The Delhi High Court has provided long-awaited tax clarity related to a circular issued by the Central Board of Direct Taxes (CBDT) in 2014, giving relief to Category-III alternative investment funds (AIFs), which employ complex trading strategies, including leveraging and hedging, to generate short-term returns. Hedge funds and private investment in public equity (PIPE) funds fall into this category.
Industry players said due to the 2014 CBDT circular, Category-III AIFs had to pay a tax of around 40 per cent on the gains while those in Karnataka and Tamil Nadu paid only 12.5 per cent.
In an order dated July 29, the Delhi High Court quashed an order by the Board of Advance Rulings (BAR), which rejected the application for withdrawal filed by Equity Intelligence AIF Trust. An application for withdrawal is a formal request to discontinue a previously submitted application.
The BAR had held that if the names of the beneficiaries were not set out in the original trust deed, then such trust would be treated as indeterminate and will be subject to a “maximum marginal rate”.
Securities and Exchange Board of India’s (Sebi’s) regulations mandate registration for AIFs before commencing the business. For registration, AIFs have to submit their trust deeds to the market regulator.
The senior counsel for the AIF argued that the original trust deed cannot contain the names of the investors and if it did, the same would be a major violation of the Sebi regulations.
“No entity under any enactment can be perceived or compelled to perform the impossible. In the present case, the facts as noted and obtained above seem to be leading to such an impossibility,” noted the Delhi High Court in its order. Further, the high court also noted the contradiction in Para 6 of the CBDT circular.
While the circular mandates naming or identifying the investors in the original trust deed, its Para 6 states that the circular will not be operative in states where their respective high courts have taken a contrary decision on the issue.
“An issue of law, settled by a constitutional court, neither challenged nor set aside by a higher constitutional court, would be binding upon the Revenue authorities all over the country and cannot be implemented state specific or area specific,” the Delhi High Court order said.
“The clarification contained in CBDT Circular No. 13/2014 dated 28.07.2014 is directed to be read down to conform to the above analysis and conclusion,” noted the high court.
Industry players said that the decision may trigger clarification from CBDT and may have impact on pending applications.
“Of all Indian AIFs, Category-III AIFs have the highest rate of mobilisation, having invested more than two-thirds of the lifetime commitments made by the category. They faced massive headwinds due to the uncertainty of their taxation. With this win in Delhi High Court, three jurisdictions in the country — Karnataka, Delhi and Tamil Nadu — have tax clarity for Category-III AIFs,” an tax expert said.
As of March 2025, the total commitments to Category-III AIFs stood at around ₹2.30 trillion. Of this, ₹1.63 trillion has been invested.
Category-III AIFs do not enjoy a pass-through status like Category-I and -II AIFs, even if they follow long-only strategies.
“These funds have had to tread carefully to balance regulatory requirements and investor confidentiality without upsetting determinacy requirements of tax laws. Open-ended funds may have a dynamic LP (limited partner) base, which will keep changing, and it was impractical for funds to have to keep updating the trust deed after every such subscription or redemption,” another tax expert said.
