AIF Taxation in India – Rates, Rules & Guide for Investors (2026 Update)

What are AIFs (Alternative Investment Funds)?

Alternative Investment Funds (AIFs) are pooled investment vehicles that collect capital from accredited investors to invest in a range of asset classes, such as equity, debt, real estate, or commodities. Unlike traditional investment vehicles like mutual funds, AIFs provide a broader investment universe, often focusing on sectors like infrastructure, private equity, hedge funds, and venture capital.

AIFs are regulated by the Securities and Exchange Board of India (SEBI), and they provide investors with the opportunity to invest in unconventional asset classes while navigating less-liquid markets. However, knowing the taxation implications of AIF investments is important for maximising returns and complying with Indian tax laws.

Definition and Types of AIFs (Category I, II, III)

AIFs are classified into three broad categories based on the nature of their investment activities and the corresponding regulatory framework. These categories are defined under SEBI’s AIF Regulations, 2012, and directly influence the taxability and treatment of these funds.

Category I AIFs

• Description: These funds primarily invest in sectors that are considered socially or economically beneficial. They include funds investing in start-ups, infrastructure, and social ventures.
• Taxation: Category I AIFs benefit from a pass-through status under Section 115UB of the Income-tax Act, 1961, meaning the income earned by the fund is not taxed at the fund level. Instead, it is taxed at the investor level based on their tax profile.
• Examples: Venture capital funds, social impact funds, infrastructure funds.

Category II AIFs

• Description: These funds invest in sectors that have a higher risk, but do not qualify for the special treatment of Category I AIFs. They may invest in unlisted companies and debt securities.
• Taxation: Similar to Category I AIFs, Category II funds also have pass-through taxation under Section 115UB. However, investors may still be subject to capital gains tax on their income.
• Examples: Private equity funds, hedge funds, structured funds.

Category III AIFs

• Description: These funds engage in more complex strategies, including investments in listed or unlisted derivatives, and may use leverage to enhance returns.
• Taxation: Category III AIFs are taxed at the fund level on income earned. Unlike Categories I and II, they do not receive pass-through taxation, meaning they are subject to tax at applicable rates on their profits before distributing earnings to investors.
• Examples: Hedge funds, arbitrage funds, long-short equity funds.

Key Differences Between Each Category of AIF

Category	Investment Focus	Taxation Type	Example
Category I	Socially and economically beneficial sectors	Pass-through taxation (Section 115UB)	Venture capital funds, infrastructure funds
Category II	High-risk sectors, unlisted companies, debt	Pass-through taxation (Section 115UB)	Private equity funds, debt funds
Category III	Listed and unlisted derivatives, leveraged strategies	Fund-level taxation	Arbitrage funds, long-short equity

• Pass-through taxation (Category I and II): Investors in these AIFs are taxed based on their own tax brackets, with income not being taxed at the fund level.
• Fund-level taxation (Category III): AIFs themselves are taxed on the income generated, and only the remaining profits are distributed to investors.

Why AIF Taxation Matters for Investors

Understanding the taxation rules for AIFs is essential for investors because it directly impacts the returns they receive. Here is why AIF taxation matters:

• Optimisation of investment strategies: Tax rules play a major role in shaping investment decisions. A clearer understanding of AIF taxation helps investors structure their portfolios efficiently to minimise tax liabilities while maximising returns.
• Tax liability planning: Depending on the category of AIF, investors may either face tax at the fund level or investor level. Knowing when and where taxes are levied helps investors plan and manage their liabilities more effectively.
• Risk management: Incorrect tax handling can significantly affect the overall returns of an AIF. For instance, not considering the implications of capital gains tax for Category III funds could lead to underperformance relative to market expectations.

Implications of Tax on Returns and Investment Strategies

The tax treatment of AIFs has far-reaching consequences on investor returns and portfolio strategies. Here is how taxes on AIFs can affect investment outcomes:

• Capital gains tax: The taxation of capital gains (short-term and long-term) can significantly influence the profitability of an investment in AIFs. After the 23 July 2024 amendments, long-term capital gains under Section 112A are taxed at 12.5% (up from 10%), and STCG under Section 111A is taxed at 20% (up from 15%). These rates apply to transfers on or after that date.
• Dividend and interest income: AIFs may also distribute dividends or interest income to investors, which are subject to taxes at varying rates based on the investor’s tax residency.
• Impact of carrying interest taxation for fund managers: In addition to taxes on investor returns, fund managers’ carried interest (a percentage of profits earned by the fund) is often subject to higher tax rates. Budget 2025 has clarified that carried interest will be treated as capital gains rather than salary or professional income.

Importance of Understanding Tax Rules for Optimising Investments

Incorporating tax efficiency into your investment strategy is a key driver for maximising long-term returns. Here are some strategies investors can use based on tax implications:

• Selecting the right AIF category: Investors should assess the tax implications of each AIF category before committing. Category I and II AIFs offer tax pass-through status, which may be more beneficial for certain investor profiles.
• Timing of investment and exit: Long-term investments in Category I and II AIFs may be eligible for preferential long-term capital gains tax rates. Timing the entry and exit from an AIF can therefore make a significant difference in the net returns.
• Using tax deductions: Investors in AIFs can take advantage of tax deductions and exemptions available under the Income Tax Act, particularly for investments in infrastructure and social sectors.
• Tax filing and documentation: Proper documentation of income earned from AIFs, including Form 64C and capital gains statements, is crucial to ensure compliance and avoid unnecessary tax liabilities.

Key AIF Taxation Terms and Rules in India

What is AIF Taxability?

AIF taxability refers to how the income generated by Alternative Investment Funds (AIFs) is treated under Indian tax law. AIFs are regulated by the Securities and Exchange Board of India (SEBI) and classified into three categories based on their investment strategies and the tax rules that apply to them. In India, AIFs typically benefit from a pass-through tax mechanism for Category I and II funds under Section 115UB of the Income-tax Act, 1961, which means the tax is not levied at the fund level but is passed on to the investors, who are then taxed based on their individual tax profiles.

Explaining the Taxability of AIFs Under Indian Law

The taxability of AIFs in India is governed by several provisions under the Income Tax Act, and the specific tax treatment depends on the category of AIF and the type of income generated. Here are the core aspects:

• Pass-through taxation (Categories I and II): For Category I and II AIFs, the income generated is not taxed at the fund level. The tax is passed on to the investors based on their individual tax status. This avoids double taxation. The governing provision is Section 115UB.
• Fund-level taxation (Category III): Category III AIFs are taxed at the fund level on income generated. The income distributed to investors is subject to taxes based on the investors’ individual tax status after fund-level tax has already been paid.
• Types of income and tax treatment: The income generated by AIFs can be categorised as:
  • Capital gains: Taxed at different rates depending on whether the gains are short-term or long-term, and on the asset type. Rates changed materially from 23 July 2024 (see below).
  • Interest and dividends: Income from debt securities or dividends is subject to tax at the investor level for Category I and II AIFs.
  • Business income: For AIFs investing in unlisted companies or conducting trading activities, income may be categorised as business income. For Category I and II AIFs, business income is taxed at the maximum marginal rate at the fund level and is exempt in the hands of investors.

Types of Income Generated by AIFs and Their Tax Treatment

AIFs can generate different types of income, each with its unique tax treatment. Here is a breakdown of the primary income types and their tax implications:

Type of Income	Tax Treatment
Capital gains – LTCG (equity, Section 112A)	12.5% on gains above ₹1.25 lakh (transfers on or after 23 July 2024)
Capital gains – STCG (equity, Section 111A)	20% (transfers on or after 23 July 2024)
Capital gains – other LTCG	12.5% without indexation (transfers on or after 23 July 2024)
Capital gains – other STCG	Taxed at investor’s slab rate
Dividend income	Taxed as per individual tax slab rates for investors, subject to withholding tax
Interest income	Taxed as per investor’s individual tax slab rates, subject to TDS deductions at source
Business income	Taxed at maximum marginal rate at fund level for all categories; exempt in investor’s hands for Category I and II

Capital gains rates after 23 July 2024: what changed for AIF investors

The Finance (No. 2) Act, 2024, effective from 23 July 2024, materially changed capital gains tax rates. Investors who compare AIF returns using old rates will arrive at incorrect post-tax numbers. The table below shows the updated position.

Capital gains rates applicable to transfers on or after 23 July 2024

Type of gain	Rate	Key condition
LTCG on listed equity and equity-oriented units – Section 112A	12.5% on gains above ₹1.25 lakh	Holding period more than 12 months; STT paid
STCG on listed equity and equity-oriented units – Section 111A	20%	Holding period up to 12 months; STT paid
LTCG on other assets (unlisted shares, debt, etc.)	12.5% without indexation	Holding period more than 24 months for unlisted shares; 36 months for debt
STCG on other assets	Investor’s applicable slab rate	Holding period below long-term threshold
LTCG on land or building (acquired before 23 July 2024)	12.5% without indexation, or 20% with indexation, whichever results in lower tax – available to resident individuals and HUFs only	Option applies only to resident individuals and HUFs

Three things to note for AIF investors specifically:

• Budget 2025 made no further changes to these rates. The rates above apply for FY 2025-26 (AY 2026-27) as well.
• For Category I and II AIFs, these rates apply at the investor level under the pass-through structure. The investor uses the rate applicable to the income character passed through by the fund.
• For Category III AIFs set up as trusts, fund-level tax is applied at the maximum marginal rate, which in FY 2025-26 works out to approximately 42.744% (30% base rate plus 37% surcharge plus health and education cess of approximately 4%).

The 15% surcharge cap: why income type matters for HNI investors

For investors with total income above ₹5 crore, surcharge can add materially to the headline tax rate. The key relief available under the Income Tax Act is that surcharge on capital gains under Sections 111A, 112, and 112A is capped at 15%, regardless of total income. There is no such cap on surcharge for interest income or business income, where it can rise to 25% or 37%.

This difference makes the income composition of a fund a significant factor for HNI investors. A private equity Category II AIF generating primarily capital gains from listed equity can be far more tax-efficient for a high-income investor than a private debt Category II AIF generating interest income taxed at slab rates.

Illustrative effective rates for an investor with income above ₹5 crore

Income type	Base rate	Surcharge	Cess (approx.)	Effective rate (approx.)
LTCG under Section 112A	12.5%	15% (capped)	1.875% x 4% = 0.075%	~14.95%
Interest income	30%	37%	41.1% x 4% = 1.644%	~42.744%

On the same gross return, the post-tax difference between these two income types for an HNI is approximately 27 percentage points. This is not a tax technicality – it is the difference between a fund delivering what it promises and one that quietly underperforms on an after-tax basis.

Common Misconceptions in AIF Tax Rules

Understanding the nuances of AIF taxation is critical, as there are several common misconceptions that can lead to unintended tax consequences:

1. Misconception: All AIFs are taxed at the fund level Reality: Only Category III AIFs are taxed at the fund level. Categories I and II have pass-through taxation under Section 115UB, where income is taxed at the investor level, not the fund level.
2. Misconception: Investors in AIFs do not pay taxes Reality: While AIFs in Categories I and II enjoy pass-through taxation, investors must still pay taxes on their share of income, including capital gains, dividends, and interest income.
3. Misconception: Only Category I AIFs are tax-exempt Reality: While Category I AIFs enjoy tax exemptions for certain types of income (like infrastructure investments), Category II also offers tax pass-through benefits. The tax treatment depends on the nature of income and the category of AIF.
4. Misconception: Tax on carrying interest is always favourable Reality: The taxation of carried interest (the percentage of profit earned by fund managers) is a complex issue and is subject to higher tax rates in some cases, depending on how it is classified (as capital gains or business income). Budget 2025 clarified that it should be treated as capital gains.
5. Misconception: Capital gains rates are still 10% LTCG and 15% STCG Reality: These rates were amended by the Finance (No. 2) Act, 2024, effective 23 July 2024. LTCG under Section 112A is now 12.5%, and STCG under Section 111A is now 20%. Projections using old rates will overstate post-tax returns.

Overview of AIF Tax Rules for Different Categories

Category I AIFs: Tax Pass-Through Status, Eligible Exemptions

Category I AIFs primarily invest in socially or economically beneficial sectors, such as startups, infrastructure, and social ventures. These funds enjoy pass-through taxation under Section 115UB, meaning the fund itself is not taxed on non-business income, and investors are directly taxed on their share of income.

• Tax pass-through benefit: Investors are taxed based on their individual income tax brackets. Income retains its character: capital gains remain capital gains, interest remains interest.
• Eligible exemptions: Income from investments in infrastructure or social sectors may qualify for exemptions under Section 10 of the Income Tax Act.
• Common investments: Venture capital, social impact funds, infrastructure funds.

Category II AIFs: Tax Treatment, Special Provisions

Category II AIFs invest in unlisted companies, private equity, and structured debt. These funds also benefit from pass-through taxation under Section 115UB, although they are subject to more complex tax rules than Category I AIFs.

• Taxation of income: Pass-through taxation applies for non-business income. Business income is taxed at the maximum marginal rate at the fund level.
• Special provisions: AIFs in this category may qualify for certain tax incentives for sectors like manufacturing or agriculture, depending on their investment focus.

Category III AIFs: Fund-Level Taxation and Investor-Level Taxation

Category III AIFs include hedge funds, arbitrage funds, and funds that use more complex strategies such as leverage or derivatives. These funds do not enjoy pass-through taxation under Section 115UB. Instead, the fund is taxed at the applicable rates on its income, and the investor is taxed on the distribution they receive.

• Fund-level taxation: These AIFs are taxed on the income they generate, including capital gains, interest, and business income. For trust structures, tax is applied at the maximum marginal rate.
• Investor-level taxation: Once the income is distributed, investors are taxed on their share of profits, which may include dividends, interest, and capital gains, depending on the nature of the fund’s investments.

AIF Category	Taxation Structure	Examples of Funds
Category I	Pass-through taxation, tax exemptions	Venture Capital Funds, Infrastructure Funds
Category II	Pass-through taxation, business income taxed at fund level	Private Equity Funds, Debt Funds
Category III	Fund-level taxation, investor-level taxation on distributions	Hedge Funds, Arbitrage Funds

Category II vs Category III: comparing post-tax outcomes

There is no universal answer on which category is better from a tax perspective. The right comparison is post-tax return, not headline return. The table below lays out where the two categories differ in ways that affect real money.

Factor	Category II AIF	Category III AIF	Why it matters
Tax level	Investor-level for non-business income	Often fund-level (trust MMR applies)	Changes post-tax return significantly
Income character retained	Yes, passes through as-is	Usually limited for investor-level planning	Capital gain benefit may matter for HNIs
Surcharge cap benefit	Investor can use 15% cap on capital gains	Usually not available if tax settled at fund level	Important for investors above ₹5 crore income
Loss treatment	Nuanced: see Section 115UB conditions	Usually not available as investor-level pass-through	Affects set-off planning
Filing complexity	Higher: investor must report pass-through income by type	May be simpler	Simple does not always mean better post-tax outcome
NRI DTAA flexibility	May be relevant at investor level	More limited depending on fund structure	Particularly important for NRI investors

The right framework: compare post-tax return, risk, liquidity, lock-in period, and reporting burden together. Do not compare gross IRR across categories and call it a fair comparison.

AIF Taxation in India: Rates and Regulations

AIF Tax Rates at the Fund Level

The taxation of AIFs in India varies depending on the category of the fund. AIFs are subject to different tax structures based on their investment focus and the type of income generated. These tax rates are important for both fund managers and investors.

Taxation Structure for Category I, II, and III AIFs

AIFs are divided into three categories by SEBI, each with distinct tax implications.

• Category I AIFs:
  • Tax structure: These funds benefit from pass-through taxation under Section 115UB. Income is not taxed at the fund level. The tax burden passes to the investors, who are taxed based on their individual tax status.
  • Common investments: Infrastructure, venture capital, social impact sectors.
  • Exemption: Certain incomes, such as those from infrastructure investments, are exempt under Section 10 of the Income Tax Act.
• Category II AIFs:
  • Tax structure: Similar to Category I, these funds also enjoy pass-through taxation. However, investors may be taxed on business income or capital gains depending on the type of investment.
  • Common investments: Private equity, hedge funds, and debt-focused funds.
• Category III AIFs:
  • Tax structure: Unlike Categories I and II, Category III AIFs are taxed at the fund level. The fund itself pays taxes on the income generated, and then the profits are distributed to investors, who are then taxed on the amount received.
  • Common investments: Hedge funds, arbitrage funds, and funds with complex strategies using derivatives or leverage.

AIF Category	Tax Structure	Examples
Category I	Pass-through taxation	Venture Capital Funds, Infrastructure Funds
Category II	Pass-through taxation	Private Equity Funds, Debt Funds
Category III	Fund-level taxation	Hedge Funds, Arbitrage Funds

Capital Gains Tax

Capital gains tax is one of the most significant tax considerations for AIFs and their investors. The tax rate depends on the holding period of the assets and whether the gains are classified as short-term or long-term. Rates were revised materially by the Finance (No. 2) Act, 2024, effective 23 July 2024. Budget 2025 made no further changes to these rates.

Short-term and Long-term Capital Gains Tax for AIFs and Investors

• Short-term capital gains (STCG):
  • Category I and II AIFs: STCG on equity-oriented assets under Section 111A is taxed at 20% (for transfers on or after 23 July 2024). STCG on other assets is taxed at the investor’s slab rate.
  • Category III AIFs: Tax is applied at the fund level at the applicable rate before distribution.
• Long-term capital gains (LTCG):
  • Category I and II AIFs: LTCG under Section 112A (listed equity held more than 12 months) is taxed at 12.5% on gains above ₹1.25 lakh. Other LTCG is taxed at 12.5% without indexation for transfers on or after 23 July 2024.
  • Category III AIFs: LTCG is taxed at the fund level.

Type of Capital Gain	Rate (transfers on or after 23 July 2024)	Section
LTCG on listed equity and equity-oriented units	12.5% on gains above ₹1.25 lakh	112A
STCG on listed equity and equity-oriented units	20%	111A
LTCG on other assets	12.5% without indexation	112
STCG on other assets	Investor’s slab rate	Regular provisions

Recent Updates Under the 2025 Budget on Capital Gains

• Budget 2025 made no changes to the capital gains tax rates introduced by the Finance (No. 2) Act, 2024. The 12.5% LTCG and 20% STCG rates continue to apply for FY 2025-26.
• Budget 2025 also included a clarificatory amendment to the definition of “capital asset” to expressly cover securities held by investment funds specified under Section 115UB. This applies from AY 2026-27.
• The Finance Bill 2025 also amended Section 115AD to bring the LTCG rate for specified funds and FIIs (for gains not covered under Section 112A) to 12.5%, effective from AY 2026-27.
• Carried interest has been clarified to be treated as capital gains rather than salary or professional income.

The updates are aimed at making India an attractive destination for global investors and ensuring the alignment of AIF taxation with international standards.

Other Taxes on AIF Funds

AIFs in India are subject to several other taxes beyond capital gains. Investors need to know these to ensure compliance and optimise returns.

Securities Transaction Tax (STT)

• What is STT?: STT is a tax levied on the purchase and sale of securities listed on recognised stock exchanges in India.
• Tax implication for AIFs: AIFs investing in listed securities or derivatives are subject to STT on each transaction, which affects the fund’s returns. The rate of STT varies depending on the type of transaction.

Transaction Type	STT Rate
Equity shares (Sale)	0.1% of the transaction value
Equity shares (Purchase)	0.1% of the transaction value
Derivatives	0.05% of the transaction value

Dividend Distribution Tax (DDT)

• What is DDT?: DDT is a tax imposed on the dividends declared by a company.
• Tax implication for AIFs: AIFs investing in companies that declare dividends will be subject to DDT at the rate applicable. This tax is paid by the company before distributing dividends to AIFs or investors.

Current DDT rate: 15% on dividends paid by domestic companies.

Tax on Carried Interest for Fund Managers

Carried interest is the share of the profits that fund managers receive for successfully managing an AIF. The taxation of carried interest is complex and often a source of confusion.

• Tax treatment of carried interest:
  • Capital gains: Budget 2025 clarified that carried interest, being the fund manager’s share of profits from an AIF, will be treated as capital gains (taxed at 10%, 12.5%, or 20% depending on holding period and asset type from AY 2026-27), rather than as salary or professional income.
  • Business income: Prior to this clarification, carried interest could be classified as business income and taxed at a higher rate.

Fund managers must structure their carried interest compensation carefully to minimise their tax liabilities while ensuring compliance with Indian tax laws.

TDS Obligations for AIFs

AIFs in India are subject to Tax Deducted at Source (TDS) obligations, which require them to deduct tax before distributing income to their investors. The rates for TDS depend on the type of income. For Category I and II AIFs, TDS on income paid or credited to investors is governed by Section 194LBB.

Type of Income	TDS Rate for Residents	TDS Rate for Non-Residents
Interest income	10%	20% (unless a lower rate applies under DTAA)
Dividend income	10%	20% (unless a lower rate applies under DTAA)
Capital gains (short-term)	20% (Section 111A rate)	As applicable (DTAA may apply)
Capital gains (long-term)	12.5% above ₹1.25 lakh (Section 112A)	As applicable

TDS deduction: AIFs are required to comply with TDS regulations by deducting tax at source and submitting it to the government. This ensures that tax is paid at the correct rate for investors.

10% TDS under Section 194LBB is not your final tax liability

This is one of the most common errors AIF investors make, and it leads to advance tax shortfalls and interest under Sections 234B and 234C.

Section 194LBB requires the AIF to deduct TDS at 10% on income paid or credited to resident investors. However, 10% is not the final rate for most income types. If the pass-through income is interest, your effective rate could be 30% plus surcharge plus cess. If it is STCG under Section 111A, the rate is now 20%.

Worked example: You receive ₹8 lakh of interest income from a Category II debt AIF. TDS deducted at 10% = ₹80,000. If your effective rate on interest income at the 30% slab with 37% surcharge and cess works out to approximately 42.744%, your actual tax liability on ₹8 lakh is approximately ₹3,41,952. The shortfall of approximately ₹2,61,952 must be covered through advance tax.

Advance tax due dates to track

Due date	Cumulative % due	Practical implication for AIF investors
15 June	15%	Fund may not have distributed yet. Estimate based on forecast or prior year.
15 September	45%	Use Form 64C or distribution notices to recalibrate.
15 December	75%	Adjust for any late distribution or shortfall.
15 March	100%	Final true-up. Do not discover the shortfall here.

When a distribution notice or Form 64C arrives, treat it as an advance tax trigger, not just a receipt.

AIF Taxation at Investor Level: Resident vs Non-Resident

In India, the tax obligations for investors in AIFs differ significantly based on their residency status. This section breaks down the key tax rules for both resident and non-resident investors, including capital gains tax, TDS implications, and other key considerations.

Tax on AIF in India: Resident Investors

Resident investors in India are subject to tax on their share of the income generated by their investments in AIFs. The tax treatment varies depending on the type of income and the investor’s individual tax bracket.

Tax Rates Applicable to Resident Investors

• Capital gains tax:
  • STCG under Section 111A: 20% for transfers on or after 23 July 2024.
  • LTCG under Section 112A: 12.5% on gains above ₹1.25 lakh.
  • Other LTCG: 12.5% without indexation for transfers on or after 23 July 2024.
• Interest income: Taxed according to the individual’s income tax slab, ranging from 5% to 30%.
• Dividend income: Taxed according to the investor’s income tax slab. TDS is generally deducted at 10% on dividends paid by Indian companies.

Tax on Income from AIFs for Individuals and Entities

• Individual investors: Individuals pay tax on income derived from AIFs, including capital gains, interest, and dividends. These are added to their total income and taxed based on their tax bracket.
• Corporate entities: Corporate investors are subject to corporate tax rates on their share of AIF income. For capital gains, the applicable rates follow the nature of the gain and the holding period.

TDS Deductions and Compliance for Residents

Type of Income	TDS Rate for Resident Investors
Interest income	10%
Dividend income	10%
Short-term capital gains (Section 111A)	20% (updated post-July 2024)
Long-term capital gains (Section 112A)	12.5% above ₹1.25 lakh

Capital Gains Tax for Residents

Short-Term Capital Gains (STCG)

• Tax rate: 20% for listed equity and equity-oriented units under Section 111A (transfers on or after 23 July 2024). Slab rate for other STCG.
• Applicable to: Investments in equities, equity-oriented units, and other securities by resident investors.

Long-Term Capital Gains (LTCG)

• Tax rate: 12.5% under Section 112A on gains above ₹1.25 lakh; 12.5% without indexation for other LTCG under Section 112.
• Taxable on: Equity investments, unlisted shares, real estate, and listed securities.

Example Table: Breakdown of Tax Treatment for Resident Investors

Investment Type	Holding Period	Tax Treatment for Resident Investors
Equity shares (listed)	Less than 12 months	20% on gains (Section 111A)
Equity shares (listed)	More than 12 months	12.5% on gains above ₹1.25 lakh (Section 112A)
Unlisted shares	Less than 24 months	Slab rate
Unlisted shares	More than 24 months	12.5% without indexation (Section 112)
Real estate	Less than 24 months	Slab rate
Real estate (acquired before 23 July 2024, sold after)	More than 24 months	12.5% without indexation, or 20% with indexation, whichever is lower (resident individuals and HUFs only)

Taxes on AIF in India: Non-Resident Investors

Non-resident investors, including NRIs and foreign entities, are subject to different tax rules when investing in AIFs in India. These rules mainly concern the rates of TDS (Tax Deducted at Source) and the applicability of tax exemptions based on their country of residence.

Tax Rates for Non-Residents, Including NRIs and Foreign Investors

• STCG: 20% under Section 111A for transfers on or after 23 July 2024. Subject to DTAA provisions.
• LTCG: 12.5% under Section 112A above ₹1.25 lakh. For gains not covered under Section 112A, the rate is 12.5% without indexation from AY 2026-27 (Finance Bill 2025 amendment to Section 115AD).
• Interest income: Taxed at 20% for non-resident investors. This rate may vary depending on the DTAA between India and the investor’s country.
• Dividend income: Taxed at 20% on dividend income distributed by Indian companies. DTAA may reduce this rate for foreign investors.

TDS Implications and Exemptions for Non-Residents

Type of Income	TDS Rate for Non-Residents	DTAA Exemption
Interest income	20%	Reduced if applicable under DTAA (e.g., Singapore or Mauritius treaties can bring this to 5-10%)
Dividend income	20%	Reduced rates under DTAA
STCG (Section 111A)	20%	Based on applicable treaty
LTCG (Section 112A)	12.5% above ₹1.25 lakh	Based on applicable treaty

Key Considerations for Foreign Investors in AIFs

Foreign investors in AIFs should consider the following key points when investing:

• Tax treaties: Double Taxation Avoidance Agreements (DTAA) between India and the investor’s home country can help reduce the TDS rate on dividends, capital gains, and interest income. Treaties with Singapore and Mauritius, for example, can reduce TDS on interest/dividends from ~30% to 5-10%.
• Filing requirements: Non-resident investors must comply with India’s tax filing requirements, including the submission of Form 15CA/15CB for remittance of funds to foreign entities.
• Repatriation of funds: Non-residents should be aware of the restrictions and requirements for repatriating profits from AIFs to their home countries. Repatriation requires complying with FEMA (Foreign Exchange Management Act) guidelines.

NRI investor pre-investment and pre-distribution checklist

The timing of documentation submission for NRI investors has direct financial consequences. TDS may be deducted at a higher rate if the documentation is not submitted before distribution, and refunds through ITR can be delayed.

Stage	What the NRI investor must check
Before investing	Fund category, expected income type (interest vs capital gains), DTAA eligibility
Before distribution	Submit valid TRC (Tax Residency Certificate) and Form 10F to the AIF/fund administrator
At TDS stage	Verify whether treaty rate or rates in force have been applied
Before filing ITR	Match Form 64C with AIS and Form 26AS; reconcile before submission
Before remittance	Check Form 15CA/15CB and bank requirements

Timing matters: submit TRC and Form 10F before distribution. If submitted late, higher TDS may already have been deducted and the refund must come through ITR.

Chart: Tax Rates Comparison for Residents and Non-Residents

Income Type	TDS Rate for Resident Investors	TDS Rate for Non-Resident Investors
Interest income	10%	20%
Dividend income	10%	20%
STCG (Section 111A)	20%	20%
LTCG (Section 112A)	12.5% above ₹1.25 lakh	12.5% above ₹1.25 lakh

AIF Loss Treatment: What Can Investors Claim and What Stays at the Fund

This is one of the most misunderstood aspects of AIF taxation, and getting it wrong in an ITR causes mismatches and notices.

The short answer is: it depends on the type of loss and on the Section 115UB conditions, particularly whether the investor held the units for the required period.

Type of loss	Can investor use it?	Explanation
Business loss (Category I and II AIF)	No	Business loss stays at the fund level. The AIF carries it forward. It does not pass through to investors.
Capital loss (non-business loss)	May pass through	Subject to Section 115UB conditions including the required unit holding period.
Loss where units are not held for required period	May not pass through	If the unit holding period condition under Section 115UB is not met, the loss may not be available for investor-level pass-through.
Category III AIF loss	Generally not available	Since tax is settled at the fund level, investor-level loss claims are very limited.

Rules for using pass-through capital losses:

• Short-term capital losses (STCL) from the AIF can be set off against both STCG and LTCG in the investor’s hands.
• Long-term capital losses (LTCL) from the AIF can only be set off against LTCG.
• Losses can be carried forward for up to 8 years, provided they are reported in the ITR filed within the due date.
• Unabsorbed business losses of an AIF are never passed on to investors.

Practical guidance: do not assume all losses are available to you, and do not assume none are. Match Form 64C carefully before ITR reporting. If Form 64C shows a loss, verify the type and check whether your unit holding period qualifies before claiming it in Schedule CG.

AIF Tax Exemptions and Deductions

Tax Exemptions for Certain Types of Income

India offers specific tax exemptions for AIFs, primarily aimed at promoting investments in sectors that contribute to the country’s growth, such as infrastructure and social ventures. These exemptions are designed to incentivise investments that are aligned with national economic and social development goals.

Exemptions Available Under Section 10 of the Income Tax Act

• Section 10 exemption: Section 10 of the Income Tax Act provides exemptions for income generated from investments in certain sectors. AIFs focusing on infrastructure, social welfare, and other specific sectors can benefit from these exemptions. For example:
  • Infrastructure Investment Funds (Category I AIFs): Income generated from investments in infrastructure projects may qualify for tax exemptions under Section 10 of the Income Tax Act.
  • Social Venture Funds: AIFs that invest in sectors like healthcare, education, or renewable energy can also avail of similar exemptions to encourage socially responsible investments.

Income Generated from Certain Investments (Like Infrastructure or Social Ventures)

• Infrastructure investments: AIFs that focus on infrastructure projects, such as roads, bridges, ports, and renewable energy, are eligible for exemptions under Section 10. These exemptions are part of India’s initiative to boost infrastructure development.
• Social venture investments: AIFs that focus on investments in healthcare, education, and other social ventures may also receive exemptions to encourage investments in these socially impactful sectors. This is a key feature of Category I AIFs, where tax incentives are provided for supporting sectors of national interest.

AIF Tax Exemptions Chart: Summary of Exempt Income Categories

Type of Income	Exemption Criteria	Applicable AIF Categories
Infrastructure income	Exempt under Section 10 for infrastructure investments	Category I AIFs
Social venture income	Exempt under Section 10 for investments in social ventures	Category I AIFs
Income from startups	Exempt for investments in startups, under specific conditions	Category I AIFs
Income from venture capital	Exempt under certain conditions for supporting innovation	Category I AIFs

This exemption structure helps make investments in India’s critical sectors more attractive by lowering the tax burden on income derived from these sectors.

Deductions Available to AIFs and Investors

AIFs and their investors can also benefit from various deductions under Indian tax laws, which can further optimise their tax liabilities. These deductions primarily cover administrative expenses and investment-linked benefits for investors.

Deduction Options for AIFs on Administrative Expenses

AIFs can claim deductions on expenses related to fund management, including management fees, legal and audit fees, regulatory compliance costs, and employee salaries. These deductions are important for AIFs to minimise their taxable income, particularly for Category III AIFs, which are taxed at the fund level. AIFs may also claim deductions for other operational costs related to maintaining the fund, such as office rent and technology infrastructure, which directly reduce the fund’s taxable income.

Investment-Linked Deductions for Investors

Investors in AIFs can also take advantage of investment-linked deductions under the Income Tax Act, particularly in Category I AIFs investing in infrastructure and social ventures.

• Tax benefits for Category I AIFs: Investors in Category I AIFs may claim deductions under Section 80C for investments made in socially beneficial sectors.
• Long-term capital gains: Investors in AIFs can benefit from lower long-term capital gains tax rates when holding investments for more than the prescribed period, especially for infrastructure or socially responsible projects.

Key Deductions Available to Investors in AIFs

• Deduction under Section 80C: For investments made in infrastructure or social impact AIFs (Category I).
• Capital gains tax rates: Lower rates for long-term capital gains compared to short-term or interest income.
• Deductions on administrative expenses: AIFs can deduct management, legal, audit, and operational costs from taxable income.
• TDS credit: Investors can claim a refund of TDS deducted on interest, dividends, and capital gains if the tax deducted exceeds the actual tax liability.
• Carry forward of losses: Investors can carry forward capital losses from one fiscal year to offset future capital gains, subject to Section 115UB conditions.

Questions to Ask Before Investing in an AIF

Before committing capital to an AIF, ask the fund manager or distributor these questions. The answers determine your post-tax return profile far more than the gross IRR.

• Which SEBI category is this AIF, and what is the specific investment strategy?
• Is income pass-through (Section 115UB) or taxed at fund level?
• What type of income will the strategy mainly generate: capital gains, interest, or business income?
• Is the projected return figure gross or post-tax, and what tax rate is assumed in the illustration?
• Will Form 64C be issued, and by when? (Form 64D is due 15 June; Form 64C is due 30 June of the following financial year.)
• What TDS rate will apply on distributions?
• How are losses treated? Does the fund pass through capital losses to investors?
• Does the fund provide a tax note in the PPM or separately?
• For NRI investors: can DTAA be applied at the TDS stage, and what documents are required before distribution?
• What is the advance tax planning implication for investors at the 30% slab?

Common Mistakes AIF Investors Make

These errors show up repeatedly and they all reduce post-tax returns.

• Comparing gross IRR instead of post-tax return: The real return is after tax, fees, surcharge, cess, and timing of cash flows. Two funds with identical gross IRR can have 15-20% difference in after-tax returns based purely on income composition.
• Assuming AIFs work like mutual funds: AIF income passes through under different heads with different tax treatment. A distribution from a Category II AIF is not the same as a mutual fund redemption.
• Assuming TDS under Section 194LBB is final tax: 10% TDS may be far lower than your actual liability on interest or STCG income. The advance tax shortfall can attract interest under Sections 234B and 234C.
• Ignoring Form 64C: This is the primary document for reporting AIF income in your ITR. Missing it, misreading it, or not reconciling it with AIS creates notices.
• Using pre-July 2024 capital gains rates: LTCG is now 12.5% (not 10%) and STCG under Section 111A is now 20% (not 15%). All projections and return illustrations based on old rates overstate net returns.
• Assuming all losses can be claimed: Loss treatment depends on the type of loss and Section 115UB conditions. Business losses stay at the fund. Capital losses pass through only if unit holding conditions are met.
• Submitting NRI documents late: Late submission of TRC or Form 10F results in higher TDS being deducted and a refund process through ITR.
• Not planning advance tax: AIF income creates tax liability even when cash flow from the fund is irregular. Advance tax must be estimated and paid across four due dates in the financial year.

AIF Tax Filing and Compliance in India

AIF Tax Filing for Funds

Tax filing for AIFs in India is a critical part of regulatory compliance. It involves the accurate reporting of income, deductions, and taxes paid on behalf of investors. Here is a detailed overview of the tax filing process for AIFs, including forms, deadlines, and penalties for non-compliance.

Tax Filing Process for AIFs in India

• Annual tax filing: AIFs are required to file tax returns annually under Section 139(1) of the Income Tax Act, 1961. This applies to all registered AIFs, including Category I, II, and III.
• Filing at the fund level: For Category III AIFs, taxes are paid at the fund level, and returns are filed by the fund manager. The income earned by the fund is reported along with deductions, such as administrative expenses, and tax payments.
• Pass-through taxation: For Category I and II AIFs, the income generated is passed on to investors and taxed at the investor level. However, AIFs must still file tax returns, detailing the income earned and its distribution among investors, and must also file Form 64D by 15 June of the following financial year.

Key Forms and Deadlines for Tax Filing

• Income Tax Return (ITR) Forms:
  • ITR-7: AIFs are required to file their returns using ITR-7 for trusts, associations, and specific other entities.
  • ITR-5: This form is used for partnership firms, LLPs, and other similar entities that are not trusts but have investors.
• Filing deadlines:
  • AIF tax return deadline: generally 30 September of the assessment year, unless extended by the tax authorities.
  • Audit requirement: AIFs with a turnover of over ₹1 crore must undergo an audit and submit the audit report by the same deadline.
  • Form 64D: due by 15 June of the following financial year.
  • Form 64C: due by 30 June of the following financial year.

Penalties for Non-Compliance

Failure to file tax returns on time or improper reporting of income can lead to significant penalties:

• Late filing penalty: A late fee of up to ₹5,000 for returns filed after the due date but before 31 December of the assessment year.
• Underreporting of income: If there is an underreporting of income, AIFs may be penalised with a fine of 50% of the tax under-reported.
• Non-filing: Failure to file tax returns can result in penalties up to ₹10,000 or higher, depending on the severity of the violation.

Step-by-Step Guide: Filing Taxes as an AIF in India

1. Collect financial data: Ensure all income generated by the AIF, including capital gains, interest, and dividends, is accurately recorded.
2. Determine applicable taxes: Identify the tax treatment based on the AIF category (pass-through or fund-level taxation).
3. Fill the relevant ITR form: Use ITR-7 or ITR-5, depending on the AIF’s structure, and ensure all income and expenses are included.
4. Submit supporting documents: Attach financial statements, tax audits, and Form 15CA/15CB (for non-resident investors).
5. Pay taxes: If applicable, ensure the tax is paid before submission.
6. Submit the return: File the return electronically or manually by the due date.

Investor Compliance and Reporting

Investors in AIFs also need to comply with tax reporting requirements, particularly when it comes to TDS (Tax Deducted at Source) certificates and other documentation for accurate tax filing.

What Investors Need to Report on Their Tax Returns

Investors in AIFs must report the income received from their investments on their annual tax returns. This includes capital gains (long-term and short-term, separately), interest income received from the AIF subject to TDS deductions, and dividend income.

TDS Certificates and Their Significance

TDS certificates are necessary for investors to verify the tax already paid on their behalf by the AIF. Investors must ensure that they receive the TDS certificate, as it is essential for filing tax returns and claiming refunds if excess tax has been deducted.

• For resident investors: The TDS rate varies by income type. See the TDS table above under Section 3.3.4.
• For non-resident investors: The TDS rate may be higher (20%) unless reduced by the DTAA. Higher TDS deducted can be reclaimed through ITR.

How to read your Form 64C and report AIF income in your ITR

Form 64C is not just a receipt. It is the primary document that tells you what the AIF is treating as income in your hands, how it is classified by income type, and how much TDS was withheld. Missing or misreading it is the single most common cause of AIF-related ITR notices.

Form 64C to ITR schedule mapping

Form 64C income type	ITR schedule	Reporting note
Long-term capital gains – equity (Section 112A)	Schedule CG: LTCG 112A	Report gross capital gain; exemption of ₹1.25 lakh applies
Short-term capital gains (Section 111A)	Schedule CG: STCG 111A	Report under capital gains at 20%
Other LTCG	Schedule CG: LTCG others	Report at 12.5% without indexation
Interest income	Schedule OS	Report as other sources income at slab rate
Dividend income	Schedule OS: dividends	Report as dividend income
TDS withheld	Schedule TDS	Claim as credit; do not deduct from gross income

Investor reporting checklist

1. Collect Form 64C from the AIF or fund administrator before filing your ITR.
2. Identify each income head separately: capital gains, interest, dividend, or other income.
3. Reconcile Form 64C with AIS (Annual Information Statement) and Form 26AS before filing. Mismatches trigger notices.
4. Report gross income in each schedule. Do not report only net-of-TDS income.
5. Claim TDS credit separately in Schedule TDS. Do not net it against income.
6. Check advance tax paid against total liability. If there is a shortfall, pay self-assessment tax before filing.

Checklist: Investor Tax Filing Documentation for AIFs

For a smooth tax filing process, investors should gather the following documents:

• Form 64C: Issued by the AIF by 30 June of the following financial year.
• Form 15CA/15CB: Required for non-resident investors when remitting funds.
• TDS certificates: To verify the tax deducted on dividends, interest, and capital gains.
• Investment statements: A statement from the AIF detailing the income received, TDS deductions, and other relevant details.
• Capital gains reports: A breakdown of short-term and long-term capital gains, including the dates of purchase and sale.
• Bank statements: To confirm the amounts received from AIFs.
• PAN card and Aadhaar details: For verification and linking of tax filings.

Document Type	Purpose
Form 64C	Primary document for AIF income reporting in ITR
Form 15CA/15CB	For non-resident investors’ tax remittance
TDS certificate	To verify tax deductions at source
Investment statement	To summarise income and TDS from AIFs
Capital gains reports	To calculate and report capital gains by type
Bank statements	To verify income received from AIFs

SEBI Regulatory Updates: What AIF Investors Must Track

Dematerialisation mandate for AIF investments

SEBI amended the AIF Regulations, 2012, vide notification dated 5 January 2024, and issued a circular on 12 January 2024 (Circular No. SEBI/HO/AFD/PoD/CIR/2024/5), mandating that AIFs hold their investments in dematerialised form. SEBI subsequently relaxed the timeline in February 2025.

The current position is as follows:

• All investments made by an AIF on or after 1 July 2025 must be held in dematerialised form.
• Investments made prior to 1 July 2025 that fall under specified conditions (where the investee company is mandated to dematerialise or where the AIF exercises control) must be dematerialised by 31 October 2025.
• Investments not falling under those conditions, and made before 1 July 2025, are exempt from the dematerialisation requirement.
• Schemes of an AIF whose tenure ends on or before 31 October 2025, and schemes already in extended tenure as of 14 February 2025, are exempt from the mandate.

What this means for investors: From an investor perspective, this improves transparency, reduces the risk of unit fraud, and aligns AIF operations with mainstream capital markets. For investors tracking NAV and unit holdings, dematerialisation makes reconciliation with depositories more reliable.

Custodian appointment mandate

The same SEBI amendment extended the mandatory appointment of custodians to all AIFs, regardless of corpus size. Previously, only Category III AIFs and Category I and II AIFs with corpus above ₹500 crore were required to appoint a SEBI-registered custodian.

The deadline for Category I and II AIFs with corpus of ₹500 crore or less was 31 January 2025. All new AIFs set up after 5 January 2024 are required to appoint a custodian before commencing investments.

The custodian is responsible for safekeeping AIF securities and must report investment data to SEBI in the format specified by the Standard Setting Forum for AIFs (SFA), in accordance with the Master Circular for AIFs dated 7 May 2024.

Impact of Recent Changes in AIF Tax Laws

2025 Budget Impact on AIF Taxation

The 2025 Union Budget has introduced several key changes to AIF taxation in India, reflecting the government’s efforts to simplify tax processes and attract more investment into the Indian market. These changes have significant implications for both domestic and foreign investors involved in Alternative Investment Funds (AIFs).

Summary of Changes to Tax on AIFs in the Latest Budget

• Clarification on capital asset definition: Finance Bill 2025 included a clarificatory amendment to the definition of “capital asset” under Section 2(14) to expressly cover securities held by investment funds specified under Section 115UB. This applies from AY 2026-27 and removes ambiguity that existed in earlier assessments.
• Carried interest clarification: The Union Budget 2025 clarified that carried interest, the fund manager’s share of profits, will be treated as capital gains (taxed at applicable capital gains rates) rather than as salary or professional income. This provides more predictable tax obligations for fund managers.
• Rationalisation of Section 115AD for non-residents: Finance Bill 2025 amended Section 115AD to align the LTCG rate for specified funds and FIIs (for gains not covered under Section 112A) to 12.5% from AY 2026-27, harmonising the rate with the general LTCG rate.
• No further changes to capital gains rates: Budget 2025 retained the rates introduced by the Finance (No. 2) Act, 2024. The 12.5% LTCG and 20% STCG (Section 111A) rates continue for FY 2025-26.

Key Shifts for Both Domestic and Foreign Investors

• Domestic investors:
  • LTCG rate is now 12.5% on gains above ₹1.25 lakh (up from 10% and ₹1 lakh pre-July 2024). This slightly reduces post-tax returns on equity-heavy Category I and II AIFs compared to pre-2024 projections.
  • Carry-forward of capital losses from AIFs can be adjusted against future capital gains, subject to Section 115UB conditions.
• Foreign investors:
  • LTCG on securities not covered under Section 112A is now 12.5% from AY 2026-27, removing the prior 10% rate for specified funds under Section 115AD.
  • NRIs continue to be eligible for DTAA benefits. TRC and Form 10F must be submitted before distribution to access treaty rates.

Comparison Table: Tax Rates Before and After July 2024/Budget 2025

Tax Type	Before 23 July 2024	From 23 July 2024 onwards
LTCG on listed equity (Section 112A)	10% on gains above ₹1 lakh	12.5% on gains above ₹1.25 lakh
STCG on listed equity (Section 111A)	15%	20%
Other LTCG	20% with indexation	12.5% without indexation
Other STCG	Slab rate	Slab rate (no change)
Carried interest	Ambiguous; could be treated as income	Clarified as capital gains from AY 2026-27

These changes affect projections for all AIF investors. Any illustration prepared using pre-July 2024 rates understates the tax liability on equity STCG and overstates the LTCG benefit by incorrectly using the lower ₹1 lakh exemption.

Future Trends in AIF Taxation

Looking ahead, India’s approach to AIF taxation is expected to evolve further, with more reforms likely to take place in response to global investment trends and domestic economic needs.

How the Indian Government is Likely to Handle AIF Tax Laws Moving Forward

• Focus on attracting foreign capital: India will likely continue to ease tax regulations for foreign investors in AIFs, creating a favourable environment to attract global capital. This may include further reductions in TDS rates, simplifying tax filing processes for international investors, and ensuring that India remains competitive with other investment hubs like Singapore and Dubai.
• Promotion of socially responsible investing: The government may increase incentives for AIFs focusing on socially responsible investments (SRI), such as renewable energy, affordable housing, and healthcare. This could include enhanced tax exemptions for AIFs investing in these sectors, in line with the government’s sustainability goals.
• Streamlining fund-level taxation: There is a possibility that the government will introduce further reforms to simplify fund-level taxation, especially for Category III AIFs, where the taxation process can be complex and burdensome for fund managers.

Predictions for Future Tax Reforms

• Further reduction in capital gains tax: It is expected that the Indian government will continue to align capital gains tax rates with global trends to make India a more attractive destination for long-term investments.
• Harmonising tax laws with international standards: India is likely to continue aligning its tax laws with international standards, particularly through bilateral tax treaties (DTAAs). This will reduce the tax burden on foreign investors and encourage more international capital to flow into Indian AIFs.
• Digital taxation reforms: As digital platforms for AIFs and online investments grow, the government might introduce reforms to address digital transactions involving AIFs, ensuring the taxation structure is well-suited to the evolving financial ecosystem.

Expert Opinions on the Impact of Changes to Investors

AIF Experts believe the 2024-25 reforms will significantly impact both domestic and foreign investors in AIFs:

• “The rationalisation of capital gains rates and the clarification on carried interest taxation will make India an attractive destination for international fund managers, who will benefit from more predictable tax obligations.”
• “The carry-forward of capital losses provision for AIF investors provides greater flexibility in tax planning, allowing for more efficient use of tax-saving strategies across multiple years.”
• “NRI investors who submit TRC and Form 10F before distributions can see materially lower TDS rates under DTAA treaties, making Category I and II AIFs genuinely competitive with offshore alternatives.”

AIF taxation in India is essential for investors seeking to optimise returns while ensuring compliance with the country’s tax regulations. From understanding the differences in tax treatment for Category I, II, and III AIFs to the updated capital gains rates post-July 2024, Form 64C reporting, loss pass-through mechanics, and SEBI’s dematerialisation mandate, investors and fund managers need to stay current on every dimension. As AIF tax laws continue to evolve, staying informed about these regulatory changes will help both domestic and international investors make well-informed decisions, minimise tax liabilities, and maximise investment potential.

FAQs on Taxation for AIFs in India

Q: How are Category I and II AIFs taxed in India?
A: Category I and II AIFs have a statutory pass-through status for all income except for business income under Section 115UB. This means the income is taxed directly in the hands of the investor in the same character as if they had earned it themselves. The AIF itself is exempt from tax on this income. However, any business income is taxed at the fund level at 30% plus surcharge and cess.

Q: What is the tax treatment for Category III AIFs?
A: Unlike the other categories, Category III AIFs do not have a pass-through tax regime. The income of these funds is taxed at the fund level, depending on their legal structure (trust, LLP, or company). For trust structures, tax is levied at the applicable maximum marginal rate for that year, computed based on prevailing rates, surcharge, and cess, which works out to approximately 42.744% for FY 2025-26.

Q: How are capital gains from AIFs taxed in India?
A: Capital gains from AIFs are taxed based on the holding period and the type of asset. After the 23 July 2024 amendments: LTCG on equity-oriented assets under Section 112A is taxed at 12.5% on gains above ₹1.25 lakh if held for more than 12 months; STCG under Section 111A is taxed at 20% if held for 12 months or less; other LTCG is taxed at 12.5% without indexation; and STCG on debt assets is taxed at the investor’s personal slab rate. Budget 2025 made no changes to these rates.

Q: Can an investor in an AIF offset capital losses?
A: Yes, subject to Section 115UB conditions. Short-term capital losses (STCL) can be set off against both STCG and LTCG. Long-term capital losses (LTCL), however, can only be set off against LTCG. Losses can be carried forward for up to 8 years, provided they are reported in the income-tax return within the due date. Unabsorbed business losses of an AIF are not passed on to investors.

Q: What is the tax treatment for carried interest in AIFs after Union Budget 2025?
A: The Union Budget 2025 clarified that carried interest, which is the fund manager’s share of profits, will be treated as capital gains (taxed at 10%, 12.5%, or 20% depending on holding period and asset type from AY 2026-27), rather than as salary or professional income.

Q: How do DTAA (Double Taxation Avoidance Agreements) affect NRI investors in AIFs?
A: NRIs can use DTAA benefits to reduce their tax liability in India. DTAAs help lower withholding tax (TDS) on income such as interest and dividends, which might otherwise be taxed at a higher rate. Treaties with countries like Singapore or Mauritius can reduce TDS on interest/dividends from ~30% to 5-10%. To claim these benefits, investors must provide a valid Tax Residency Certificate (TRC) and Form 10F to the AIF before distribution.

Q: What are Forms 64C and 64D, and why are they important?
A: Forms 64C and 64D are prescribed under Section 115UB for AIF compliance. Form 64C is issued by the AIF to its investors, providing a statement of their share of income by income type and TDS details. It is due by 30 June of the following financial year. Form 64D is filed by the AIF with the Income-tax Department by 15 June, consolidating income distributed to investors. Form 64C is the primary document for reporting AIF income in your ITR. Mismatches between Form 64C and AIS are a common source of notices.

Q: Do investors in AIFs need to pay advance tax?
A: Yes, both resident and non-resident investors are required to pay advance tax if their tax liability for the financial year is expected to exceed ₹10,000. TDS deducted by the AIF under Section 194LBB is often only 10% and may not cover the full liability, especially for interest income or STCG income where the applicable rate is higher. Shortfalls attract interest under Sections 234B and 234C.

Q: What are the key tax planning tips for AIF investors?
A: Key tax planning tips include: choosing Category I and II AIFs for pass-through status on capital gains; timing exits so that equity is held for more than 12 months to access the 12.5% LTCG rate rather than the 20% STCG rate; accounting for surcharges (high-income investors face up to 37% surcharge on interest income, but only 15% on capital gains); and for NRIs, submitting TRC and Form 10F before distributions to access DTAA treaty rates.

Q: What ITR form should an AIF investor file?
A: The appropriate ITR form depends on the nature of the income received from the AIF. ITR-2 is applicable for investors with capital gains income. ITR-3 is applicable if the investor has business income from the AIF or otherwise.

Q: What is the SEBI dematerialisation mandate and how does it affect AIF investors?
A: SEBI, vide its amendment notification dated 5 January 2024, mandated that all AIF investments made on or after 1 July 2025 must be held in dematerialised form. SEBI also mandated the appointment of custodians by all AIFs regardless of corpus size. For investors, this means greater transparency on unit holdings, better reconciliation against depository records, and reduced operational risk. Investors should ensure their demat accounts are set up correctly and that fund communications go to the right depository participant.

Q: Is TDS under Section 194LBB the final tax for AIF investors?
A: No. Section 194LBB requires the AIF to deduct TDS at 10% on income paid or credited to resident investors. This 10% is not the final rate for most income types. For interest income at the 30% slab, the effective rate including surcharge and cess can be approximately 42.744%. For STCG under Section 111A, the applicable rate is 20%. The gap between TDS deducted and final liability must be covered through advance tax.

Regulatory References

• Income-tax Act, 1961: Section 115UB (pass-through for Category I and II AIFs), Section 194LBB (TDS on AIF income), Section 111A (STCG on listed equity), Section 112 (LTCG on other assets), Section 112A (LTCG on listed equity), Section 115AD (tax on specified funds and FIIs), Section 10 (exemptions), Section 139(1) (filing of returns), Sections 234B and 234C (interest on advance tax defaults), Section 80C (deductions)
• Finance (No. 2) Act, 2024: amendments to capital gains rates effective 23 July 2024
• Finance Act, 2025 (Finance Bill 2025): clarificatory amendment to Section 2(14) on capital assets held by Section 115UB funds; amendment to Section 115AD; carried interest clarification
• SEBI (Alternative Investment Funds) Regulations, 2012
• SEBI notification dated 5 January 2024: dematerialisation and custodian mandate
• SEBI Circular SEBI/HO/AFD/PoD/CIR/2024/5 dated 12 January 2024: guidelines on dematerialisation and custodian appointment
• SEBI Master Circular for AIFs dated 7 May 2024 (Chapter 21): dematerialisation provisions
• SEBI relaxation circular dated February 2025: revised deadline for dematerialisation to 1 July 2025

External Sources

• incometaxindia.gov.in (Capital Gains provisions)
• sebi.gov.in (AIF Regulations, 2012 and circulars)