HNI wealth · AIF
Category III AIF: hedge funds and the no-pass-through problem
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Facts
Category III AIFs (hedge funds, long-short strategies, leveraged funds) do NOT get pass-through treatment. The AIF itself is taxed at the maximum marginal rate applicable to the AIF entity (typically a trust, 35.88% effective). Unit holders receive distributions after tax.
Provisions and law
- SEBI AIF Regulations 2012 | IT Act, Sec 115U | MAT implications
Analysis
This fundamentally changes the return profile: A Cat III AIF generating 20% gross return might deliver only 12-13% to investors after AIF-level tax, and you can't set off this tax against your other losses. Why do people still invest? Diversification (long-short strategies uncorrelated to market), absolute return objectives, and access to sophisticated strategies not available in MFs. But the tax drag is real and must be priced in.
Conclusion
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