Narayana Murthy-led Sebi panel pitches for friendly tax regime for AIFs

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Mumbai: The 25-member panel of the Securities and Exchange Board of India, or Sebi, on alternative investment policy advisory committee headed by N.R. Narayana Murthy, on Friday recommended introduction of securities transaction tax (STT) for investors in alternative investment funds (AIFs) in India.

The panel said if AIF investors are levied STT at various points of transaction it could yield STT tax revenues of $1.8 billion for the country during the next 15 years.

Bringing AIFs under STT regime will harmonize the taxation of mutual funds and AIFs and simplify tax compliance of the investors, the panel said in a 157-page committee report released by Sebi late evening.

The panel said AIF investors should be made liable to pay STT firstly at the time of entry when the investor purchases units, secondly, when income is distributed during the unit holding period, and, finally, when the investor exits by the transfer of units.

“A simplified regime of taxation of investors in mutual funds has significantly helped in the growth of mutual funds with minimal issues and litigation. AIFs, like mutual funds, pool capital raised from investors which is invested in accordance with some stated investment criteria. Given the similarities in the structure of mutual funds and AIFs, a similar tax regime i.e. STT should apply to transactions in units of AIFs,” said the report.

AIFs are a common pool of funds –managed by a fund manager-in which institutional and high net-worth individuals invest, typically on a long-term basis. Private equity and venture capital funds are included as AIFs.

At present, due to the various complexities fund managers are discouraged from setting up Indian pooled and domiciled funds, said the panel. STT will help resolving the issue and help hedge funds industry in India to grow. A fair, transparent and enabling tax regime could result in India’s hedge fund industry potentially growing at 20% per annum from its current low base, the panel said.

“Ultimately their assets under management could surpass $25 billion in 10 years…. In order to simplify and bring ease of compliance and remove ambiguity in taxes, the introduction of the STT regime (on entry and redemption for each investor) will ensure smooth payment and collection of taxes,” said the report.

The size of the AIF Category III funds, which mostly include hedge funds, is estimated to be Rs3,816 crores as of 30 June,2016. The global hedge fund industry has $3 trillion in assets under management as of 2015 according to Asia Hedge and HFR Global Hedge Fund surveys. From 2007 to 2015, while China’s equity hedge fund assets under management have risen from an estimated $13.5 Billion to $ 45 billion in 2015, the share of India’s equity hedge funds declined from 5% to 2%.

However, investors of Category III AIFs should be made to pay tax on income/gains arising from their investments, the panel said. Short term capital gains on transfer of units of an equity-oriented investment fund (whether by way of redemption or otherwise) should be taxed at the rate of 15%, the panel suggested in the report. But long term capital gains on transfer of units of an equity-oriented investment fund should be exempt from income-tax, the panel said.

The panel, which has suggested a number of other taxation measures for AIFs, seeks views on the report from stakeholders and the public comments till 19 February, 2018.

This is the third report by the committee, which feels certain measures are needed to address the problem of the levy of GST on fund management fees in AIFs.

The panel feels GST related issues and administration services fees deters foreign investors from investing in India-domiciled onshore funds through the AIF platform and instead encourages them to remain offshore.

According to the panel , considering the importance of VCs and PEs, the services rendered to an AIF should be chargeable to GST at a rate of 5%, if the majority of the investors of an AIF are foreign entities.

Alternatively, investors in an AIF should be deemed to be the service recipients and where the foreign investment in an AIF exceeds 50%, the services received by an AIF should be considered as export of services and thereby be liable for zero rate of GST, the panel proposed.

The current GST framework discourages AIFs involving foreign investors to enter India.

“The GST paid on fund management fees and other input services become an incremental cost to be borne by AIF investors,” said the report.

Further, the panel has proposed an easier regulatory regime for the establishment of AIFs in an IFSC (international financial services center). The panel said any income earned by an offshore investor through AIFs in an IFSC should be exempted from tax. Also, there should be relaxation from filing return of income and obtaining a PAN number for offshore investors in an AIF in an IFSC, with regards to any income distributed by an AIF in an IFSC after deduction of tax at source, the report said.

Since AIFs domiciled in an IFSC will source funds from offshore investors, the current limits on overseas investments of Sebi-regulated domestic AIFs should not apply to IFSC-domiciled AIFs, the panel suggested. And, domestic fund managers/ sponsors should also be allowed to manage AIFs domiciled in an IFSC, the panel said.livemint