Deduction of tax at source under section 194LBB at ‘rates in force’ on income distributed by an Investment Fund to its non-resident unit-holders and enabling provision for obtaining certificate of nil deduction or lower deduction of tax at source under section 197 

Related amendment in section: 2(37) & 197
Effective from: 1st June, 2016

(i) Special taxation regime for Investment Funds:

(1) A special taxation regime, contained in sections 10(23FBA), 10(23FBB), 115UB and 194LBB, was introduced by the Finance Act, 2015 for Category-I and II Alternative Investment Funds registered with SEBI, in order to ensure tax pass through status for these investment funds which are collective investment vehicles.

(2) Under this regime, the income of the investment fund (other than business income) is exempt in the hands of investment fund. Such income received by the unit-holder from the investment fund (other than business income which is taxed at the level of investment fund) is taxable in the hands of unit-holder.

(3) The taxation in the hands of unit-holders is in the same manner and in the same proportion as it would have been, had the unit-holder received such income directly and not through the investment fund.

(ii) Deduction of tax under section 194LBB@10% without facility for application of relief under section 197 – Resultant hardship to non-resident investors eligible for concessional rate of tax/exemption under the DTAA :

(1) Under section 194LBB, tax is deductible@10% in respect of any income credited or paid by the investment fund to its unit-holder. Section 197 enables an assessee to file an application to the Assessing Officer for issue of certificate of deduction of tax at lower rate or no deduction of tax under certain sections specified thereunder. If the Assessing Officer is satisfied that total income of the recipient justifies issue of such certificate, he may give to him such certificate for non-deduction of tax or deduction of tax at a lower rate.

(2) However, section 194LBB is not included in the sections specified under section 197, in respect of which an application can be filed for issue of certificate for deduction of tax at a lower rate or for non-deduction of tax. This has created genuine hardship for a non-resident unit-holder entitled to exemption of such income under the relevant Double Taxation Avoidance Agreement (DTAA). In such a case also, tax would be deducted at source@10%under section 194LBB, since there is no provision under section 197 for such unit-holder to approach the Assessing Officer for seeking certificate of tax deduction at a lower or Nil rate under section 194LBB.

(iii) Rationalisation of TDS Regime in respect of payments made by the investment funds to its investors:

Section 194LBB has been amended by the Finance Act, 2016 to provide that the person responsible for making the payment to the unit-holder shall deduct incometax under section 194LBB as given hereunder –

	Category of Payee	Rate of tax deduction at source
(1)	Residents	10%
(2)	Non-corporate non-residents or foreign companies	Rates in force

 

(iv) Consequential amendments:

	Section	Amendment
(1)	Resident	Inclusion of section 194LBB in the list of sections u/s 197(1) for which a certificate for deduction of tax at lower rate or no deduction of tax can be obtained, if the Assessing Officer is satisfied on an application made in this behalf that the total income of the recipient justifies deduction of income-tax at lower rates or no deduction of income-tax.
(2)	Non-corporate non-residents or foreign companies	‘Rate or rates in force’, in relation to an assessment year or financial year, means, for the purpose of, inter alia, tax deduction under sections 194LBA, 194LBB, 194LBC or 195 – (i) the rate or rates of income-tax specified in this behalf in the Finance Act of the relevant year; or   (ii) the rate or rates of income-tax specified in an agreement –   (a) entered into by the Central Government u/s 90, or   (b) notified by the Central Government u/s 90A,   whichever is applicable by virtue of the provisions of section 90, or section 90A, as the case may be.