Budget 2013: Expectations of the private equity sector
Ernst & Young
Private equity (PE) investments in India outplayed all sources of capital in the first decade of the 21st century. Excluding capital raised by Government companies, the PE investments have been close to 4 times that of IPO proceeds in the last year alone. The total investments by PE funds over the past five years in India now stands at about US$ 41.4 billion across 2,036 transactions, according to Venture Intelligence. The country's growing global stature, a far more open economy coupled with positive indications of reforms and perception of value residing within the fabric of the economy, encouraged investments into the country.
It has been a long standing demand of the PE sector for granting pass-through tax treatment to collective investment vehicles. After several rounds of representations by the industry, in line with the internationally accepted practice, the Finance Act, 2012 removed the restrictions that granted the pass-through status to PE funds only in respect of investments in certain specified sectors.
However, following the introduction of the Alternative Investment Fund (AIF) Regulations in May 2012, it appears that only Category I AIFs (to the extent of income from investments in venture capital undertakings) will be eligible for pass-through tax treatment under the Income-tax Act. This creates significant uncertainties/ inefficiencies in the manner in which the other categories of AIFs will be taxed since there is no separate code for taxation of collective investment vehicles set-up in the form of trusts. With a view to mitigate the practical challenges in discharging taxes, a separate code for taxation of AIFs is the need of the hour.
Further, the AIF Regulations have evolved and now permit even limited liability partnership (LLP) as one of the forms for set up of the PE fund. The current pass-through provisions that apply only to a fund set-up as a trust or a company should be expanded to include a fund set-up as a LLP.
Where the AIFs are granted the pass-through tax status, withholding tax on payments made to the AIFs would result in undue hardships to the AIF as it would have to file a return to claim refund of taxes withheld. To mitigate this, it should be provided that any payment to a SEBI regulated AIF shall be exempt from withholding tax provisions.
The Finance Act, 2012 introduced a concessional rate of taxation (10%) on long-term capital gains in the case of a non-resident from transfer of a capital asset being 'unlisted securities'. In this regard, a view exists that shares of private limited companies may not be covered within the scope of this provision. In sync with the legislative intent, a suitable clarification may be issued that even shares of private limited companies are covered by these provisions.