AIFs may find limited relief in Sitharaman's latest round of announcements

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Alternative investment funds (AIFs) may find limited relief in Finance Minister Nirmala Sitharaman’s latest round of announcements. While foreign portfolio investors (FPIs) have had a comprehensive rollback of the surcharge, domestic AIFs, which faced similar taxation, will continue to pay up to 42.7 per cent on some investments. 

Sitharaman on Friday announced an ordinance by which certain domestic and foreign investors will get relief from a higher surcharge introduced in the July Budget. The Budget had raised the maximum effective tax that they would have to pay on their stock market investments to 42.7 per cent. 

FPIs have been net sellers by over Rs 30,000 crore since then. The relief accorded to them through Friday’s ordinance does not extend in its entirety to domestic investors, according to experts. 

Rajesh H. Gandhi, partner at Deloitte India, said AIFs had some relief from surcharge on capital gains for investments in shares. “They will continue to be taxed up to 42.7 per cent on their derivatives income,” said Tushar Sachade, partner (tax and regulatory services) at PricewaterhouseCoopers.

“In order to stabilise the flow of funds into capital market, it is provided that enhanced surcharge introduced by the Finance (No.2) Act, 2019, shall not apply on capital gains arising on sale of equity share in a company or a unit of an equity oriented fund or a unit of a business trust liable for securities transaction tax….,” said the government statement exempting surcharge on capital gains on sale of shares. 

A similar exemption is given to capital gains through derivatives, but only for foreign investors. 

“The enhanced surcharge shall also not apply to capital gains arising on sale of any security including derivatives, in the hands of FPIs,” it said. 

Those funds that are looking to collect foreign money and invest it in India may be able to find some relief by relocating to the Gujarat International Finance Tec-City (or Gift City), according to experts. The place is designed to mimic offshore locations such as Mauritius and Singapore where foreign investors can take exposure to India without facing tax or regulatory tangles.

Subramaniam Krishnan, partner (private equity & financial services) at EY India, said capital gains of FPIs from debt securities would see relief from the higher surcharge. Interest income will, however, still be subject to the surcharge in the hands of FPIs. 

“Category-III alternative investment funds will still face up to 42.7 per cent tax since the surcharge relaxation on derivative trades is not available to them. They may consider setting up in Gift City if they raise significant foreign capital in their funds to mitigate the higher surcharge for derivative transactions,” he said.

More clarity is awaited on the use of Gift City as a base.  

“It is unclear if taxation is to happen in the hands of the investor or at the fund level. All foreign investors are still required to individually get   PAN and submit details. Also, the rate of taxation under minimum alternative tax is around 9 per cent. It is zero in a jurisdiction like Mauritius, which makes going offshore a more attractive option,” said Deloitte’s Rajesh H. Gandhi.

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