Masala Bonds Case: Kerala High Court stays FEMA proceedings by ED against KIIFB

The Kerala High Court on Tuesday stayed a show cause notice issued by the Enforcement Directorate (ED) to the Kerala Infrastructure Investment Fund Board under the Foreign Exchange Management Act (FEMA) of 1999. [Kerala Infrastructure Investment Fund Board v. The Director & Ors.]

The ED had issued notice proposing adjudication proceedings under FEMA.

Justice VG Arun passed the interim order staying the notice and all proposed proceedings for a period of three months.

The Court passed the order on a petition moved by KIIFB, a corporate body constituted by the Kerala government in 1999 to provide funds for infrastructure projects across the State.

The petition sought to quash a complaint filed by the Assistant Director of ED's Kochi Zonal Office and a subsequent show cause notice issued by the ED Special Director (Adjudication) proposing FEMA proceedings against KIIFB.

The complaint related to the manner in which KIIFB utilised the funds it raised through the issuance of Masala Bonds which are rupee-denominated bonds issued outside India by Indian entities.

According to the complaint, KIIFB utilised part of the proceeds amounting to over ₹466 crores to purchase land. This allegedly amounted to a "real estate activity" which is a "prohibited end-use activity" as per Master Directions issued by the Reserve Bank of India (RBI) in 2015.

In its petition, KIIFB contended that the real estate activities prohibited by the RBI does not include acquisition of property for infrastructural developments.

"Acquisition of property is an exercise by the Government of its right of eminent domain and, by virtue of the same, compensation is paid to the deprived land owner. No transfer of land is made in favour of KIIFB. The same is not a speculative activity for commercial profiteering," the petition stated.

KIIFB further contended that in 2019, the RBI revised the 2015 Master Direction to exclude activities in the infrastructure sector from the purview of "real estate activities".

Therefore, even if all the allegations in the complaint against KIIFB are accepted, no proceedings can be initiated under FEMA, the petition argued.

Pertinently, KIIFB also contended that the ED's conduct in its investigation into the issue has been rife with malafides. In this regard, KIIFB claimed that the central agency had taken to issuing summons to KIIFB officials and show cause notice, close to elections in the Left-ruled State. KIIFB also pointed out that the High Court had previously stayed the summons issued by ED to KIIFB officials and former State Finance Minister Dr. Thomas Isaac in connection with this probe.

KIIFB also submitted that adjudication proceedings against it would severely hamper its ability to raise funds for welfare projects in the State, as it discourages investors from lending funds.

"The cloud of uncertainty caused by the present proceedings, will lead to a financial crisis of unprecedented magnitude in the State", KIIFB stated.

On these among other grounds, KIIFB sought orders to quash the complaint and show cause notice. It also sought a declaration from the Court that adjudication proceedings under Seciton 13 of FEMA will not be maintainable on the basis of the said complaint.

Apart from staying proceedings against KIIFB, the Court today admitted the petition and issued notice to the ED.