FDI in India: Automatic vs Government Route, Sectoral Caps, Prohibited Sectors & the 2026 Press Note 3 Relaxation

Over 90% of FDI into India comes through the automatic route — no approval, just reporting. The compliance risk is not in getting permission. It is in knowing when you needed it and didn't ask.

Automatic route = no prior approval, report after. Government route = prior approval from the administrative ministry through the National Single Window System. Some sectors are closed entirely.

Foreign Direct Investment into India is governed by the Foreign Exchange Management (Non-Debt Instruments) Rules, 2019, read with the Consolidated FDI Policy Circular of 2020 and the stream of DPIIT press notes that amend it. The framework asks three questions in sequence: Is the sector open at all? Up to what percentage? And does it need prior approval?

Two developments have reshaped the map recently. Insurance moved to 100% FDI under the automatic route effective 5 February 2026, following the Sabka Bima Sabki Raksha (Amendment of Insurance Laws) Act, 2025. And Press Note 2 (2026 Series), issued 15 March 2026, finally softened the blanket Press Note 3 (2020) restriction on investors from land-bordering countries — introducing a 10% beneficial-ownership safe harbour.

BOTTOM LINE

• Automatic route: most sectors, up to 100% — no prior approval, but mandatory reporting (FC-GPR in 30 days).
• Government route: prior approval needed — includes multi-brand retail, print media, satellites, and any investment above sectoral caps or from restricted sources.
• Prohibited outright: lottery, gambling and betting, chit funds, Nidhi companies, TDR trading, real estate business/farm houses, tobacco manufacturing, and atomic energy/railway operations not opened to the private sector.
• 2026 changes: insurance at 100% automatic (LIC stays at 20%); Press Note 2 (2026) allows LBC investments up to 10% beneficial ownership without control under the automatic route, with DPIIT reporting.

The three-question test

Governs this section: Rule 6 & Schedule I, NDI Rules, 2019; Consolidated FDI Policy

Question 1 — Is the sector prohibited? Schedule I of the NDI Rules lists sectors where FDI is not permitted at all: lottery business (including government/private lotteries and online lotteries), gambling and betting (including casinos), chit funds, Nidhi companies, trading in Transferable Development Rights, real estate business or construction of farm houses, manufacturing of cigars, cheroots, cigarillos and cigarettes of tobacco, and sectors not open to private investment such as atomic energy and certain railway operations. Note the carve-out: "real estate business" excludes development of townships, construction of residential/commercial premises, roads, bridges and REITs — those are open to 100% FDI under the automatic route.

Question 2 — What is the cap? Sectoral caps are the ceiling on total foreign investment. They are calculated on a fully diluted basis — counting not just shares issued today, but every share that could come into existence if all options and convertible instruments were exercised.

Question 3 — Which route? Automatic (report after) or Government (approve first).

The sectoral map — where things stand

Governs this section: Schedule I, NDI Rules, 2019 as amended by DPIIT press notes

100% automatic route: manufacturing (greenfield), agriculture and plantation (specified activities), mining and exploration of metal and non-metal ores, coal and lignite, petroleum refining by private companies, e-commerce marketplace models, single-brand retail trading, construction-development projects, greenfield and brownfield airports, railways infrastructure, asset reconstruction companies, credit information companies, and now insurance and insurance intermediaries.

Automatic up to a cap, Government beyond:

Caps and conditions change through press notes — always confirm against the live Consolidated FDI Policy before structuring.

CAUTION — conditions travel with the cap

A sectoral cap is a ceiling, not a licence. Single-brand retail carries local-sourcing conditions; e-commerce permits the marketplace model but prohibits the inventory-based model for foreign-invested entities; defence requires infrastructure and security clearances; insurance now requires that at least one of the chairperson, MD or CEO be a resident Indian citizen, and pricing must follow RBI guidelines. Meeting the percentage while breaching the conditions is still a contravention.

Press Note 3 (2020) and its 2026 relaxation

Governs this section: Para 3.1.1, Consolidated FDI Policy; Press Note 3 (2020) as amended by Press Note 2 (2026)

Press Note 3 of 2020, issued 17 April 2020, required prior Government approval for any investment from an entity or citizen of a country sharing a land border with India — China (including Hong Kong and Macau), Pakistan, Bangladesh, Nepal, Bhutan, Myanmar and Afghanistan — and for any transfer of ownership that resulted in beneficial ownership falling within an LBC. Because "beneficial ownership" was undefined, even a fractional LBC interest in a global fund could freeze an entire round. Between April 2020 and April 2024, of 526 proposals filed, roughly 124 were approved, 201 rejected and around 200 left pending — some for years.

Press Note 2 (2026 Series), issued 15 March 2026 (following Cabinet approval on 10 March 2026), recalibrates this:

1. A 10% safe harbour — LBC investments up to 10% beneficial ownership, without control, may proceed under the automatic route, subject to sectoral caps and conditions, with mandatory reporting to DPIIT.
2. "Beneficial owner" is now defined by reference to the Prevention of Money-Laundering (Maintenance of Records) Rules, 2005 — ending years of interpretive guesswork.
3. Control at any shareholding, or beneficial ownership above 10%, still requires prior Government approval.
4. Expedited 60-day processing for LBC proposals in specified sectors — capital goods, electronic capital goods, electronic components, polysilicon and ingot-wafer.
5. Pakistan and Bangladesh remain fully restricted — no relaxation.

PRACTITIONER'S NOTE

Press Note 2 (2026) takes effect only from the date the corresponding amendment to the NDI Rules, 2019 is notified, and DPIIT's revised Standard Operating Procedure for the reporting format was still awaited at the time of writing. Do not close an LBC-adjacent round on the press note alone — confirm the NDI Rules amendment is in force and the SOP published.

Entry instruments and pricing

Governs this section: Rules 2, 21 & 23, NDI Rules, 2019

FDI may come only through equity instruments: equity shares, fully and compulsorily convertible preference shares and debentures, share warrants and, in specified cases, convertible notes issued by startups. Optionally convertible or redeemable instruments are treated as debt (ECB), not FDI — a structuring error that converts a clean equity round into an unreported borrowing.

Pricing guidelines (Rule 21) are non-negotiable and directional:

• Issue or transfer to a non-resident: price must be not less than fair value.
• Transfer from a non-resident to a resident: price must be not more than fair value.

Fair value is determined by an internationally accepted pricing methodology on an arm's-length basis, certified by a SEBI-registered merchant banker, practising Chartered Accountant or cost accountant (for listed companies, SEBI guidelines apply). The principle: a non-resident may not be favoured on either leg.

Worked example

Mini-case — the fund with a 4% Chinese LP

A Singapore-domiciled venture fund wants to lead a ₹120 crore Series B into an Indian SaaS company. One of its limited partners is a Chinese entity holding 4% of the fund's corpus, with no board seat or veto. Pre-March 2026, this was the classic PN3 freeze: an LBC beneficial owner of any size arguably triggered the Government route, and the round would have waited months for an approval that might never come. Post-Press Note 2 (2026), beneficial ownership is tested against the PMLA Rules definition, the LBC interest is under 10%, and the LP exercises no control — so the investment proceeds under the automatic route, with reporting to DPIIT per the SOP, plus the usual Rule 21 valuation and FC-GPR within 30 days of allotment. The deal closes in weeks, not quarters. Had the Chinese LP held 12%, or held a veto over the fund's India decisions, prior Government approval would still be mandatory.

Common mistakes

1. Structuring with optionally convertible instruments. Only fully and compulsorily convertible instruments qualify as FDI; anything else is ECB, with its own eligibility, end-use and reporting regime.
2. Assuming "real estate is prohibited". Township and construction-development projects allow 100% automatic FDI; only real estate business, farm houses and TDR trading are barred.
3. Counting only shares issued today, instead of also counting shares that options and convertibles could create (the fully diluted basis).
4. Running an inventory-based e-commerce model with foreign investment — permitted only in the marketplace model.
5. Ignoring indirect foreign investment. Downstream investment by a foreign-owned or controlled Indian company carries the same caps, conditions and pricing rules, plus Form DI reporting.
6. Treating Press Note 2 (2026) as already operative without confirming the NDI Rules amendment and DPIIT SOP.
7. Getting the valuation direction wrong — the floor applies on issue to non-residents, the ceiling on transfer to residents.

Checklist

1. Confirm the sector is not in the prohibited list (Schedule I, NDI Rules).
2. Identify the sectoral cap and compute existing foreign holding on a fully diluted basis.
3. Determine the route — automatic or Government (National Single Window System for approvals).
4. Run the LBC/beneficial-ownership test under the PMLA Rules definition; apply the 10%/no-control safe harbour and DPIIT reporting.
5. Verify the instrument qualifies as an equity instrument.
6. Obtain a Rule 21-compliant valuation certificate before allotment.
7. Check sector-specific conditions — local sourcing, security clearance, resident-Indian officer, IRDAI/RBI/TRAI approvals.
8. File FC-GPR within 30 days of allotment; Form DI within 30 days for downstream investment.

FAQ

Is 100% FDI now allowed in insurance? Yes — 100% under the automatic route effective 5 February 2026, subject to IRDAI clearance and governance conditions. Foreign investment in LIC remains capped at 20%.

Does Press Note 3 still apply to Chinese investors? Yes, but narrowed. Since Press Note 2 (2026), up to 10% beneficial ownership without control is permitted under the automatic route with DPIIT reporting; control or over 10% still needs prior approval. Pakistan and Bangladesh face no relaxation.

What happens if I invest under the automatic route in a sector needing approval? It is a contravention of Rule 6 of the NDI Rules and Section 6 of FEMA — exposing you to Section 13 penalties, though it may be curable through post-facto approval and compounding.

Can FDI come as a loan? No. FDI must be through equity instruments; debt funding follows the ECB framework with separate eligibility and reporting.

Is a valuation certificate always required? For unlisted companies, yes — pricing must comply with Rule 21 on both issue and transfer, certified by an authorised valuer.

Does downstream investment need separate compliance? Yes. Indirect foreign investment by a foreign-owned or controlled Indian entity attracts the same caps and conditions, plus Form DI reporting within 30 days.

Primary sources

• Foreign Exchange Management (Non-Debt Instruments) Rules, 2019 — Rules 2, 6, 21, 23 & Schedule I
• Consolidated FDI Policy Circular of 2020 dated 15 October 2020, as amended
• Press Note 3 (2020 Series) dated 17 April 2020; Press Note 2 (2026 Series) dated 15 March 2026; PIB Press Release dated 10 March 2026
• Press Note 1 (2026 Series) — insurance sector; Sabka Bima Sabki Raksha (Amendment of Insurance Laws) Act, 2025
• Prevention of Money-Laundering (Maintenance of Records) Rules, 2005 — beneficial owner definition

Disclaimer: This article is general information on a fast-changing area of exchange-control law, current at the time of writing. Sectoral caps, routes and press notes change frequently, and some 2026 amendments take effect only on notification of the corresponding NDI Rules changes. This is not legal advice — verify the live position with DPIIT and RBI and consult counsel before structuring an investment.