price under rule 21 of the NDI Rules, so the issue price must be at least fair value.

### What stamp duty applies on shares issued on conversion of a loan?

Stamp duty is 0.005 percent of the consideration under the Indian Stamp Act, 1899 as amended from 1 Jul 2020. For a conversion, the consideration is the loan amount set off against the shares. The depository collects the duty on a demat issue, which rule 9B of the PAS Rules makes mandatory for a foreign owned subsidiary.

### Can an ECB convert into compulsorily convertible preference shares?

Yes. Schedule I paragraph 13 allows conversion into any non debt instrument. Rule 2(k) of the NDI Rules treats fully and mandatorily convertible preference shares as equity instruments. The conversion price or formula must be fixed upfront at not less than fair value. Optionally convertible instruments are debt and do not qualify.

### What happens if the loan from the parent never got an LRN?

A loan drawn without an LRN breaches Schedule I paragraph 10 of the Borrowing and Lending Regulations. The company regularises the default with RBI, usually through compounding, before it converts. Converting first leaves the FC-GPR open to rejection and does not cure the original contravention.

## Sources

- Reserve Bank of India, Foreign Exchange Management (Borrowing and Lending) (First Amendment) Regulations, 2026, FEMA 3(R)(5)/2026-RB, 9 Feb 2026 (Gazette 16 Feb 2026), https://rbi.org.in/ScriptS/BS_FemaNotifications.aspx?Id=13306
- Reserve Bank of India, A.P. (DIR Series) Circular No. 22, RBI/2025-26/221, 16 Feb 2026, https://rbi.org.in/scripts/NotificationUser.aspx?Id=13305&Mode=0
- Reserve Bank of India, Master Direction on External Commercial Borrowings, Trade Credits and Structured Obligations, updated 8 Sep 2026, https://www.rbi.org.in/Scripts/BS_ViewMasDirections.aspx?id=11510
- Reserve Bank of India, Foreign Exchange Management (Non Debt Instruments) Rules, 2019, updated up to 2 Sep 2026, https://rbi.org.in/scripts/bs_viewcontent.aspx?Id=5083
- Reserve Bank of India, Master Direction on Foreign Investment in India, updated up to 15 Jun 2026, https://www.rbi.org.in/scripts/bs_viewmasdirections.aspx?id=11200
- Reserve Bank of India, Foreign Exchange Management (Mode of Payment and Reporting of Non Debt Instruments) Regulations, 2019, amended up to 13 Jun 2026, https://rbi.org.in/Scripts/NotificationUser.aspx?Id=11723&Mode=0
- Income Tax Department, Companies Act, 2013, section 62, https://www.incometaxindia.gov.in/w/section-62-101
- Income Tax Department, Companies Act, 2013, section 42, https://www.incometaxindia.gov.in/w/section-42-118
- Income Tax Department, Income Tax Act, 2025, section 393, https://www.incometaxindia.gov.in/w/section-393-6
- Income Tax Department, Income Tax Act, 2025, section 207, https://www.incometaxindia.gov.in/w/section-207-78
- Income Tax Department, Income Tax Act, 2025, section 70, https://www.incometaxindia.gov.in/w/section-70-127
- Press Information Bureau, Stamp duty on securities from 1 July 2020, 30 Jun 2020, https://pib.gov.in/PressReleasePage.aspx?PRID=1635399
- Prime Minister's Office, Acceptance of the order of the High Court of Bombay in the case of Vodafone India Services Private Limited (Writ Petition No. 871 of 2014, order of 10 Oct 2014), 28 Jan 2015, https://www.pmindia.gov.in/en/news_updates/acceptance-of-the-order-of-the-high-court-of-bombay-in-the-case-of-vodafone-india-services-private-limited/
- Ministry of Corporate Affairs, Rules under the Companies Act, 2013 (Share Capital and Debentures Rules, PAS Rules, Acceptance of Deposits Rules), https://www.mca.gov.in/content/mca/global/en/acts-rules/ebooks/rules.html

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