The income tax department has eased its existing norms to woo offshore fund managers located in India. The changed norms relate to minimum participation criterion in the funds, advance ruling mechanism and diversified nature of the funds.
The Budget for 2014-15 had announced some income-tax exemptions to fund managers by amending the permanent establishment (PE) norms. The rules were changed to the extent that the mere presence of a fund manager in India does not constitute PE of the offshore fund. This implies these fund managers are exempt from corporate taxation in India.
However, these efforts have so far not been able to impress offshore fund managers such as Citi, Morgan Stanley, JPMorgan and others, as conditions for availing the tax exemptions are rather stiff.
One of the fund managers says the fund has to have at least 25 members at the foreign institutional investor level. Most of these fund managers do not meet this condition. Besides, there are funds-of-funds that invest through one entity. These cannot be treated as just one investor. In fact, the Securities and Exchange Board of India mandates that one member is enough for non-broad-based funds such as pension funds, sovereign funds, university funds and insurance funds.
Tweaking this condition, the Central Board of Direct Taxes (CBDT) in its new rules now says, "Determination of number of members and the participation interest in the fund by looking through the entity where the investment in the fund has been made directly by an institutional entity".
So, institutional investors would not be treated as just one entity alone, which was the demand of the fund managers.
Then, there were demands of fund managers to ease the existing norm that an individual investor could not hold more than 10 per cent of the fund and up to 10 per cent of persons acting in concert should not hold more than 50 per cent of the fund. Relaxing these conditions, the new norms say these won't be applicable in the first 18 months of operation of the fund and at the time of its closure.
Rajesh Gandhi, tax partner with Deloitte Haskins & Sells, said it would be difficult to diversify the fund since the start and at the time of closure because of redemption pressures.
Then, there is a kind of advance ruling mechanism inserted by the new rules. It says, "An optional pre-approval mechanism under which once approved, benefit of the new provisions would not be denied except under limited circumstances."
This means that once CBDT has approved the operation of the fund, it could not disallowed by the tax officials later.
Under the existing norms, fund managers can be given only an arm's length remuneration or those prevalent in the markets. This rule has also been relaxed to say that the eligibility of the fund would not be affected if this norm is met in two out of the previous four years.
Gandhi said, "These rules have been framed keeping in mind industry demand for removing some of the difficult conditions imposed in the 2015 proposals and could now encourage some of the funds to seriously look at setting up shop in India."
Besides offshore fund managers, the government is also looking at India-based specific fund managers, which could be established by non-resident Indians.