The Union Budget on Saturday specified that income generated by Category I and II alternative investment funds (AIFs) will be treated as capital gains and taxed at 12.5%. Till now, there was no specific provision on how such income would be treated but now the definition of capital asset has been expanded to include gains made by the AIFs under the I-T Act. Going forward, if the same income were to be categorised as business income, it would be taxed at 30% for residents and up to 39% for non-residents.
Category I and II AIFs invest in unlisted companies, debt instruments and the infrastructure sector, whereas Category III AIFs focus on listed companies. Currently, Category I and II AIFs enjoy pass-through taxation benefits, while Category III AIFs don’t get the same benefit. This amendment will take effect from April 1, 2026, and will apply from the assessment year 2026-27.
Industry leaders in the startup and venture capital space lauded the move.
Siddarth Pai, founding partner, 3one4 Capital, said, “This has answered several key asks of the AIF sector with respect to ‘parity and clarity’, wherein the industry sought parity with foreign investors and clarity on its operations. Classifying securities held by an AIF as ‘capital asset’ will ensure that all gains from their sale will be taxed as capital gains, not as ‘business income’. This was offered to FPIs in 2014 to reduce litigation. AIFs now have the same clarity.”
Lauding the Budget for recognising securities held by AIFs as capital assets, Archana Jahagirdar, founder & managing partner, Rukam Capital, said, “This bolsters the case for CAT I & II by ensuring that gains from securities are treated as capital gains and that GST on security sales remains outside the framework.”
Highlighting the removal of tax collected at source provision, which could have been applied to the sale of securities, Pai said, “This provision was ambiguously worded to bring AIFs under its ambit, and led to friction and uncertainty around exits. The removal will increase the pace of exits and give tax clarity.”