#TaxmannPPT | Taxation of Investment Funds in GIFT City

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Investment Funds in IFSC Overview of Tax Regime

Friday, 19 January 2024

DISCLAIMER Any information provided or any opinion given in this presentation does not constitute legal advice. Recipients must not rely or act upon such information or opinion and must take their own steps to obtain specific legal advice relevant to their own circumstances. Opinions expressed in this presentation by individual partners or employees of Khaitan & Co (“Firm”) or unrelated parties are individual opinions and do not reflect the views of the Firm, and must not be attributed to the Firm, unless expressly confirmed in writing by the Firm. The Firm accepts no responsibility or liability (whether by statute, in equity, in tort or otherwise) for any loss or damage (economic or otherwise) suffered by any person who relies or acts upon any information provided or opinion given in this presentation. The law of India governs this presentation and all rights and remedies arising and recipients shall submit to the exclusive jurisdiction of the courts of India in respect of any claims arising out of or related to this presentation.

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ABOUT US

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Bijal Ajinkya

Rahul Jain

Bijal Ajinkya is a Partner in the Direct Tax and Private Client Practice at Khaitan & Co. Bijal has deep expertise across international tax, investment funds, tax insurance and tax litigation. Bijal has varied experience in advising individuals and family businesses on succession planning, asset protection and cross border inheritance tax from a legal, regulatory and tax perspective

Rahul Jain is a Principal Associate in the Direct Tax Practice at Khaitan & Co. His expertise covers a broad spectrum of tax advisory (domestic and cross-border), investment funds, M&A tax, structuring of inbound and outbound investments, SPAC transactions, flip structures, advising multinational companies on varied tax matters and tax litigation.

Contact:

T: +91 22 6636 5000 | +91 98201 06667 E: bijal.ajinkya@khaitanco.com

T: +91 22 6636 5000 | +91 97696 95896 E: rahul.jain@khaitanco.com

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AGENDA 1

Introduction

Snapshot of the Fund Regime in IFSC

Fund management entity

Taxation of Category I and II AIFs and Investors

Category III AIF | Tax nuance

Relocation of Offshore Fund to IFSC

Offshore Fund vs IFSC Fund

Family Investment Fund

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INTRODUCTION TO IFSC 01

GIFT City special economic zone is India’s maiden International Financial Services Centre (IFSC) introduced to act as a global financial hub

IFSC caters to a wide plethora of financial services such as asset management, banking, insurance, capital market, etc. as well as family offices

Deemed foreign territory for the purpose of foreign exchange laws in India. However, continues to be treated as Indian resident for the purposes of (Indian) Income Tax Act 1961

Offshore Funds - both global and / or India centric pooling vehicles may be set up in IFSC. So far approx. 89 schemes have been launched in IFSC

The new fund management regulations enables IFSC to compete well globally with other popular fund havens such as Cayman Islands, Mauritius, Luxembourg, Singapore etc

IFSC’s competitive legal, regulatory and tax regime vis-à-vis other offshore financial services jurisdictions makes IFSC lucrative for domestic and Indian financial players

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GIFT CITY IN THE NEWS!

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SNAPSHOT OF THE NEW FUND REGIME IN IFSC  IFSC Funds are governed by IFSC Authority (Fund Management) Regulations, 2022 (FME Regulations)  The FME Regulations have overhauled the previous fund regime in IFSC, which was based on the SEBI (Alternative Investment Funds) Regulations 2012  FME Regulations seek to regulate the fund managers i.e., fund management entity (FME) while prescribing operating guidelines for the funds

 IFSCA has benchmarked the funds regime with the global best practices  Consolidated registration and compliance requirements for FME while prescribing operating guidelines for funds / ancillary fund management activities

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FUND MANAGEMENT ENTITY | OVERVIEW 01

To engage in the fund management business, FME may seek registration under the following categories: (a)

Authorised FME: For investment in start-ups / early stage ventures through venture capital scheme

(b) Registered FME (Non-retail): To pool in funds from accredited investors, for investment in securities, financial products, undertake portfolio management service, private placement of REITs/InvITs, etc through restricted scheme. (c)

Registered FME (Retail): To pool in funds from all investors for investment in securities, financial products, etc. through retail or restricted scheme

Venture capital scheme is filed as Category I AIF and Restricted scheme can be filed as Category I / II / III AIF depending on investment strategy. Retail schemes are not treated as AIF

FME could be set up either as a company or an LLP or a branch thereof

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FUND MANAGEMENT ENTITY | TAX CONSIDERATIONS Key parameters Corporate tax on management fee

Company

LLP

Branch

Tax holiday for 10 years

Minimum Alternate Tax (MAT) MAT is payable at 9% unless it AMT is applicable at 9% / Alternative Minimum Tax opts for concessional tax regime (AMT)

Same as company / LLP

Distribution of profit by FME

Not taxable

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Taxed as dividend in the hands of Exempt from tax shareholders

IFSC AIF | CLASSICAL STRUCTURE India Investors

India

IFSC (GIFT City) Registered FME (Non-Retail) Investment Management Agreement

Overseas Portfolio Investment

Offshore Investors

Foreign Investment

India Investment

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Restricted Scheme (Trust)

Trustee (Fiduciary)

Trust Deed

Offshore Investment

TAXATION OF CATEGORY I AND II AIFS AND INVESTORS Pass Through Status and Levy of Tax  Trusts, LLP and companies which are registered as a Category I or II AIF under FME Regulations are treated as ‘investment funds’ under Indian tax law  Investment funds have been accorded partial tax pass through status – Investment income is taxable directly in the hands of investors on a pass through basis; Business income is taxable at AIF level  Tax on investors is levied as if investment was made directly by such investors

 Characterization of income for the investor is same as that of AIF

Income stream

Indian resident investor

Non-resident (NR) investor*

Dividend

Ordinary rate (maximum 30%)

20%

Interest

Ordinary rate (maximum 30%)

20% (on foreign currency debt)

20% to 30%

10% to 40%

Capital gain *Subject to tax treaty benefit, if any Privileged & Confidential

TAXATION OF CATEGORY I AND II AIFS AND INVESTORS (CONTD..) Pass Through Status and Levy of Tax  Obligation on AIF to withhold tax at (a) 10% for Indian resident investors; (b) applicable rate for nonresident investors  Business income (if any): Taxable at ordinary rate for AIF (being a company / LLP) and maximum marginal rate for AIF being a trust; subject to tax holiday  Business loss is carried forward at AIF level. Other losses allowed to be carried forward to investor holding units for at least 12 months  Income on transfer of AIF units is taxable for investors at applicable capital gains tax rate  Exemption for non-resident investors from obtaining Permanent Account Number and filing tax return (subject to certain conditions)

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CATEGORY III AIF | TAX NUANCES PARAMETER

CATEGORY III AIF

(determinate trust: Indian resident + NR Investors)

(All NR investors, except for units held by the sponsor / manager)

General tax regime

Income is taxed in the hands of the trustee as representative assessee of the investors

NR Investors are tax exempt whereas AIF is liable to pay tax on certain specified income discussed below

Income from India investments

Income attributable to NR Investors: Taxable at following rates (subject to tax treaty benefit)

Income from offshore investments

Tax exemption for income arising on:



Transfer of securities (other than shares of an Indian company)

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Dividend: 20%



Business income from a securitization trust



Interest (on foreign currency debt): 20%

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Transfer of specified securities listed on an IFSC Exchange

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Capital gains: ranges from 10% to 40%

Income attributable to Indian resident investors:

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Dividend and Interest income: Taxable at ordinary rate (maximum being 30%)

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Capital gain: Taxable at the rate ranging from 10% to 30%

Interest and dividend is taxable @ 10%. Capital gain on equity shares is taxable at the rate ranging from 10% to 30%

Exempt from tax

Income attributable to NR Investors: Not taxable Transfer of AIF units

Taxable at the rates ranging from 10% to 40%

Exempt from tax

Tax filings

No exemption

Exemption to NR Investors (subject to conditions)

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RELOCATION OF OFFSHORE FUND TO IFSC To encourage the Offshore Funds to shift their base to IFSC, the relocation has been made tax neutral subject to certain conditions: 1.

Offshore Fund should be tax resident of a country with which India has a tax treaty

Activities of Offshore Fund should be subject to applicable investor protection regulations in the domicile country

Relocation should be undertaken by 31 March 2025

IFSC Fund to discharge consideration by issuing shares / units to the Offshore Fund or investors

Effect of Relocation 1.

Tax implications for income earned by the IFSC Fund - same as mentioned in the preceding slides

Cost of acquisition and period of holding of the assets is continued

Losses are allowed to be carried forward

In case of IFSC Fund being Category I / II AIF, tax will be paid at respective investor level whereas for Category III AIF, tax will continue to be paid at Fund level

Investors are exempt from obtaining PAN and filing tax return (subject to certain conditions)

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OFFSHORE FUND VS IFSC FUND Key parameters

Offshore Fund

IFSC Fund

(Category III AIF with only NR Investors)

(Category I / II AIF)

Tax regime

Tax is paid at Fund level

Tax is paid at Investor level

Tax is paid at Fund level and Investors are tax exempt

Tax liability

(a) Interest (on foreign currency debt) and dividend is taxable at 20%

Same as Offshore Fund

(a) Interest and dividend is taxable at 10%

(subject to tax treaty benefit)

(b) Capital gain is taxable at 10% to 40%

(b) Capital gain (on shares of Indian company) is taxable at 10% to 30% (c) Capital gain on other assets is tax exempt

Tax credit (subject to domestic tax law)

Taxes paid by the Fund may not be creditable for Investors

Tax paid at Investor level and hence, credit should be allowed

Tax paid at Fund level and hence, may not be creditable for Investors

Distributions by Fund to NR Investors

(a) Dividend distribution: Not taxable

Subject to withholding of tax payable by the Investors

Exempt from tax

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(b) Redemption: Taxable if Fund derives at least 50% value from India (subject to certain exceptions)

FAMILY INVESTMENT FUND | OVERVIEW 01

FIFs are self-managed pooling vehicles for the family and Indian entities wherein the family members hold substantial economic interest

FIF may be set up either as a contributory trust or company or an LLP. In case of a trust, the beneficiaries and their respective beneficial interest must be fixed and identifiable at all times

Capital can be pooled only from a single family (defined to include group of individuals who are the lineal descendants of a common ancestor and includes their spouses and entities owned and controlled by them)

Exchange control regulations allows 50% of net worth of Indian entity to remit funds to GIFT City entity

An FIF is required to maintain a minimum corpus of USD 10 Million within a period of 3 (three) years from date of registration as an FIF

An FIF may borrow or engage in leveraging activities as per its defined risk management policy

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FAMILY INVESTMENT FUND | TAX CONSIDERATIONS Key parameters

Trust

LLP

Company

Tax regime

Trustee liable to tax as Tax payable representative assessee of the Distribution of beneficiaries exempt from tax

Capital gain

Taxable at 20% to 30%

Dividend and Interest Income

Taxable at maximum of 30%

Taxable at 30%

Taxable at 22% to 30%

Not taxable

Dividend distribution is taxable at 30% in the hands of shareholders

Distribution of profit by FIF Not taxable to beneficiaries / partners / shareholders Business Income

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at LLP. Tax to be paid by Company profit is as well as on subsequent distribution to shareholders

Tax holiday for 10 years. Tax holiday for 10 years However, potential risk of other income being taxed at maximum marginal rate

Tax holiday for 10 years

Q&A

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