Artha Bharat’s ADGM move puts spotlight on GIFT City’s tax-rule mismatch

The more fundamental problem, according to founder Sachin Sawrikar, is that the Income-tax Act does not adequately recognise the ultimate non-resident investor when capital is routed through an intermediate GIFT-based fund. This has made it difficult for Artha Bharat to build the outbound-to-outbound investment structure it had envisaged — one in which money raised overseas is pooled in GIFT City, channelled through another GIFT vehicle and then invested in overseas markets.

The move was initially linked to concerns that the firm's claim to a tax deduction under Section 80LA had been rejected. Artha Bharat has since clarified that the rejection concern arose from a portal glitch. Its decision to shift the two master funds, however, reflects difficulties with the tax treatment of layered fund structures. Artha Bharat had targeted doubling its assets to $1.5 billion over three years and had grown from a single-fund platform to six funds within two years of entering GIFT City.

The foreign-exchange framework was not the obstacle, Sawrikar said. The structure was workable under the rules governing its master fund. The difficulty arose when it was examined under the Income-tax Act, particularly the conditions governing specified funds. The specified-fund hurdle Under Schedule VI of the Income-tax Act, 2025, a GIFT Category III alternative investment fund qualifies as a specified fund only if all its units, other than those held by the sponsor or manager, are held by non-residents.

This condition creates complications when one GIFT-based fund invests in another. Even if the ultimate capital comes from non-resident investors, the intermediate fund can affect the receiving fund's eligibility for specified-fund status and the associated tax exemption. “The test should be applied to the ultimate non-resident investor,” Sawrikar said. “A specified fund investing into another specified fund should not cause the second fund to lose its specified fund or tax-exempt status.”

The firm has sought clarity on outbound taxation, including a request to remove Section 9A from the applicable framework. It has also sought clarity on the tax treatment of real estate investment trusts and infrastructure investment trusts, according to a person familiar with the matter. A source familiar with the discussions said Artha Bharat's concerns had been taken up with officials at the International Financial Services Centres Authority (IFSCA), but the matter ultimately rested with the Department of Revenue.

“IFSCA can take up the representation, but tax policy and tax administration are not in its hands,” the source said. Dhwanil Shah of BDO India said a key condition for a Category III AIF in GIFT IFSC to claim capital-gains exemption under the specified-fund regime is that all investors, other than the GIFT-based fund management entity, must be non-residents. “Consequently, any resident investor or GIFT feeder funds onboarded on the said GIFT fund would lead to the said fund ending its exemption regime under the Income-tax Act, 2025,” he said.

Vandit Shah of PwC said the interaction between the IFSCA, FEMA and Income-tax frameworks needed to be viewed in context. The three regimes were designed to complement one another, and the issues raised so far appeared largely procedural rather than a matter of policy, he said. “In an ecosystem that is growing quickly and taking in increasingly sophisticated fund structures, some interface challenges are natural and bound to happen,” he added.

A test for GIFT’s outbound ambitions For Gift City fund managers seeking to pool overseas capital through multiple vehicles, uncertainty over whether tax eligibility is determined by the ultimate investor or the immediate unit-holder can influence where they choose to domicile their master funds. Artha Bharat said it will continue to operate from the centre, retain support functions there and may use GIFT-based vehicles as feeders.

The relocation is limited to the master funds of two of its six funds. “The inability to combine resident and non-resident capital without jeopardising specified fund or tax-exempt status made us hesitant to launch further master funds in GIFT City,” Sawrikar said. “We are investment professionals, not taxation experts. We should not have to spend disproportionate time worrying about taxation, where to park the money, or navigating domestic compliance for an IFSC business,” he added explaining their decision to move to ADGM.