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Manoj Purohit, Partner & Leader
FS Tax

28 January 2022

GIFT City has come a long way since its commencement in 2015 and significant efforts have been undertaken to lure foreign investors to make investments and set up funds, among others.

The Indian government has been highly receptive to the expectations and suggestions of various stakeholders to make the International Financial Services Centre (IFSC) a tax-efficient destination. The last few Budgets have announced several tax incentives. However, some more amendments have to be made in the Income Tax Act, 1961, to bring more clarity and instill confidence among foreign investors and business houses in the financial services space looking to shift their base to the IFSC. We have discussed a few of them below:

Extension of tax holiday
Currently, 100% deduction is allowed for 10 consecutive years of the first 15 from the year of commencement. It is expected that the tax holiday period should be extended to 15 years considering the IFSC is meant to be the most competitive place in comparison with its peers.

Minimum Alternate Tax (MAT) reduction
MAT is currently levied at the rate of 9%. The Indian government has announced reductions in the MAT rate in line with the corporate tax rates from time to time. The MAT rate should be reduced further to 5% or removed gradually as this will reduce the burden of MAT and rationalise the total tax outgo. This will also ensure a level playing field when compared with other peer jurisdictions such as Dubai and Singapore.

Clarification on indirect transfer provisions for Category-III AIF

Category-III AIFs are subject to tax at the fund level and accordingly, the investors in AIFs are exempted from tax on such income accruing or arising from such fund or transfer of its units. A clarification has been issued that non-resident investors — investing directly or indirectly in the Category-I Foreign Portfolio Investors (FPIs) and Category-I or -II AIF — are outside the purview of indirect transfer provisions. A similar clarification is expected to be made as the indirect transfer provisions are not applicable for non-resident investors, directly or indirectly, in Category-III AIFs located in the GIFT IFSC. This would make the law clear for Category-III AIF especially for those registering themselves as FPIs.

Return filing requirement for non-resident investors in Category-III AIF
Category-III AIF is subject to tax at the fund level and investors are exempted from tax according to Section 10(23FBC) of the income tax act. The tax authorities have already exempted non-resident investors of Category-I and -II AIF based in the IFSC from the requirement of obtaining PAN and filing an annual tax return in India, subject to certain conditions.

An exemption is also provided to eligible foreign investors investing in specified securities and non-resident investors of Category-III AIF based in the IFSC from the requirement of obtaining a PAN subject to the satisfaction of certain conditions. However, the said notification is silent on the annual tax return filing requirement.

To bring parity in terms of compliances, even non-resident investors in Category-III AIF should be granted specific exemptions from filing the annual tax return if they do have any other India sourced income.

Following the same analogy, even non-resident lenders to Category-III AIF in IFSC should be exempted from the requirement of obtaining a PAN and filing an annual tax return in India if they do have any other India sourced income except the exempt income.

Relief from tax withholding compliances
Even though such business income is covered under 100% deduction for the GIFT IFSC units, any payment made to such GIFT IFSC units are subject to withholding tax under the Act. Currently, the exemption of tax withholding and reduced rates is only on certain income.
A specific carve out from tax withholding should be provided under the act on payment of such income to GIFT IFSC units, which are eligible for deduction under Section 80LA of the Act. This will reduce the unnecessary compliance burden on the GIFT IFSC units and ease the process of functioning.

The hope is that the Finance Minister will continue the legacy of announcing amendments to make the IFSC robust and transparent from a tax and regulatory perspective, by providing the required clarifications and exemptions in the tax laws in Budget 2022.