Structuring Royalties and Brand Licensing Deals Within Group Companies Under FEMA

Introduction

In today’s global business environment, structuring royalties and brand licensing under FEMA is crucial for group companies in India. Compliance with the Foreign Exchange Management Act (FEMA) requires careful navigation of foreign exchange rules, transfer pricing norms, and tax laws. This article explains key legal and compliance aspects for managing royalties and brand licensing under FEMA in intra-group settings. Group companies must not only adhere to the rules for foreign exchange transactions but also follow strict transfer pricing, tax, and disclosure requirements. Understanding this legal framework is essential for designing deals that are both efficient and compliant.

Key Regulatory Framework: FEMA and Brand Licensing

The legal framework for royalties and brand licensing under FEMA dictates how foreign exchange transactions involving intellectual property must be conducted. Payments for brand use and royalties within group companies are categorized as current account transactions. These are generally allowed through the automatic route, which means companies do not need prior RBI approval. However, all such transactions must comply with Reserve Bank of India (RBI) guidelines on limits and permissible conditions to avoid scrutiny or penalties. This is particularly important when the parties involved are related companies, as authorities monitor such flows to prevent illegal capital outflow or tax avoidance.

Legal and Structural Considerations

1. Defining Brand Usage and Royalty Payments

In the context of royalties and brand licensing under FEMA, it is important for group companies to provide clear definitions in their agreements. Royalty payments typically cover the use of trademarks, brands, patents, or intellectual property. Companies must spell out the scope of the licensing arrangement in detail. This includes specifying which markets (territories) the royalty applies to, the duration of rights, any exclusive use conditions, and any limitations or performance criteria. A well-drafted licensing agreement not only ensures compliance with FEMA but also aids in satisfying transfer pricing and tax documentation requirements.

2. Arm’s Length Pricing and Transfer Pricing

Under royalties and brand licensing under FEMA, every agreement must meet the arm’s length standard prescribed by Indian transfer pricing rules. This standard demands that the price or royalty rate be consistent with those charged between independent parties for similar transactions. Methods such as the Comparable Uncontrolled Price (CUP) and benchmarking studies are widely used to justify these rates. Documenting the rationale and the pricing method is essential, as Indian tax authorities can challenge any arrangement they feel does not reflect fair value. Transfer pricing documentation is a company’s main defense for supporting its position in the event of an audit.

3. FEMA Limits and Government Oversight

Historically, there were strict caps on royalties and brand licensing under FEMA payments. While many of these limits were relaxed to promote foreign investment and technology transfer, the RBI still closely monitors large transactions. Companies must ensure all royalty and brand licensing arrangements fully comply with the automatic route requirements. If agreements breach the approved limits or conditions, they may face penalties, reversal of transactions, or even legal consequences. Conducting a thorough legal and regulatory review before finalizing any deal is essential to avoid regulatory pitfalls.

4. Listing Regulations and Related Party Transactions

For listed companies, royalties and brand licensing are treated as related party transactions. As per the Securities and Exchange Board of India (SEBI) regulations, any such transaction that crosses certain value thresholds must be disclosed to shareholders and approved by them. The rationale, terms, and nature of the arrangement must be reported clearly in public disclosures, ensuring minority shareholder protection and transparency. Timely approvals and robust documentation are critical to prevent non-compliance and avoid potential penalties from SEBI.

Taxation, GST, and Notional Value

For royalties and brand licensing, related party transactions must be valued at arm’s length for Goods and Services Tax (GST) purposes, even if there is no actual cash payment (notional value). This means companies might need to pay GST based on the open market value of the transaction. The eligibility for input tax credit on GST paid for royalties should be carefully assessed to ensure tax efficiency. Furthermore, the Income Tax Act reviews these payments to prevent excessive or artificially structured royalty arrangements that could reduce the Indian tax base. Companies should ensure that all elements of the transaction such as value, purpose, and benefit are clearly justified.

Best Practices for Structuring Intra-Group Royalty & Brand Licensing Deals

To structure royalties and brand licensing under FEMA successfully, companies should focus on creating clear, comprehensive agreements. These contracts should define the intellectual property involved, royalty rates, payment schedules, and business rationale in detail. Transfer pricing benchmarks and independent studies should support the selected royalty rate to demonstrate arm’s length nature. Regular compliance checks and reporting are essential, especially for listed entities, which must also seek shareholder approval for material transactions. Maintaining an effective compliance calendar and internal documentation ensures that companies can meet audit or regulatory inquiries efficiently. Regularly consulting legal, tax, and valuation experts helps to keep agreements up to date with changing laws and best practices.

Advanced Considerations in Royalties and Brand Licensing Under FEMA

Intangible asset valuation is a complex part of royalties and brand licensing under FEMA. Valuing intellectual property requires specialized expertise in IP law, market analysis, and financial modeling. Agreements should clearly distribute risks such as technology obsolescence, third-party infringement, or performance milestones. How these risks are assigned can influence pricing and regulatory compliance. For transactions with foreign affiliates, understanding how cross-border tax treaties and withholding tax provisions apply is critical. Proper documentation and structuring often reduce withholding tax rates and ensure that companies can claim beneficial treaty rates. As RBI, the Central Board of Direct Taxes (CBDT), and SEBI regularly update their rules, staying aware of policy developments is vital for ongoing compliance and risk management.

Conclusion

Managing royalties and brand licensing under FEMA requires in-depth knowledge of foreign exchange laws, tax rules, and good governance. Proper structuring, clear documentation, and transparent disclosure maximize business value and minimize compliance risks. By following best practices and closely monitoring regulatory changes, group companies can structure their royalty and brand licensing deals with confidence and compliance, ensuring sustained growth and minimized disputes.

If you need expert guidance on structuring royalties and brand licensing under FEMA or assistance with compliance, transfer pricing, and tax planning, contact our team of specialists today. Ensure your intra-group agreements are fully compliant and optimized for business growth. Get in touch now to schedule a consultation!