By Authored by Nirmal Nagda, Partner, Deal Advisory- M&A and PE Tax, KPMG in India and Monish Bhansali, Manager Deal Advisory -M&A and PE Tax, KPMG in India
Similar to Union Budgets for the past few years, in Budget 2024 also the Indian Government was focused on development of infrastructure in India. In fact, infrastructure development was amongst the nine priorities of the Indian Government to achieve its vision of Viksit Bharat. Over the past couple of years, the Government has tripled its capital expenditure on infrastructure and is focused on improving road, rail and air and port connectivity, prominence to Green Energy and has set up target of ‘net – zero’ by 2070. All of these initiatives need huge funding requirements. It is estimated that India needs to invest US$ 840 billion over the next 15 years into urban infrastructure to meet the needs of its fast-growing population.
The Sovereign Wealth Funds (SWFs) & Pension Funds (PFs) (the investment vehicles and funds setup by overseas government) have been playing a very vital role in financing infrastructure projects. The tax exemption introduced by the Indian government in 2020 exempting interest income, dividend income, capital gains, etc earned by PFs/ SWFs has certainly played its part in encouraging the long term and steady flow of capital from SWFs / PFs.
During the end of 2023, the UAE and Saudi Arabia have declared their intent to invest $75 billion and $100 billion, respectively in India. Further, Global SWFs have increased direct investments in India at $6.71 billion in 2022 versus $3.79 billion in 2021, according to the Sovereign Wealth Fund Institute.
To continue to foster the growth of the Infrastructural Sector, SWFs and PFs will play a pivotal role. However, the tax exemption for SWF and PFs is slated to end for investments in infrastructure sector beyond 31 March 2025. The Budget 2025 presents an opportunity to the Indian Government to take steps to seek continued investments from SWF / PFs. Some of the steps that the Indian Government can consider from a tax perspective are detailed below:
Considering the eminent funding requirement and to provide a long-term investment horizon, a further extension by a minimum period of 3/5 years could be considered by the Indian Government.
For varied commercial reasons, infrastructure projects are undertaken by setting up separate SPVs. Hence, holding company – SPV structure is quite eminent in the infrastructure space. However, SWF / PF tax exemption is extended only to investments made through existing domestic holding companies that are set up and registered on or after 1 April 2021. From the perspective of promoting recycling of funds for infrastructure developers, extending the benefits to any holding company irrespective of its set-up date should be considered. This can help in freeing up funds and further accelerate the pace of new infrastructure creation.
Holding companies in which the SWFs / PFs invests should be exempted from tax on dividend and interest income. Currently, the dividends or interest earned by these holding companies are taxed (for dividend there is a possibility of claiming section 80M benefit, but Minimum Alternate tax could be applicable in certain situations). This in a way makes the holding company structure tax inefficient, while the same is required from a commercial perspective.
Budget 2024 has created a deeming fiction whereby any transfer/redemption of unlisted debentures is treated as short term capital gains. This amendment has resulted in an unintended denial of tax exemption for SWFs / PFs investment in these instruments. To provide relief from this unintended tax levy, a specific carve out for the notified SWFs and PFs earning long-term capital gains from unlisted bonds/debentures investments should be provided (irrespective of the deeming fiction to treat such capital gains as short-term)
Currently, the eligible investments only include direct investment made into the Indian infrastructure companies. However, there are several offshore investment platforms with underlying Indian infrastructure projects. Investment at offshore level and corresponding indirect transfer of Indian infrastructure assets should also be exempted under the Section 10(23FE) exemption.
While the income earned by notified SWF and PFs are exempt from tax, the subject income is still subject to withholding tax. The law does provide a process for obtaining a nil withholding tax certificate, but this certainly adds to the compliance burden for SWF / PFs and blockage of funds. From an ease of doing business perspective, providing an exemption from the applicability of withholding tax provisions to exempt income would go a long way and hence should be considered by the Indian Government.
In Budget 2024, the Indian Government did extend the exemption to qualifying investments made before March 2025 from March 2024, however, considering the funding needs of infrastructure sector, this may not be enough. SWF/PFs are looking for longer term relief in terms of sunset clause as well as other relaxations listed above. It would augur well for continued funding flow into the infrastructure space if the Indian Government considers the above relaxations in appropriate manner in the upcoming budget.
(Disclaimer: Views expressed are the author’s own, and Outlook Money does not necessarily subscribe to them. Outlook Money shall not be responsible for any damage caused to any person/organisation directly or indirectly.)
