Bombay HC: Trust-level SEBI registration sufficient for all VCF schemes; trustee's fiduciary holdings not relevant for determining "associated company" under Section 10(23FB)
RELEVANT PROVISIONS:
• Section 10(23FB) of the Income-tax Act, 1961 (“the Act”) exempts income of a Venture Capital Fund (“VCF”) from investments in Venture Capital Undertakings.
• Explanation (b) to Section 10(23FB) defines a VCF as a fund, inter alia, operating under a registered trust deed which has been granted registration by SEBI before 21 May 2012, as a Venture Capital Fund and is regulated under the SEBI (Venture Capital Funds) Regulations, 1996 (“VCF Regulations”).
• Regulation 3(1) and Regulation 7 of the VCF Regulations provide for grant of registration to a trust proposing to operate as a VCF, subject to satisfaction of the prescribed eligibility conditions.
• Regulation 2(aa) of the VCF Regulations defines “associated company” to mean a company in which a trustee of the VCF holds, either individually or collectively, more than 15% of the paid-up equity share capital of a venture capital undertaking, amongst others. Regulation 12, inter alia, prohibits the VCF from investing in an associated company.
BRIEF FACTS AND CONTENTIONS OF THE PARTIES
• The Assessee is a trust registered with SEBI as a VCF, investing primarily in real estate entities. It floated seven schemes and maintained separate books, separate investments and scheme-wise computation of income, and filed a consolidated return.
• For Assessment Year 2014-15, the Assessee claimed its income as exempt under Section 10(23FB) of the Act. The Assessing Officer, however, disallowed the claim on the grounds that (a) each of the seven schemes floated by the Fund required separate SEBI registration; (b) investments were in “associated companies” since the trustees, in their individual and fiduciary capacity, held shares exceeding 15% of the paid-up equity capital of various venture capital undertakings; and (c) real estate activity was neither a service nor production/ manufacture of articles or things and thus, the income therefrom was not eligible for exemption.
• The Revenue argued that each contributory scheme effectively functioned as an independent fund and, therefore, required separate recognition/ registration for purposes of claiming exemption under Section 10(23FB). It further contended that the trustees’ shareholding in the venture capital companies, including shares held on behalf of the Fund, exceeded 15%, making them the Assessee’s “associated companies” under VCF Regulations.
• On the other hand, the Assessee contended that under the VCF Regulations, only the trust is required to obtain registration as a VCF; each scheme merely requires filing of a private placement memorandum with SEBI and ongoing reporting through prescribed filings. It was also argued that the “associated company” test looks at the trustees’ personal holdings, not fiduciary holdings on behalf of the Fund, and a VCF may hold up to 100% of a venture capital undertaking. The Assessee contended that once it holds a valid and subsisting SEBI registration as a VCF, the Income-tax Department cannot independently review alleged breaches of the VCF Regulations in the absence of any adverse action or finding by SEBI.
ANALYSIS AND CONCLUSION OF HIGH COURT OF BOMBAY:
• The Hon’ble High Court of Bombay upheld the concurrent findings of the CIT(A) and ITAT that under Regulations 3(1) and 7, registration is granted to the trust and not to individual schemes; a scheme is only required to file its private placement memorandum with SEBI.
• The Court held that for a venture capital undertaking to be an “associated company”, the trustees’ or settlor’s holding of more than 15% must be in their personal capacity; shares held by the trustee in a fiduciary capacity on behalf of the Fund cannot be taken into consideration to determine the prescribed shareholding.
• The Court further held that where the assessee satisfies the statutory definition of a VCF, holds a subsisting SEBI registration and no violation has been alleged by SEBI, the Income-tax Department cannot deny exemption by independently alleging breaches of the VCF Regulations. The appropriate regulatory authority to examine compliance with those Regulations is SEBI itself.
LKS COMMENTS
• This decision affirms that where a trust is duly registered as a VCF under the VCF Regulations, separate registration of individual schemes is not required for claiming exemption under Section 10(23FB) of the Act.
• The ruling strengthens the argument that where eligibility for a tax exemption is expressly linked to registration and regulation by a sectoral regulator, and such registration continues to remain valid, the tax authorities may have limited scope to deny the exemption on the basis of alleged regulatory non-compliance that has not been identified by the regulator itself.
• The decision will be relevant in disputes involving the interplay between sectoral regulatory approvals and tax exemptions, particularly where the exemption hinges on continued registration with a specialised regulator.
• Although rendered in the context of VCF Regulations, the decision may assume significance in potential disputes involving fund structures where tax consequences are linked to compliance with sector-specific regulations administered by SEBI.
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