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Foreign Investors Allowed to Invest in Indian Mutual Fund Schemes

India
16 Aug 2011

The Securities and Exchange Board of India ('SEBI') and the Reserve Bank of India ('RBI') have recently allowed all categories of foreign investors to invest in equity oriented and debt oriented schemes launched by Indian Mutual Funds. Previously, only Non-Resident Indians ('NRIs') along with Foreign Institutional Investors ('FIIs') and their sub-accounts which are registered with SEBI were allowed to invest in Indian Mutual Fund schemes. Taxand India looks at the benefits for foreign investors.

Both, SEBI and RBI issued circulars simultaneously, on 9 August 2011, implementing the policy framework announced by the Indian Finance Minister ('FM') in his budget speech in February 2011. The FM had indicated the need to open up foreign investment in equity mutual funds to foreign investors generally, instead of restricting this route only to FIIs and NRIs. SEBI and the RBI appear to have not only set out a framework to provide access to Indian equity mutual funds for qualified foreign investors ('QFIs'), but have also extended this measure of liberalisation to specific debt schemes floated by Indian Mutual Funds that seek to invest in bonds issued by companies operating in the infrastructure space.

To read the whole article from Taxand India and for a summary of the new regulations please click here.

Taxand's Take


The new regulations should be mutually beneficial to both the foreign investor community as well as Indian Mutual Fund houses, in terms of:
  • allowing foreign investors to directly participate in investment schemes floated by Indian Mutual Fund houses and without having to invest through offshore fund structures
  • allowing Indian Mutual Funds to directly raise funds internationally, from a wider investor pool.

The Indian Mutual Fund industry would need to bear the costs emanating from such fund raising activities in terms of marketing their investment schemes overseas, KYC and AML monitoring costs etc; however, such expenses would be par for the course.

A significant concern for the Mutual Fund industry may be around the issue of the onus cast upon them for appropriate tax withholding on redemptions being made to the QFIs. This, on the back of a ruling issued by the Mumbai Tribunal in the case of Birla Sun Life Asset Management, where the asset management company was held responsible and liable for tax of a non-resident investor who invested in one of the schemes of the mutual fund, even where the investor had possible treaty protection, may bring some level of discomfort to Indian Mutual Funds while dealing with such foreign investor groups. Given this ruling and the stance being increasingly adopted by the Indian Revenue authorities, in other cases relating to transfer of securities, the Mutual Funds may be inclined to be conservative and withhold tax on redemptions instead of seeking to examine availability of treaty exemptions that may be available for each QFI.

Tax obligations for all QFIs that choose to access this investment route would then mean not only obtaining a PAN in India, but also submitting annual tax return in India. This could reduce the attractiveness of this investment window to QFIs, who may not have any other economic connect with India and perceive this as a deterrent. The issue may get a little greyer, especially in the case of UCRs, which appear to be securities entirely outside India and taxability of transactions relating to such instruments in India is not entirely clear. It may be noted that the Indian tax laws were specifically amended to exempt from tax in India, offshore transactions in ADRs / GDRs issued by Indian companies. However, adopting the ADR / GDR construct may not work in this case as any tax policy stance should ensure uniformity in the matter of taxation for QFIs regardless of whether mutual funds choose the direct or indirect route to attract foreign investment.

From an overall perspective, the liberalisation is a step in the right direction as it should help attract more foreign portfolio investment flows into India and at the same time bolster the Indian equity markets and the corporate debt market. Much of the success of this investment window would depend on how the Indian Government and regulators try and help address the above business concerns and tax issues that could arise.

Your Taxand contacts for further queries are:
Russell Gaitonde
T. +91 2230217045

Sudeep Sirkar
T. +91 2230217089

Shilpa Hegde
T. +91 2230217112

Vishal Agarwal
T. +91 2230217043

Dipesh Sukhani
T. +91 2230217024

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