Who Will Move To GIFT City?

Will the recent proposals help GIFT City's ambition to be counted in the league of fund-friendly jurisdictions?

The Gift Two tower, left, stands in Gujarat International Finance Tec-City (GIFT City), Gujarat, India. (Photographer: Dhiraj Singh/Bloomberg)
The Gift Two tower, left, stands in Gujarat International Finance Tec-City (GIFT City), Gujarat, India. (Photographer: Dhiraj Singh/Bloomberg)

It’s Singapore, Cayman Islands, Luxembourg, Ireland, Mauritius vs GIFT City. Or at least that’s the ambition -- to be counted in the league of fund-friendly jurisdictions.

To that end, the International Financial Services Centre Authority (IFSCA) has floated draft proposals for fund management activity in GIFT City.

Until 2020, the Securities and Exchange Board of India provided a broad framework for setting up Alternative Investment Funds in GIFT City -- the Gujarat International Finance Tec-City -- located near Gandhinagar. Once IFSCA was set up, it notified circulars to relax certain requirements, for instance permitting alternative investment funds to undertake leverage, co-investing in portfolio company through a segregated portfolio, etc.

Some of these reliefs combined with tax advantages encouraged domestic fund managers to move to GIFT City.

Tax incentives being the goods and services tax exemption for management fee and potentially for carried interest distributions, said Parul Jain, co-head of international tax practice at Nishith Desai Associates.

It also gives Indian fund managers the feasibility to set up a fund there, without running the risk of creating a permanent establishment or place of effective management in India because from a tax perspective, a GIFT City fund/manager is considered to be an Indian resident, she explained.

So far, primarily India-focused fund managers have considered setting up funds in GIFT City, since it gives them a credible option of moving away from administering offshore funds or dealing with increasing complexities of foreign regulations.
Parul Jain, Co-Head - International Tax Practice, Nishith Desai Associates

GIFT City Ambition

The objective now is to lure offshore funds to set up shop in GIFT City. For that, piggy backing on SEBI’s framework and piecemeal reliefs may not cut it, say experts. And so, inspired by the regulatory framework in some preferred jurisdictions for fund activity, IFSCA has floated draft proposals to compete with the likes of Dubai, Singapore, Cayman, etc.

The key features being:

  • Single registration for multiple activities.

  • Green Channel for Venture Capital Schemes or non-retail schemes soliciting money from accredited investors.

  • Innovative structures for exchange-traded funds, namely active ETFs and commodity-based ETFs.

  • Special situation funds, self-managed investment fund of a family office, etc.

Firstly, just optics-wise, IFSCA working towards a dedicated investment fund regime for GIFT City is a great start, said Siddharth Shah, senior partner with Khaitan & Co.

With IFSCA coming in, the first mindset change has been that we’re not constrained to develop the investment fund regime in GIFT City as per what exists onshore in India. So, we’ve recognised that our regime needs to compete with the likes of Mauritius, Singapore, Dubai, etc.
Siddharth Shah, Senior Partner, Khaitan & Co.

Fund vs Fund Manager: Change In Approach

The mindset change has manifested itself in the broad approach IFSCA has taken in its proposals -- regulate the fund manager and not the fund -- a departure from the existing AIF regime.

Which means, via a single unified registration, a fund manager will be able to manage retail schemes, including ETFs; non-retail schemes i.e. AIFs; carry out portfolio management services, and operate as manager to various investment trusts. The proposal is based on what the expert committee had recommended in its report last month.

It’s a far simpler approach compared to what we have today and it’s modelled around global best practices, said Ruchir Sinha, managing partner at Resolut Partners.

A big challenge today is setting up an AIF in GIFT City can easily take 8-9 months. IFSCA’s proposal of a green channel is hugely welcome, Sinha added. “Registered fund managers soliciting investments from large accredited investors can start accepting money from Day 1 since no scheme-specific approval will be required.”

The Substance Angle

The second important proposal pertains to substance requirements. Simply put, the economic activity that’s taking place in GIFT City. Historically, this has been a key point of contention between funds based in Mauritius, Cayman Islands, etc., and the Indian tax department. If substance requirement is not met in the eyes of the tax department, the availability of beneficial tax treatment quickly turns litigious.

IFSCA’s proposals specify substance requirements in terms of minimum key management personnel with experience, infrastructure requirements, key activities such as investment management from GIFT City, etc.

Currently, there is no written rule around substance for funds set up in GIFT City, Jain pointed out. So far, the regulator has indicated it needs at least one person working from GIFT City. The draft proposals now provide that depending on the licence the fund manager obtains and the level of operation, the personnel requirement may vary.

But more importantly, the proposals provide that the key decision-making needs to be undertaken in substance from the GIFT City, and there is a requirement for the personnel exercising influence or control over the management of the portfolio to be based in the GIFT City. The draft regulations are currently not very clear on what the regulator’s expectation would be with respect to personnel being “based” in GIFT City, especially given the global norm of “work from anywhere”.
Parul Jain, Co-head - International Tax Practice, Nishith Desai Associates

Fund managers will need more clarity on substance expectations to determine whether a fund set up in GIFT City would continue to work in the current manner, and hopefully such clarifications should come in the final set of proposals, Jain added.

Who Will Move To GIFT City?

There will be considerable interest in setting up funds that invest in onshore debt, Sinha pointed.

IFSCA funds will be more attractive for debt than equity investments because of the tax arbitrage. Dividend payments for equity investments are taxed at 10% for all non-residents -- whether from a treaty or non-treaty jurisdiction. It's the tax arbitrage for debt investments that will spark interest of non-resident investors, he explained.

If an Indian company pays interest to non-resident investors, it’s a 40% withholding. In treaties, it reduces to 15% for Singapore and the U.S., 7.5% for Mauritius, 10% for the Netherlands, etc. For a GIFT City fund, it’s 10%. If substance requirements are relaxed as IFSCA finalises its framework, GIFT City could become a preferred choice for funds looking to invest in onshore debt.
Ruchir Sinha, Managing Partner, Resolut Partners

The draft proposals have retained the requirement to procure an FPI registration from SEBI to set up an AIF.

If this is done away with, there may be significantly high investor interest from private debt players to set base in GIFT city to invest in high yield Indian debt, Sinha pointed out.

In conclusion, largely the proposals are well-aligned to what we see in the global market, Shah said.

What domestic managers are also awaiting is finalisation of draft overseas direct investment regulations by the Reserve Bank of India.

Today, if I want to set up a subsidiary or a branch in GIFT City as an Indian manager, RBI approval is required, which has not been very forthcoming. There’s a proposal to put it under a unified single window clearance by IFSCA.
Siddharth Shah, Senior Partner, Khaitan & Co.

Once that comes in, there’s likely to be much more activity. The expectation is with this effort by IFSCA, the ecosystem of trustees, custodians, valuers, administrators will follow.