Panel headed by former Sebi chairman M. Damodaran to discuss the issue.  (Photo: iStock)

PE/VC investors push for a tax code on profits

MUMBAI/BENGALURU : Private investors will push the newly formed private equity and venture capital think tank to formalize a tax code on private capital gains by the end of this month, even as there are calls to make fund management fees a expense deductible from capital gains, top industry executives said. .

PE and venture capital firms typically charge their investors a 2% annual management fee and earn a 20% share of the fund’s profits once a basic performance threshold is reached. This share of fund profits, which is paid to fund managers as an incentive, is defined as ‘carry’ and has emerged as a bone of contention between fund managers and the tax department.

“There should be a definition of ‘carry’ somewhere in the tax code. Right now, there is no definition, and that leaves room for discretion,” said Gopal Srinivasan, senior board member of industry body IVCA (Indian Private Equity and Venture Capital Association), and founder and chairman of PE firm TVS Capital.

Currently, fund managers end up paying taxes either as capital gains or as a service tax under the Goods and Services Tax (GST) regime, depending on how tax officials assess it.

Investors expect the carry issue, along with other demands, to be taken up by the think tank headed by former Sebi chairman M. Damodaran. The committee, which was first announced in the budget earlier this year, will identify ways to speed up the growth of the PE/VC ecosystem, the finance ministry said on Tuesday.

“There are several aspects of the tax framework applicable to the funds that could be clarified. Taxation (both direct and indirect) on accrued interest is one of the major issues that will influence fundraising on vehicles domiciled in India. A number of fund managers are currently dealing with inquiries in this regard,” said Subramaniam Krishnan, partner at EY.

Tax notifications to PE and VC companies gained momentum especially after July 2021, when the Bangalore court of the Court of Appeal for Customs, Excise and Services Taxes (CESTAT) said levying the tax on PEs was justified. services on accrued interest distributed by PE and VC funds. This was a case involving ICICI Econet and ICICI Venture’s Internet Technology Fund, which is now under appeal. Investors are looking for two other changes around the tax on the 2% annual management fee charged by fund managers. Currently, a GST is applied on the management fee paid to the fund for the management of foreign capital. The fund managers want this to be waived.

“The reason is that if the advisory services had been provided directly to foreign investors, then it would likely have qualified as an ‘export of service’ and not be subject to GST,” said Kunal Shah, a partner at PwC.

Second, investors want the management fee to be allowed as tax-deductible from capital gains.

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