Wish List Of A Fund Manager From Budget 2016
The aim is to ease the conditions and make it more viable to the functioning of overseas funds from a commercial perspective
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India has witnessed a sharp surge in investment activity from global investors with the increased liberalization in policies in recent years. Typically, private equity investors across the globe pool in their investments in an overseas vehicle and make investments in India. An Indian advisory company provides advisory services to such overseas fund or an overseas management company vide an advisory agreement. The local team in India sources the deal, evaluates opportunities and present their findings to the overseas fund / overseas manager. However, there is a risk that if decisions relating to making investments are made in India, such overseas fund could constitute a business connection / Permanent Establishment in India. Ambiguity in taxation of India focused overseas fund, deterred the ability of fund managers to operate in India.
To address the above concern, Finance Act 2015 inserted Section 9A governing taxability of fund management activity carried out through an 'eligible fund manager' in India. The economic rationale behind the introduction of the section was to attract significant amounts of foreign capital by having eligible fund managers based in India. Section 9A aimed to provide safe-harbour rules to such eligible investment fund by not treating the presence of the eligible fund managers in India as a business connection in India. However, due to the onerous nature of the conditions of the said section, it has remained more as theory on the statute.
Following amendments to section 9A of the Act would be a welcome change in the forth-coming budget:
Applicability to non-tax treaty countries
The benefit is currently restricted to the funds which has a tax treaty network with India. Various funds from Cayman Islands, Hong Kong etc. have invested in India which will not be in a position to avail the said benefit. Removing such a restriction will encourage funds from other jurisdictions to make investment in India.
Extension of benefit to small - mid size funds
Minimum corpus of 100 crore condition is specified for an overseas fund to become an eligible investment fund. This condition is detrimental to small or mid-size funds. The minimum corpus limit should be done away with or at least be reduced to provide a level playing field to all funds.
Current rules require minimum 25 members in a fund. Many overseas funds like proprietary funds / sovereign funds / pension funds / new fund managers raising new funds may have couple of major investors, while other small scale funds may have a major investor investing 26% - 51%. This condition makes it difficult for the fund to reach the desired minimum limit of 25 members. The minimum number may be suitably reduced to minimum of say two investors to encourage fund management activity in India.
Direct or indirect participation interest is restricted as follows:
* An investor - 10% of fund size.
* 10 investors or less - not more than 50% of fund size.
Applying the same rationale as discussed above, most funds have a major investor who holds majority stake. Thus this clause is commercially unviable for most overseas investors. These conditions may be relaxed to cater to operational flexibility of small - mid size funds.
Relaxation in investment conditions
Currently, the rule fences the investment limit of an overseas fund to 20% in a single portfolio company. This restricts the overseas funds, especially buy-out funds' ability to have a majority / controlling stake in a portfolio company. Such restriction should be tuned in according to investment philosophy of a fund.
Another barrier to investment is a restriction to make investment in associate entities. This may contradict practical structures since most overseas funds invest 26% - 51% which results in the investee company becoming an associate enterprise of the fund. Looking at the condition from the commercial perspective, this condition needs a consideration.
Ability to control and manage their investment in India
The Act currently restricts ability of an overseas fund to control and manage their business in India. Every investor would like to have certain degree of control to have a comfort that the business in which they have invested is moving in a desired direction in order to meet their target goals.
This condition should be modified to provide comfort to the offshore funds to control the business of the Indian company in which they have invested.
Eligible Fund Manager
The section requires a Fund Manager to be registered as a Fund Manager or Investment advisor which is regulated by Securities Exchange Board of India (SEBI). SEBI has carved out exemption from registration for Fund Managers providing services to the clients based out of India. This anomaly needs to be aligned to provide clarity on eligible fund manager.
Easing the limit on remuneration to Fund Manager
Further, section 9A has plugged an upper limit for the remuneration of the Fund Manager along with the connected persons at 20% of the profits of the fund. However, this may be detrimental to the performance of the Fund Manager as it may not be lucrative for the Fund Manager to relocate to India for want of higher incentives. Such limit can be relaxed to incentivize the fund manager which may reflect on better performance of the fund.
The above points are only suggestions that will benefit private equity industry to be able to function smoothly in the realms of commercial and regulatory environment. The aim is to ease the conditions and make it more viable to the functioning of overseas funds from a commercial perspective. It would open the avenues for upcoming investment fund managers and buoy investors' sentiment to carry out business in India with reasonable certainty.
With inputs from Neha Rupani, Manager and Henal Kakkad - Assistant Manager, Deloitte Haskins & Sells LLP
Disclaimer: The views expressed in the article above are those of the authors' and do not necessarily represent or reflect the views of this publishing house. Unless otherwise noted, the author is writing in his/her personal capacity. They are not intended and should not be thought to represent official ideas, attitudes, or policies of any agency or institution.