Venture Capital / AIF – Registration to Taxation

Venture Capital – A Emerging Concept

Why Venture Capital is booming in India? One of the main stone is Company laws. There are various restriction imposed on company form for availment of loan or working capital to run a business. Hence, through the medium of Venture capital, company having Innovative ideas, growth oriented start ups etc may benefited to run its business smoothly by exchange of equity.

Benefits:-

1. Opportunity for Expansion

2. Expert Involvement – in Management for critical decisions

3. No repayment stress

4. Network building

5. Easy mobility of Fund

In Common definition, a institution that collects funds in order to invest in company in exchange for equity. For that Fund manager receives a Management fees of 1 % or 2 % from investment fund.

Venture capital pooled a funds from various investors/high net worth investor and invest the same in start ups.

Lets understand the Legal Provisions, Definition and related Compliance to Venture Capital or Alternate Investment fund

Definitions:-

♦ Alternative Investment Fund means any fund established or incorporated in India in the form of a trust or a company or a limited liability partnership or a body corporate which,-

(i) is a privately pooled investment vehicle which collects funds from investors, whether Indian or foreign, for investing it in accordance with a defined investment policy for the benefit of its investors; and

(ii) is not covered under the Securities and Exchange Board of India (Mutual Funds) Regulations, 1996, Securities and Exchange Board of India (Collective Investment Schemes) Regulations, 1999 or any other regulations of the Board to regulate fund management activities:

Provided that the following shall not be considered as Alternative Investment Fund for the purpose of these regulations,-

> Family Trusts

> ESOP Trusts set up under the Securities and Exchange Board of India

> Employee welfare trusts or gratuity trusts set up for the benefit of employees;

> Holding companies‘ within the meaning of Section 4 of the Companies Act, 1956;

> Other special purpose vehicles not established by fund managers, including securitization trusts, regulated under a specific regulatory framework;

> Funds managed by securitisation company or reconstruction company which is registered with the Reserve Bank of India under Section 3 of the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002; and

> any such pool of funds which is directly regulated by any other regulator in India;

The AIF in India is regulated by the Securities Exchange Board of India (hereinafter referred to as “SEBI”), under the provisions of SEBI (Alternative Investment Funds) Regulations, 2012 (“AIF Regulations”) issued on May 21, 2012.  

♦ Venture capital fund means an Alternative Investment Fund which invests primarily in unlisted securities of start-ups, emerging or early-stage venture capital undertakings mainly involved in new products, new services, technology or intellectual property right based activities or a new business model;

 SEBI (Venture Capital Funds) Regulations, 1996.

♦ Angel Fund means a sub-category of Venture Capital Fund under Category I- Alternative Investment Fund that raises funds from angel investors and invests in accordance with

• • “angel investor” means any person who proposes to invest in an angel fund and satisfies one of the following conditions,

♦ an individual investor who has net tangible assets of at least 2 crore rupees excluding value of his principal residence, and who:

• • (i) has early stage investment experience, or
  • (ii) has experience as a serial entrepreneur, or
  • (iii) is a senior management professional with at least ten years of experience;

Explanation: For the purpose of this clause, ‘early stage investment experience’ shall mean prior experience in investing in start-up or emerging or early-stage ventures and ‘serial entrepreneur’ shall mean a person who has promoted or copromoted more than one start-up venture.

♦ A body corporate with a net worth of at least 10 crore rupees; or

♦ An Alternative Investment Fund registered under these regulations or a Venture Capital Fund registered under the SEBI (Venture Capital Funds) Regulations, 1996

♦ ‘‘Foreign Venture Capital Investor’ means an investor incorporated and established outside India which proposes to make investment in Venture Capital Fund(s) or Venture Capital Undertaking(s) in India and is registered with SEBI under SEBI (Foreign Venture Capital Investors) Regulations, 2000;’

♦ Venture capital undertaking means a domestic company which is not listed on a recognized stock exchange in India at the time of making investment; and which is engaged in the business for providing services, production or manufacture of article or things and does not include following activities or sectors:

• Non-banking financial companies;
• Gold financing;

♦ Investible funds means the total amount of funds committed by investors to the Alternative Investment Fund by way of a written contract or any such document as on a particular date;

♦ Private equity fund means an Alternative Investment Fund which invests primarily in equity or equity linked instruments or partnership interests of investee companies according to the stated objective of the fund;

REGISTRATION:–

Alternative Investment Funds shall seek registration in one of the categories mentioned hereunder

♦ Category I Alternative Investment Fund‖ which invests in start-up or early stage ventures or social ventures or SMEs or infrastructure or other sectors or areas which the government or regulators consider as socially or economically desirable and shall include venture capital funds, SME Funds, social venture funds, infrastructure funds and such other Alternative Investment Funds as may be specified;

Explanation.─ For the purpose of this clause, Alternative Investment Funds which are generally perceived to have positive spillover effects on economy and for which the Board or Government of India or other regulators in India might consider providing incentives or concessions shall be included and such funds which are formed as trusts or companies shall be construed as ―venture capital company‖ or ―venture capital fund‖ as specified under sub-section (23FB) of Section 10 of the Income Tax Act, 1961.

♦ Category II Alternative Investment Fund which does not fall in Category I and III and which does not undertake leverage or borrowing other than to meet day-today operational requirements and as permitted in these regulations;

Explanation.─ For the purpose of this clause, Alternative Investment Funds such as private equity funds or debt funds for which no specific incentives or concessions are given by the government or any other Regulator shall be included.

♦ Category III Alternative Investment Fund which employs diverse or complex trading strategies and may employ leverage including through investment in listed or unlisted derivatives.

Explanation.─ For the purpose of this clause, Alternative Investment Funds such as hedge funds or funds which trade with a view to make short term returns or such other funds which are open ended and for which no specific incentives or concessions are given by the government or any other Regulator shall be included.

INVESTMENT CONDITIONS AND RESTRICTIONS

 Investment in all categories of Alternative Investment Funds shall be subject to the following conditions:-

♦ the Alternative Investment Fund may raise funds from any investor whether Indian, foreign or non-resident Indians by way of issue of units;

♦ each scheme of the Alternative Investment Fund shall have corpus of atleast 20 crore rupees;

♦ the Alternative Investment Fund shall not accept from an investor, an investment of value less than 1 crore rupees: Provided that in case of investors who are employees or directors of the Alternative Investment Fund or employees or directors of the Manager, the minimum value of investment shall be twenty five lakh rupees.

♦ the Manager or Sponsor shall have a continuing interest in the Alternative Investment Fund of not less than 2.5 percent of the corpus or 5 crore rupees, whichever is lower, in the form of investment in the Alternative Investment Fund and such interest shall not be through the waiver of management fees:

Provided that for Category III Alternative Investment Fund, the continuing interest shall be not less than 5 percent of the corpus or 10 crore rupees, whichever is lower.

♦ No scheme of the Alternative Investment Fund shall have more than one thousand investors;

♦ The fund shall not solicit or collect funds except by way of private placement.

SCHEMES:-

♦ The Alternative Investment Fund may launch schemes subject to filing of placement memorandum with the Board. Such placement memorandum shall be filed with the Board atleast 30  prior to launch of scheme along with the fees as specified in the Second Schedule:

 TENURE:-

♦ Category I Alternative Investment Fund and Category II Alternative Investment Fund shall be close ended and the tenure of fund or scheme shall be determined at the time of application which is minimum of 3 Years.

♦ Category III Alternative Investment Fund may be open ended or close ended.

GENERAL CONDITION:-

♦ Category I and II Alternative Investment Funds shall invest not more than 25% of the corpus in one Investee Company;

♦ Category III Alternative Investment Fund shall invest not more than 10% of the corpus in one Investee Company

♦ Un-invested portion of the corpus may be invested in liquid mutual funds or bank deposits or other liquid assets of higher quality such as Treasury bills, CBLOs, Commercial Papers, Certificates of Deposits, etc. till deployment of funds as per the investment objective;

Conditions for Category I Alternative Investment Funds.

♦ Fund of Category I Alternative Investment Funds may invest in units of Category I Alternative Investment Funds of same sub-category: Provided that they shall only invest in such units and shall not invest in units of other Fund of Funds:

♦ at least 2/3^RD of the corpus shall be invested in unlisted equity shares or equity linked instruments of a venture capital undertaking or in companies listed or proposed to be listed on a SME exchange or SME segment of an exchange;

♦ not more than 1/3^RD  of the corpus shall be invested in:

• • subscription to initial public offer of a venture capital undertaking whose shares are proposed to be listed;
  • debt or debt instrument of a venture capital undertaking in which the fund has already made an investment by way of equity or contribution towards partnership interest;
  • preferential allotment, including through qualified institutional placement, of equity shares or equity linked instruments of a listed company subject to lock in period of one year;
  • the equity shares or equity linked instruments of a financially weak company or a sick industrial company whose shares are listed.

♦ Alternative Investment Funds may not borrow funds directly or indirectly and shall not engage in leverage except for meeting temporary funding requirements

Conditions for Category II Alternative Investment Funds

♦ Category II Alternative Investment Funds shall invest primarily in unlisted investee companies or in units of other Alternative Investment Funds as may be specified in the placement memorandum;

♦ Fund of Category II Alternative Investment Funds may invest in units of Category I or Category II Alternative Investment Funds: Provided that they shall only invest in such units and shall not invest in units of other Fund of Funds.

♦ Alternative Investment Funds may not borrow funds directly or indirectly and shall not engage in leverage except for meeting temporary funding requirements

Conditions for Category III Alternative Investment Funds

♦ Category III Alternative Investment Funds may invest in securities of listed or unlisted investee companies or derivatives or complex or structured products;

♦ Fund of Category II Alternative Investment Funds may invest in units of Category I or Category II Alternative Investment Funds: Provided that they invest solely in such units and shall not invest in units of other Fund of Funds.

♦ Category III Alternative Investment Funds may engage in leverage or borrow subject to consent from the investors in the fund and subject to a maximum limit

Investment in angel funds

♦ Angel funds shall only raise funds by way of issue of units to angel investors.

♦ An angel fund shall have a corpus of at least 10 crore rupees.

♦ Angel funds shall accept, up to a maximum period of three years, an investment of not less than twenty five lakh rupees from an angel investor.

♦ Angel fund shall raise funds through private placement by issue of information memorandum or placement memorandum, by whatever name called.

♦ No scheme of the angel fund shall have more than 200 angel investors.

Investment by Angel Funds

♦ Angel funds shall invest only in venture capital undertakings

♦ Investment by an angel fund in any venture capital undertaking shall not be less than 50 lakh rupees and shall not exceed 5 crore rupees.

♦ Investment by an angel fund in the venture capital undertaking shall be locked-in for a period of 3 years.

♦ Angel funds shall not invest in associates.

♦ Angel funds shall not invest more than 25% of the total investments under all its schemes in one venture capital undertaking:

Submission of reports to the Board.

♦ The Board may at any time call upon the Alternative Investment Fund to file such reports, as the Board may desire, with respect to the activities carried on by the Alternative Investment Fund.

Investment in an Indian Venture Capital Undertaking by a registered Foreign Venture Capital Investor

1. Investment by Foreign Venture Capital Investor.

♦ A registered Foreign Venture Capital Investor (FVCI) may, through the Securities and Exchange Board of India, apply to the Reserve Bank for permission to invest in Indian Venture Capital Undertaking (IVCU) or in a VCF or in a scheme floated by such VCFs. Permission may be granted by Reserve Bank subject to such terms and conditions as may be considered necessary

♦ The registered FVCI permitted by Reserve Bank under sub-paragraph (1), may purchase equity / equity linked instruments/ debt / debt instruments, debentures of a IVCU or of a VCF through Initial Public Offer or Private Placement or in units of schemes/funds set up by a VCF.

♦ The amount of consideration for investment in VCFs/IVCUs shall be paid out of inward remittance from abroad through normal banking channels or out of funds held in an account maintained with the designated branch of an authorised dealer in India in accordance with Para 2.

2. Maintenance of account by the registered FVCI for investment in IVCUs/ VCFs or schemes/funds set up by the VCFs.

The Reserve Bank may, on application, permit a FVCI which has received ‘in principle’ registration from SEBI to open a Foreign Currency Account and/or a Rupee Account with a designated branch of an authorized dealer with the following permissible transactions :

♦ Crediting inward remittance received through normal banking channels or the sale proceeds (net of taxes) of investments.

♦ Making investment in accordance with the provisions of paragraph 1 above.

♦ Transferring funds from the Foreign Currency Account of the FVCI to their own Rupee account.

♦ Remitting funds from the Foreign Currency or rupee account subject to payment of applicable taxes.

♦ Meeting local expenses of the FVCI.

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