Karnataka High Court Ruling To Provide Tax Relief To Venture Capital Funds
The court has held that the Finance Act does not recognize a ‘trust’ as a legal person, and therefore it cannot be charged with a service tax levy.
In a significant ruling that is likely to provide significant tax relief to venture capital funds, the Karnataka High Court has held that service tax will not be levied on investment management exercises undertaken by a venture capital trust.
The court ruled so in a plea filed by the ICICI Econet Internet & Technology Fund and various other venture capital funds against the tax department.
Overturning a decision of the CESTAT, the high court held that while managing the funds of the contributors, these trusts do not make any profit nor do they provide any service, and therefore, the imposition of a service tax is untenable.
The court held that these trusts act as a ‘pass through’ vehicle, wherein funds from contributors are consolidated and invested by the investment manager.
The current ruling will be a relief for fund managers. However, the issue involved has significant financial implications for the government. Principally, the same concept can be applied in GST as well, said Ankit Jain, partner at Ved Jain & Associates.
We can expect the government to appeal this ruling before the apex court, Jain said.
Further, the court has held that the Finance Act does not recognise a ‘trust’ as a person, and therefore it cannot be considered a legal person for the purpose of charging service tax.
In its decision, the high court has also applied the doctrine of mutuality. It said that contributors/investors and the trust cannot be dissected as two different entities because contributors' investments are held in trust by the fund, and they are invested as per the advice of the investment manager.
In substance, the fund does not do an act, the high court said.
While the ruling marks a significant departure from service tax applicability in the past, its relevance in the current GST framework warrants careful examination. The court's perspective on the trust not being a separate entity might face challenges under the GST legislation, S.R. Patnaik, partner at Cyril Amarchand Mangaldas, told NDTV Profit.
Patnaik added that the application of the mutuality principle also remains uncertain as it is in challenge before the apex court.
However, Jain said that a ruling of the Karnataka High Court is not binding on other states. And since most of the funds are based out of Mumbai, the direct impact of this ruling on those funds will be limited.
