Domestic venture capital funds (VCF) set up as determinate trusts and investing in unlisted firms overseas will enjoy a tax exemption on their income. A determinate trust is one where the beneiciaries are known and their shares are clearly spelt out.
In such a structure the tax benefit will be in the form of a pass-through status under the income tax law; in other words, the trust will be exempt from paying tax. The tax will have to be paid by the beneficiary when the income is distributed by the trust.
The tax exemption will be available to these funds if they comply with the norms laid out for trusts under the income tax law, said a senior government official. A clarity on the tax-treatment is vital as RBI has recently allowed domestic venture funds to invest upto $ 500 million in equity and equity linked instruments in unlisted firms overseas.
This means a domestic fund set up in the form of a trust will not have to pay tax on any income capital gains, interest, dividend earned from investments made in unlisted off-shore firms. The exemption will be available on investments made in any sector. For instance, the tax benefit will be given even if the fund invests say, in an unlisted realty firm abroad.
A pass-through status will be available to the trust on any income it earns from investments made in unlisted firms in India and abroad. The trusts will, however, have to ensure that they do not violate the conditions under Section 164 of the Income-Tax Act, said the official.
Under this section, a trust gets a pass-through status only if the share of each beneficiary is determinate. So, if there are 10 contributors to the trust, the share of each contributor should be specific, when the trust is set up. A pass through status will be denied to the trust, if this condition is not met.
However, if the domestic venture fund is not set up in the form of a trust, it will have to pay tax on any income earned from investments in unlisted firms overseas. A tax pass through will not be available to such VCFs or venture capital companies.