Foreign airlines will be able to buy up to 49% of Air India under the new rules approved by the government on Wednesday to boost the debt-laden airline.
Formerly the country's monopolistic airline, Air India has slowly lost market share in favor of new low-cost private players in one of the fastest growing air transport markets in the world.
The government said last June that it was open to the sale of a stake in the state-owned airline, which has earned a reputation for delays, cancellations and bad services.
On Wednesday, the firm approved plans to allow foreign airlines to invest up to 49% in Air India, subject to government approval.
This was part of a series of measures to ease restrictions on foreign investment.
The right-wing government of Prime Minister Narendra Modi has sought to encourage foreign companies to invest in India since he came to power in 2014.
The firm also approved plans to automatically allow 100% of foreign investment in mono-brand retailers. Previously, this required special government approval.
Air India suffered losses for nearly a decade after a botched merger in 2007 and has debts of about $ 7.67 billion according to government figures.