 "Tax uncertainty still looms over offshore fund regime")
Concerns over transfer pricing implications and whether such funds would be construed to have a permanent establishment in India could mean quite a while before the gates are opened for domestic asset managers, say experts.
“Location of the fund manager in India for managing offshore funds may constitute a business connection or permanent establishment of the fund in India, exposing the funds’ profits to tax in India at a rate in excess of 40 per cent,” said Tejas Desai, tax partner, EY.
“Local players who are looking to manage offshore funds typically run into a permanent establishment issue, on account of Indian managers having control and management of foreign funds in India. Further, any transactions between the foreign funds and local players could have transfer pricing implications,” said Girish Vanvari, partner and co-head, tax, at KPMG in India.
The stock market regulator had issued a discussion paper on Tuesday. It looks at how to ease requirements such as the need for a separate fund manager for offshore funds and raising the ceiling on how much an individual investor can hold in such funds from 25 per cent to 49 per cent.
The paper mentioned that the mutual fund (MF) sector had made representations on the potential for managing greater amounts of offshore capital. “Currently, a small proportion of foreign portfolio investors (FPI) investment is being managed/advised by Indian AMCs (asset management companies). Considering the long-term record of Indian MFs and a well developed regulatory regime, there is significant potential for the global capital being invested in India to be managed/advised by local fund managers,” it said.
| THE PROGNOSIS Tax cloud may nix domestic mutual funds’ FII aspirations |
| What has Sebi attempted to do? It has tried to ease whatever regulations it can from its side to help local asset managers manage FPI capital which is coming into the country. What is the size of the opportunity? Mutual funds manage domestic money of only Rs 3.2 lakh crore. Foreign investors have equity assets which are nearly six times the amount: Rs 19 lakh crore. What is the problem? The main hurdle in allowing domestic asset managers are problems of taxation. An FPI making use of a domestic fund manager faces tax issues ranging from transfer pricing to 'permanent establishment' issues. This can attract tax at the rate of up to 40 per cent. What does this mean for the industry? While the market regulator’s moves are being welcomed, the tax department too would be required to act before any plans can really take off. What could be the solution? An expert suggests the creation of a financial hub with tax benefits such as no permanent establishment issue, non-applicability of transfer pricing provision |
However, fees from such activities are high and taxable in India, says KPMG’s Vanvari. He said funds typically have key personnel posted abroad to prove the control and management is in the foreign jurisdiction. Desai said the finance minister had taken a step towards providing tax clarity in his budget speech but there were still areas of confusion. “For instance, there is a risk of fund being alleged to have a PE (private equity investment) in India under specific tax treaties or the fund being regarded as a resident in India. Further, there is no safe harbour currently for local fund houses managing, say, an emerging market fund,” he said.
Another tax consultant said while easing of these regulations will help, tax issues still play spoilsport. He said lack of tax clarity had resulted in a reluctance to involve domestic fund managers in the management of their assets.
One way around the tax issues, says Vanvari, is the creation of a financial zone, which can serve as a financial hub for the region. “Tax benefits such as no permanent establishment issue, non-applicability of transfer pricing provision, etc, could be provided to financial firms in this zone. This would act as an enabler to firms to set up overseas presence and conduct their business without having to worry about the tax consequences of overseas income in India,” he said.
FPIs have equity assets under custody of Rs 19.03 lakh crore, according to the latest available depository data. Indian MFs manage Rs 3.2 lakh crore of assets, according to data from the Association of Mutual Funds in India.