The document discusses a case where Kwality Ice-Creams invested Rs. 2 crore in three open-ended mutual funds for tax benefits under Section 54EB of the Income Tax Act. After two years, Kwality wanted to redeem the investment and forego the tax benefits, but the mutual funds declined. The Securities Appellate Tribunal and Delhi High Court upheld the mutual funds' decision. The document analyzes this case and questions whether mutual funds should be able to restrict redemptions, given that open-ended funds offer unlimited redemptions. It argues that more transparency is needed regarding redemption terms in mutual funds.
The document discusses a case where Kwality Ice-Creams invested Rs. 2 crore in three open-ended mutual funds for tax benefits under Section 54EB of the Income Tax Act. After two years, Kwality wanted to redeem the investment and forego the tax benefits, but the mutual funds declined. The Securities Appellate Tribunal and Delhi High Court upheld the mutual funds' decision. The document analyzes this case and questions whether mutual funds should be able to restrict redemptions, given that open-ended funds offer unlimited redemptions. It argues that more transparency is needed regarding redemption terms in mutual funds.
The document discusses a case where Kwality Ice-Creams invested Rs. 2 crore in three open-ended mutual funds for tax benefits under Section 54EB of the Income Tax Act. After two years, Kwality wanted to redeem the investment and forego the tax benefits, but the mutual funds declined. The Securities Appellate Tribunal and Delhi High Court upheld the mutual funds' decision. The document analyzes this case and questions whether mutual funds should be able to restrict redemptions, given that open-ended funds offer unlimited redemptions. It argues that more transparency is needed regarding redemption terms in mutual funds.
Closing the option of premature redemption of units in
mutual funds is restrictive, says R. Mohan Lavi
,cf301,8.2,9>THE maxim, quilibet licet renuntiare juri pro
se introducte, translates as follows: ``Everyone has a right to waive and to agree to waive the advantage of law or rule made solely for the benefit and protection of the individual in his privat e capacity which may be dispensed with without infringing any private right or public policy.''
This was quoted by the Securities Appellate Tribunal in its
ruling in Kwality Ice-Creams (India) Ltd vs Securities & Exchange Board of India (2001 30 SCL 107).
Kwality had invested Rs 2 crore in three open-ended
mutual fund schemes, providing tax benefits on capital gains under Section 54EB of the Income-Tax (I-T) Act. As per the terms, the investment was repurchasable after seven years from the date of issue. After about two years from the date of issue, Kwality wanted to redeem the investment stating that it was willing to forego the benefits under Section 54EB of the I-T Act. But the mutual funds declined to redeem the units. Kwality filed a civil writ peti tion in the Delhi High Court. During the course of the hearing, Kwality stated that it was making a formal application to SEBI. The court approved such a move. After the hearing, SEBI too passed an order that the redemption was not permissible. Kwality t hen approached the Delhi High Court praying for setting aside the SEBI order. As an alternative remedy was available before the SEBI Appellate Tribunal (SAT), Kwality chose the same. After a detailed hearing, SAT also confirmed that the redemption was no t possible.
SAT's order raises questions about investment in mutual
funds. Confusion seems to have stemmed from the fact that Kwality invested all its funds in open-ended funds. An open-ended fund is one which offers units for sale without specifying any duration fo r redemption. A close-ended scheme means any scheme of a mutual fund in which the period of maturity of the scheme is specified.
Section 54 EB (2) states that ``where the long term
specified asset is transferred or converted (otherwise than by transfer) into money at any time within a period of seven years from the date of its acquisition, the amount of capital gains arising from the transfer of the original asset not charged under Section 45 on the basis of the cost of such long-term specified asset as provided in clause (a) or as the case may be, clause (b) of sub-section 1 shall be deemed to be the income chargeable under the head capital gains relating to long-term capital assets of the previous year in which the long-term specified asset is transferred or converted (otherwise than by transfer) into money.''
In fact, this is the basis on which the withdrawal of benefit
relating to all sections of income-tax on capital gains work. During the course of the discussions, reference was made to a Government Notification dated December 19, 1996, specifying the asse ts for the purpose of investment under Section 54EB, the text of which is as follows:
``In exercise of the powers conferred by sub-section (1)
of Section 54 EB of the I-T Act, 1961 (43 of 1961), the Central Board of Direct Taxes hereby specifies the following assets, referred to as the long-term specified assets, for the purposes of the s aid section, namely:
i) Deposits for a period of not less than seven years with
the State Bank of India established under the State Bank of India Act, 1955 (23 of 1955) or any subsidiary bank as defined in the State Bank of India (Subsidiary Banks) Act, 1959 (38 of 1959), or any nationalised bank, that is to say, any corresponding new bank, constituted under Section 3 of the Banking Companies (Acquisition and Transfer of Undertakings) Act, 1970 (5 of 1970) or any co- operative society engaged in carrying on the business of b anking (including a co-operative land mortgage bank or co-operative land development bank);
ii) All bonds, redeemable after a period of seven years,
issued or to be issued by the Housing and Urban Development Corporation Ltd, New Delhi;
iii) All units re-purchasable after a period of seven years,
issued or to be issued by any mutual fund (including the Unit Trust of India) referred to in clause (23D) of Section 10 of the Income-Tax Act.''
It appears unlikely for SBI or HUDCO to refuse payment of
taxpayers' money if they are willing to pay the resultant capital gains tax. One wonders why SAT has singled out mutual funds for this special treatment.
The offer document of any open-ended scheme offering
the benefits of Section 54 EB generally reads thus: ``Investment of entire or part of capital gains arising out of transfer of long-term capital assets in this scheme will be eligible for capital gains tax exemption under Section 54EB subject to repurchase/switchover of units only after seven years from the date of acceptance of application.''
If one extends this argument, it is obvious that if the
repurchase was made seven years before, then the capital gains claimed as exempt earlier will now be taxed. The emphasis is more on the exemption/loss of exemption rather than on the redemption or o therwise of the units.
One of the arguments supporting the non-redemption was
that premature redemption would adversely affect the interests of other investors, as the NAV of the fund would suffer. It is submitted that protecting the NAV of the fund is the duty of the mutual f und. It cannot prevent unit- holders from choosing an option to exit just because the interests of other investors would suffer.
This shows that more disclosure of information is needed
in the mutual fund industry. Gullible investors need to know the manner in which the fund functions and the options open to them.