"(Approved) to set up a JV (joint venture) company to undertake the business of operation of scheduled passenger airlines," the Finance Ministry said in a statement.
The initial investment approved for the airline stands at Rs.80.98 crore, the ministry said.
The approval allows the budget carrier to roll out the seventh scheduled domestic carrier in the Indian skies.
On March 6, the Foreign Investment Promotion Board (FIPB) recommended to the government that it approve the AirAsia proposal.
Currently, there are six scheduled domestic airlines in the country -- Air India, Jet Airways, Jet Lite, SpiceJet, IndiGo and GoAir. The operating licence of Kingfisher Airlines was suspended last year.
In its proposal, AirAsia said it intended to hold 49 percent stake in the JV.
It intends to invest anywhere between USD 30 million to USD 60 million in the venture while Tata Sons will hold a 30 percent stake and Telestra Tradeplace 21 percent.
Incidentally, India's first carrier was Tata Airlines, which took flight in 1932. In 1953, it was nationalised and renamed Air India.
In the mid-1990s, the Tatas tried to start an airline with Singapore International Airlines, but did not succeed.
The other JV partner, Arun Bhatia, runs aviation parts manufacturing company Hindustan Aerosystems in New Delhi.
The low-cost carrier will operate from Chennai and focus on providing connectivity to smaller cities with a small fleet initially. It plans to start operations by the end of this year.
The approval from the government also rests doubts cast by the civil aviation ministry seeking clarification from FIPB on the new foreign direct investment (FDI) policy in the domestic airline sector.
The ministry wanted to know whether the new rules were exclusively for existing domestic airlines or for start-ups too.
Meanwhile, Civil Aviation Minister Ajit Singh said the JV had not yet submitted any formal application to his ministry which will look at safety and other aspects of the company before it is allowed to start an airline.
"They have not submitted any application as yet. All will depend on how fast they provide us the information regarding safety, aircraft, pilots and airworthiness of aircraft," Singh told reporters here.
"Any (operations) clearance will depend on how fast they give all this information which will be required by the DGCA (Directorate General of Civil Aviation)."
The approval follows a change in the foreign capital investment in Indian domestic aviation sector initiated by the government last year by allowing foreign airlines to invest up to 49 percent in private domestic carriers.
The foreign carriers were so far not allowed to directly invest in Indian carriers for security reasons although 49 percent FDI by non-airline players was allowed.
Currently, AirAsia has a fleet of 118 aircraft and has ordered 350 planes to service its network.
Through its operations based in Thailand and Malaysia, the airline operates in Chennai, Bangalore, Tiruchirappalli, Kochi and Kolkata.
--IANS (Posted on 26-03-2013)