SWFs, Pension Funds may tap diplomatic channels to escape hike in tax surcharge

Economy


Overseas sovereign and pension funds may use diplomatic channels to lobby the Indian government against the increase in tax surcharge on non-corporate entities imposed in the budget. They include a leading Middle East government fund and three big-ticket pension funds based in Canada among others, said people with knowledge of the matter. Finance minister Nirmala Sitharaman told Parliament last week that the government will not consider rolling back the budget measures, which are also applicable to foreign entities structured as trusts or associations of persons (AoPs).

“Some of these funds are planning to send their representatives later this month to explain the difficulties they would face due to the government’s new law,” said one of the persons cited above. “These entities provide stable flows and should be exempt from the new tax.”

The sovereign and pension funds are either government departments or have been created by special Acts of parliament in their home countries and hence are not structured as corporates. Unlike mutual funds or hedge funds, these entities will not be able to convert themselves into corporates since they are governmental bodies in line with global practice.

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Listed with Sebi as Category-I FPIs
Even in India, domestic pension funds and some of the government-promoted insurers are not structured as corporates. The minister had suggested that entities could convert themselves into companies to avoid the higher surcharge.

Most of these funds are registered as category I foreign portfolio investors (FPIs) with the Securities and Exchange Board of India (Sebi) and are subject to the least level of scrutiny in terms of documentation and compliance since they are considered stable, long-term investors. Foreign sovereign funds own assets worth Rs 1.7 lakh crore in Indian equities while pension funds manage assets worth Rs 2.2 lakh crore, Sebi data showed. The total equity assets of FPIs in India amount to around Rs 30 lakh crore.

“Many of the sovereign funds would suffer the higher surcharge because these funds are either part of the foreign government itself or established under a separate Act and therefore not separately set up as a corporation or partnership,” said Rajesh Gandhi, partner, Deloitte. “Also, most large pension funds would be adversely impacted because they are also set up as trusts similar to the EPFO (Employees’ Provident Fund Organisation) in India.”

SWF-123

After the tweaks in the budget, the effective tax on funds earning more than Rs 5 crore a year and structured as trusts or (AoPs) will rise from 35.8% to 42.7%. The rate will increase from 35.8% to 39% if the fund earns between Rs 2 crore and Rs 5 crore in a year. Even the long-term capital gains tax on FPIs so structured will go up from 12% to 14.25%, while the short-term capital gains rate will increase from 18% to 21.4%.

Stocks slumped on Friday after Sitharaman refused to exempt FPIs structured as trusts from the higher surcharge in her reply to the debate on the Finance Bill the previous day. The Nifty fell 1.53% and the Sensex dropped 1.44%.

About 40% of FPIs are either trusts or AOPs. “For several jurisdictions, noncorporate structures are more prominent, similar to what India has when it comes to funds,” said Tejesh Chitlangi, partner, IC Universal Legal. “Suddenly bringing a material tax adverse treatment to otherwise legitimate structures is uncalled for and sends a wrong message to the international community.”

India is considered to have high tax rates by FPIs. About 20 countries in the world, including India, tax such capital gains. The other emerging markets where capital gains tax needs to be paid include South Korea and Thailand. However, effective tax in India is higher since the government also imposes levies such as securities transaction tax (STT) and stamp duty.



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