The main features of the AIF route from a debt investment perspective into India are as follows:
• Kinds of AIF
AIF’s shall be registered in one of the following categories:
- ‘Category I Alternative Investment Fund’ which invests in start-up or early stage ventures or social ventures or SMEs or infrastructure or other sectors or areas which the government or regulators consider as socially or economically desirable and shall include venture capital funds, SME Funds, social venture funds, infrastructure funds and such other Alternative Investment Funds as may be specified;
- ‘Category II Alternative Investment Fund’ which does not fall in Category I and III and which does not undertake leverage or borrowing other than to meet day-to-day operational requirements and as permitted in the AIF Regulations.
- ‘Category III Alternative Investment Fund’ which employs diverse or complex trading strategies and may employ leverage including through investment in listed or unlisted derivatives.
Some of the basic features for investments by AIFs are:
- Co-investment by a manager or sponsor (if any) should not be on terms more favorable than those offered to the AIF;
- Category I AIFs and Category II AIFs cannot to invest more than 25% of the investable funds1 in one company, and in case of Category III AIFs, the limit is 10%;
- Un-invested portion of the investable funds may be invested in liquid assets till deployment of funds as per the investment objective;
- Investment by Category I AIFs and Category II AIFs in the shares of entities listed on institutional trading platform shall be deemed to be investment in unlisted securities for the purpose of the AIF Regulations.
- . Each category of Alternative Investment Fund shall have its own set of investment conditions as well. Category I AIF and Category II AIFs are required to ‘primarily invest’ in unlisted securities.
- ‘Debt funds’ defined to be AIFs which primarily invest in debt securities are categorized as Category II AIFs.
• Entities involved
- “Sponsor” means any person or persons who set up the Alternative Investment Fund and includes promoter in case of a company and designated partner in case of a limited liability partnership;
- “Manager” means any person or entity who is appointed by the Alternative Investment Fund to manage its investments by whatever name called and may also be same as the sponsor of the Fund;
- “Alternative Investment Fund” means any fund established or incorporated in India in the form of a trust or a company or a limited liability partnership or a body corporate which, is a privately pooled investment vehicle which collects funds from investors, whether Indian or foreign, for investing it in accordance with a defined investment policy for the benefit of its investors; and is not regulated by SEBI for other fund management activities such as Mutual Funds, Collective Investment Schemes.
- . “Investee company” means any company, special purpose vehicle or limited liability partnership or body corporate or real estate investment trust or infrastructure investment trust in which an Alternative Investment Fund makes an investment;
AIFs that are registered with SEBI as Category I AIFs or Category II AIFs under the AIF Regulations have been granted tax pass through status. Any income of Category I AIF and Category II AIF which is in the nature of ‘business income’ is taxable at the level of the AIF whereas any dividend, capital gains or interest in hands of the AIF are exempt and shall be taxed in the hands of the investor. Currently, the Indian tax laws do not contain any specific provisions governing taxability of Category III AIFs. Typically, these are structured as trusts and the laws governing taxability of trusts are used for determining taxability of Category-III AIFs and their investors
Further, AIFs are required to deduct withholding tax for non-residents at a rate which is in accordance with the provisions of the DTAA if they are eligible to DTAA benefits. However, it keeps the withholding rate unchanged for resident investors.