FEMA - Regulation of Foreign Exchange Dealings (Section 3)
# Regulation and Management of Foreign Exchange — Section 3, FEMA 1999
## Overview
Section 3 imposes blanket restrictions on dealings in foreign exchange. It applies to both Persons Resident in India (PRII) and Persons Resident Outside India (PROI). Its purpose is to channel all inflow and outflow of foreign exchange through Authorised Persons in a permitted manner.
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## The Four Prohibitions under Section 3
No person shall —
### (a) Deal with non-authorised persons
Deal in or transfer any foreign exchange or foreign security to any person who is not an authorised person.
### (b) Make payment for credit of non-residents
Make any payment to, or for the credit of, any person resident outside India in any manner.
### (c) Receive payments outside the authorised channel
Receive — otherwise than through an authorised person — any payment by order or on behalf of any person resident outside India in any manner.
Deemed receipt outside authorised channel (Explanation): If a person in India receives payment in India by order or on behalf of a PROI without a corresponding inward remittance from outside India, the person is deemed to have received the payment otherwise than through an authorised person.
### (d) Hawala-type transactions
Enter into any financial transaction in India as consideration for, or in association with, the acquisition, creation or transfer of a right to acquire any asset outside India by any person.
'Financial transaction' is defined widely to include:
making/receiving any payment
drawing, issuing or negotiating a bill of exchange or promissory note
transferring any security
acknowledging any debt
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## Permitted Exceptions
The four restrictions above do not apply where the transaction is —
1. otherwise provided in the Act (e.g., current account / capital account transactions permitted under Sections 5 & 6); or
2. carried out with the general or special permission of the Reserve Bank of India.
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## Purpose of the Section
Channel all foreign exchange through Authorised Dealers.
Provide a paper-trail and audit-ability for cross-border money flows.
Block parallel/hawala channels that bypass the banking system.
Worked example
### Example 1
Example — Clause (a): Dealing in foreign exchange
A PROI visits India and wants to sell US$ 1,000 to his Indian-resident friend at a rate better than the bank's. This is prohibited — it amounts to dealing in foreign exchange with a person who is not an authorised person.
### Example 2
Example — Clause (b): Payment for credit of non-resident
A PROI has an insurance policy in India. He asks his brother in India to pay the premium on his behalf. This is prohibited — it is a payment for the credit of a non-resident, which is not permitted without RBI/general permission.
### Example 3
Example — Clause (c): Receiving payment outside authorised channel
A foreign tourist eats at a Mumbai restaurant and offers to pay US$ 20 in cash. The restaurant cannot accept the cash — it would be a receipt of foreign exchange otherwise than through an authorised person. The restaurant would first need to obtain a money changer's licence to accept foreign currency.
### Example 4
Example — Clause (d): Hawala transaction
An Indian resident pays ₹70,000 in cash to a local dealer in India. In return, the resident's brother in Dubai receives US$ 1,000 from a Dubai-based dealer (the two dealers settle accounts later between themselves). This is prohibited — it is a financial transaction in India as consideration for transfer of an asset (foreign currency) outside India. Such 'hawala' transactions are squarely caught by clause (d).
⚠️ Common exam mistakes
Thinking Section 3 applies only to residents — it applies to BOTH residents and non-residents.
Forgetting that retail establishments need a money changer's licence to accept foreign currency directly from tourists.
Believing that informal settlements between an Indian resident and an overseas counterparty (with no actual cross-border remittance) are outside FEMA — the Explanation to clause (c) catches them as deemed receipts outside the authorised channel.
Restricting the meaning of 'financial transaction' to cash payments — it expressly includes drawing/issuing/negotiating bills of exchange, promissory notes, transferring securities, and acknowledging debt.
Ignoring that RBI's general or special permission can validate an otherwise prohibited transaction.
Bare-Act text Section 3 · The Foreign Exchange Management Act, 1999 · click to expand
Section 3 — Dealing in foreign exchange, etc.
Save as otherwise provided in this Act, rules or regulations made thereunder, or with the general or special permission of the Reserve Bank, no person shall—
(a) deal in or transfer any foreign exchange or foreign security to any person not being an authorised person;
(b) make any payment to or for the credit of any person resident outside India in any manner;
(c) receive otherwise than through an authorised person, any payment by order or on behalf of any person resident outside India in any manner.
Explanation.—For the purpose of this clause, where any person in, or resident in, India receives any payment by order or on behalf of any person resident outside India through any other person (including an authorised person) without a corresponding inward remittance from any place outside India, then, such person shall be deemed to have received such payment otherwise than through an authorised person;
(d) enter into any financial transaction in India as consideration for or in association with acquisition or creation or transfer of a right to acquire, any asset outside India by any person.
Explanation.—For the purpose of this clause, 'financial transaction' means making any payment to, or for the credit of any person, or receiving any payment for, by order or on behalf of any person, or drawing, issuing or negotiating any bill of exchange or promissory note, or transferring any security or acknowledging any debt.