Recommendation 1: Recognition of the extent of the Application of Income of charitable

trusts which give grants to other trusts or non-profits under the Finance Act 2023
Private funds usually exist in the form of charitable trusts, which can avail tax exemptions if they
spend 85% of their annual income towards “application of income” under section 12AA 1 of the
Income Tax Act. The institution can save the remaining 15% of its income as accumulated funds,
which it cannot use for the next five years. The 2023 amendment to the Finance Act only
acknowledges 85% of the total money given as a grant by a charitable institution to another
charitable institution for the purposes of exemption. This leaves charitable institutions with the
choice to choose between-
1) either to spend 100% of its income from the financial year or
2) Pay income tax for the part of the grant which was not recognised as an “application of
income.”2
Such differentiated treatments of grant-making charitable institutions would increase the cost of
sustainable development projects by creating a disincentive for investors.3
Instead of repealing this rule, an exception could be created to the same, which lists all the
sustainable development purposes for which the grant made by a charitable institution would be
considered a 100% “application of income” to the extent of the expenditure made.

Recommendation 2: Exempting the outcome-based model from the 85% application rule
under the Income Tax Act
+++An outcome-based model refers to a blended finance initiative wherein it links the
disbursement of financing or funding to the achievement of independently verifiable results or
outcomes. An OBF model is structured with three key players: a) the service provider, b)
outcome funder(s), and c) investors (private financiers). The outcome funder, who, in partnership
with other donors, makes a commitment to disburse funds and pay the service providers and/or
financiers when the intervention outcomes are achieved.

The theory and practice of OBF essentially focus on de-risking nonprofits by bringing in a class
of risk investors who provide upfront working capital to nonprofits.

Some types of OBF instruments include development impact bonds (DIB), impact guarantees,
result-based financing contracts, and social success notes (SSNs).

The novelty of the OBF model is that it incentivizes the service providers to perform and fulfil
the target outcomes, and it makes/forces/mandates the service provider more accountable and
transparent.4 This, in turn, leads to efficiency. When social investments get mature enough to
reap private profits.
1
Income Tax Act 2012, s 12AA
2
‘Charitable Trusts and NGO – Income tax benefits’ (ClearTax, Jul 20, 2023) <https://cleartax.in/s/charitable-trusts-
ngo-income-tax-benefits> accessed 20 Feb 2024
3
Id.
4
chrome-extension://efaidnbmnnnibpcajpcglclefindmkaj/https://documents1.worldbank.org/curated/zh/
946281530131480373/pdf/Can-Outcome-Based-Financing-Catalyze-Early-Stage-Equity-Investments-in-Green-
Small-and-Growing-Businesses-in-SA.pdf
But there is a direct correlation between the volume of participation of stakeholders, especially
the private investors, and risk distribution and low transaction costs.5

This is precisely why the law needs to signal to private investors to invest.

One of the most efficient (easiest) ways to reduce transaction costs for the service providers, who
are usually non-profits, is to exempt them from the

Recommendation 13: Amendments permitting charities to forward grant to FPEs without

the risk of losing tax exemption etc., may also be considered
along with the non-application of the 85% rule

According to the Finance Act, 2023, when a Charitable Trust makes a donation/grant to another
Charitable Trust, then 85 per cent of such donations given will be considered as application of
income for the donor charitable organization. This application of income is exempted from levy
of income tax under s. 106. But the law is silent on treatment of donation/grant made by a
Charitable Trust to a For-Profit Entity for the same purpose.

As mentioned previously, there is a huge potential market for private capital to be crowded in
through seamless blending of philanthropic and private capital. Therefore, it is recommended
that an amendment be made to ITA such that it recognises a donation/grant made by a Charitable
Trust to a For-Profit Entity as an ‘application of income’ which will result in it being exempted
from levy of Income Tax.

This is crucial as it will have the effect of providing the Charitable Trust with a wider pool of
entities to engage with and along with the participation of private capital.

This of course entails that a strict compliance mechanism needs to be put in place to ensure that
the For-Profit-Entity is using the funds for the purpose it was granted. This is further dealt with
in Recommendation 14 which deals with Compliance and Transparency.

Recommendation 3: Exempting grants made to for-profit implementing agencies as service

fee under the GST Act.

· Although activities of Charitable institutions are exempt from GST[1], there are in fact
many services provided by such entities which are not exempted. In the present context, one such
relevant instance is when a Charitable trust makes grants to a for-profit implementing agency,
typically for attaining a specific goal that the Charitable trust is aligned with. It is presently
construed to be akin to a service fee.

5
Need citation
6
· This might attract s. 2(31) and s. 7 of the GST Act and, therefore the grant/donation made
by the charitable trust is taxed at a rate of 18%? The law is unclear on this – it is not specifically
exempted or specifically charged.

· The effect this has is that, under a blended finance initiative, a Charitable trust has to bear a
high cost, i.e., 18% GST for partnering with a private entity for achieving its goals. It is pertinent
to note that inter-charity donations are exempt from GST. This differential treatment of
essentially the same activity acts as a disincentive for Charitable trusts to partner up with said
private entities and prevents potential flow of capital for blended finance initiatives.

· It is recommended that grants which are made by Charitable trusts to any private, for-profit
organizations for the purpose of achieving a goal that the Charitable Trust is aligned with, should
not be categorized as a ‘service fee’ and be exempted from levy of GST.

[1] Entry No. 1, Notification No.12/2017-Central Tax (Rate) dated 28th June 2017 “services by
an entity registered under Section 12AA of Income-tax Act, 1961 by way of charitable activities”
are exempt from whole of the GST.

Recommendation 4: The existing CSR framework should be amended to allow CSR

funding to AIFs primarily investing in social ventures and allowing
SVFs, compared to other category 1 and 2 AIFs, have more social benefits attached to them, and
the private benefits are slower to realise than their counterparts. 7 Therefore, investment in other
categories of AIFs which have higher private benfits other categories of AIFs although they may
have a lower social benefit, have a more apparent private benefit. Less private benefits and risks
result in SVFs being unable to attract enough capital to de-risk their projects and make the
realisation of private benefits more visible.8

Of the total investment committed to Category I AIFs of 73.601.40 crore rupees till 31st
December 2023, only 1,419.93 crore rupees (less than one per cent of Category I funds).
Moreover, the conversion rate of the commitments raised to the investment stood at 18%, which
was less by two-thirds than the conversion rate for the whole of Category I AIFs.9

Schedule 7 of the Companies Act10 should be amended to include the Social Venture Funds
under Category I of AIFs as one of the possible investment options for the purpose of CSR

7
NDA report
8
Enhancing Blended Financing for a Sustainable Future: Challenges and Potential Solutions, Labanya Prakash Jena
and Amlan Bibhudatta
9
https://www.sebi.gov.in/statistics/1392982252002.html
10
Schedule 7 companies act
activities as the SVFs further invest in projects that qualify as CSR activity for the purpose of
Schedule 7 under the Companies Act.
Recommendation 5: FCRA only envisages the flow of grants to non-profits, whereas an
AIF can invest. in both for-profit as well as non-profit entities as per the AIF regulations

Under section 2(m)11 of FCRA, a ‘person’ is defined as a) an individual, b) a Hindu undivided

family, c) an association, or d) a company registered under section 25 of the Companies
Act,1956 (now Section 8 of Companies Act, 2013).
Moreover, as per section 2(1)(b)12 of the SEBI (AIF) rules 2012, an “Alternative Investment
Fund” means any fund established or incorporated in India in the form of a- a) a trust, or b) a
company, or, d) a Limited Liability Partnership, or d) a body corporate.
A joint reading of both sections would lead to the inference that a section 8 company, which the
FCRA regulates for the purpose of receiving grants from foreign sources, would also be an
eligible form of AIF that can issue security in exchange for investment both from domestic as
well as foreign sources as apparent from regulation 10(a) of the SEBI AIF Rules.13
As per FCRA, a section 8 company is not exempted from complying with the FCRA regulations
as enshrined under section 11.14 However, it is pointed out that the nature of funds transferred is
different in the case of a contribution (as envisaged under the FCRA) from that of an investment
as envisaged under the AIF regulation.15
Therefore, regulation 10 of the SEBI AIF rules should be amended along with section 2(h) 16 of
the FCRA to exclude transfers in the form of investments into AIFs from the definition of
Foreign Contributions of the AIFs as such investments fall under Foreign portfolio investment
which are already regulated by SEBI.17
Recommendation 7: Increasing involvement of for-profit entities to carry out CSR
programme
As per Rule 4(1) of Company (CSR) Rules, 2014 18, a CSR initiative could be implemented by
the following implementing agencies-
● Entity established by the company itself or along with any other company – a
company established under section 8 of the Act, or a registered public trust or a registered
society, registered under section 12A and 80G of the Income Tax Act, 1961.
● Entity established by the Central Government or State Government– a company
established under section 8 of the Act, or a registered trust or a registered society.
● Statutory bodies – any entity established under an Act of Parliament or a State
legislature.

11
12
13
14
Section 11 of FCRA
15
https://www.azbpartners.com/bank/foreign-contribution-and-section-8-companies/
16
17
18
4(1), Csr 2014
 ● Other bodies – a company established under section 8 of the Act, or a registered public
trust or a registered society, registered under sections 12A and 80G of the Income Tax
Act, 1961, and has an established track record of at least three years in undertaking
similar activities.
Therefore, under the CSR Rules, a For-profit Entity is not foreseen as an implementing agency,
and hence, grants extended to them as a part of impact financing would not be considered a part
of the company's CSR initiative, although the same may produce both social as well as private
benefits.19
Although Schedule 720 of the Companies Act 2013 provides a comprehensive list of activities
that would qualify as a company’s CSR policy, a restraint is created in the activity-based
approach through Rule 4(1) of the CSR Rules, 2014.
Rule 4(1) of the CSR Rules should be amended to include FPEs as competent implementing
agencies for the purpose of implementing CSR activities as foreseen under Schedule 7. This
would also necessitate the creation of a monitoring system which ensures that the investment
received by FPE entities is invested in relevant CSR projects and the profit resulting could be
shared between-
● The implementing agencies - As their fees
● The Company - with an obligation to reinvest the whole of the profit from CSR back to
CSR activities as evident from Rule 7(2) of CSR rules 21 the answer to question 3.4 of
CSR circular by MCA22

Recommendation 8: Use of outcome-based funding model in CSR activities

CSR spending mandatory- As mentioned in the answer to question 2.3 of CSR FAQs 23 “(vi) if
the company fails to spend at least two per cent of the average net profits of the company, the
Board shall, in its report made under clause (o) of sub-section (3) of section 134, specify the
reasons for not spending the amount and transfer the unspent CSR amount as per provisions of
sections 135(5) and 135(6) of the Act.”
Non-compliance is a civil offence- Moreover as per the answer to question 2.6 24
“Noncompliance of CSR provisions has been notified as a civil wrong”. Such a position of CSR
legislation would prohibit companies to from investing in CSR activities using the Outcome-
based funding model, as the 2% criteria may not be met depending on the results of the projects
of the implementing agencies.
Under the outcome-based funding model, a regulation that enables the companies to carry
forward their deficit CSR obligations created due to inadequate results of the project to the next
financial year. A similar provision already exists that enables the companies to transfer their
19
Enhancing Blended Financing for a Sustainable Future: Challenges and Potential Solutions, Labanya Prakash Jena
and Amlan Bibhudatta
20
Schedule 7 companies act
21
Rule 7(2), Company (Corporate Social Responsibility Rules) Rules, 2014
22
General Circular No. 14 /2021
23
General Circular No. 14 /2021
24
General Circular No. 14 /2021
surplus CSR activities to the next financial year. 25 As CSR projects are generally assessed after
three years26, the deficit CSR obligation should be disclosed after the assessment year of the
project, and it should then be transferred to other projects. The company should make sure to
exhaust its deficit CSR obligation within three years after the same is disclosed.

Recommendation 9: FEMA and CSR to allow domestic companies to invest in AIFs listed
in Gift City IFSCA
Restriction 1- Section 4 of the Foreign Exchange Management Act restricts a ‘person resident in
India’. A company registered or incorporated in India would come under the definition of
‘persons resident in India.’27 Therefore, a transfer of grants by a company as part of its CSR to
funds like AIFs or charitable trusts instituted within the KIFT IFSCA would come under the
restriction of FEMA.
Restriction 2- Moreover, international transfers are not permitted as part of CSR initiatives. 28
Therefore although the ultimate projects may be located in Tomorrowland, a transaction via
KIFT IFSCA would not be allowed due to existing FEMA and CSR rules. Section 4 of FEMA
along with Rule 2(1)(d)(ii) to the extent that the former exempts such transfer from its operation
and the later recognizes such a grant a valid CSR contribution.

Recommendation 15: Transfer from a domestic entity to an SVF listed in

KIFT IFSCA which further invests on projects in Tomorrowland should be
exempted under FEMA

Under recommendation 9, an exemption from the FEMA was sought to allow CSR contributions
to AIFs and other pooling vehicles but donations and grants could also be made by individuals
for the purpose of sustainable development initiatives.29 A similar restriction would be attracted
even in such a case.
Hence FEMA should be amended to allow individuals to supply grants to AIFs and other pooling
vehicles situated inside the KIFT IFSCA to fund sustainable development projects.

Recommendation 12: Exempting transactions between units established in

KIFT City IFSCA and units outside KIFT IFSCA

The SVFs, as well as other pooling vehicles situated in the KIFT IFSCA, might be required to
pay GST if they transfer the funds to an implementing agency situated in Tomorrowland but

25
Rule 7(3), Company (Corporate Social Responsibility Rules) Rules, 2014
26
https://www.voltas.in/images/_ansel_image_collector/CSR_Annual_Report_2021-2022.pdf
27
Section 2(v)(ii) of Foreign Exchange Management Act
28
Rule 2(1)(d)(ii) of the Companies (CSR Policy) Rules, 2014
29
Section 2(v)(i)(A) of Foreign Exchange Management Act
outside KIFT IFSCA as such a transfer would qualify as a service fee for the purpose of GST
act.30
An exception needs to be created which excepts the transactions between pooling vehicle (either
profit or not-profit) situated inside KIFT IFSCA and the implementing agency (either profit or
not-profit) situated in Tomorrowland, provided that such funds are ultimately to be used for
sustainable development activities which are exempt under the Income-tax act 31 from the
operation of GST.

Recommendation 10: Exceptions on the usage of funds

In recommendations 1, 2, 3, 4, 6, and 7, an exception to the default application of income tax or

the Goods and Service Tax or the restrictions put by CSR Rules or FEMA or FCRA is suggested
on the basis of usage of the funds supplied.
Existence of exemptions based on investment vehicles- There already exists an exception on
the basis of institutions utilizing such funds. The rationale behind exempting the use of funds by
such institutions is the ultimate usage of the fund itself.
Greater market for sustainable development funds- If the exemptions are created based upon
the usage of funds, such a step would remove the restriction and disincentive of paying taxes
among for-profit entities leading to a significant expansion of the market of sustainable
development projects.
However, such a regime shift would also necessitate better communication of standards and
terms to avail such exemptions, as well as greater monitoring to ensure that such terms are met
and the exemptions are not exploited.
This of course entails that a strict compliance mechanism needs to be put in place to ensure that
the funds are being strictly used for the purpose it was granted. This is further dealt with in
Recommendation 14 which deals with Compliance and Transparency.
Recommendation 11: Creation of standards that will qualify the usage of funds for
exceptions under various laws
This recommendation is a continuation of the previous recommendation.
● Need to suggest formulas in this
● Determine the period over which it should be calculated
● The acts that would be involved
● Regulatory body?

Recommendation 14: Compliance Mechanisms and Transparency of Blended Finance

Initiatives
Most of the recommendations put forward promote giving a great amount of

30
https://giftsez.com/ifsc-units.aspx
31
Section 10 of Income Tax Act.
● Increased transparency can lead to strengthened trust among blended finance
stakeholders, i.e., public and private sector, in both donor and partner countries.
Transparency also leads to stronger accountability towards stakeholders. As blended
finance often involves the use of scarce concessional resources, oftentimes managed by
private actors, the bar on accountability requirements needs to remain high.
● The ‘OECD DAC Blended Finance Principle 5: Monitor blended finance for
transparency and results Guidance Note and Detailed Background Guidance’ sums up the
position:
i) Agree on performance and results metrics from the start: To make blended finance
more effective, it's crucial for stakeholders to define clear development goals and outline
a detailed theory of change each party involved agrees on. Standardizing reporting
methods and using the same performance metrics is key to avoiding confusion,
improving transparency, and precisely gauging the impact of blended finance projects.
ii) Track financial flows, commercial performance, and development results: Efforts
in blended finance must prioritize tracking financial flows, commercial performance, and
development outcomes while enhancing transparency to mitigate risks and ensure
accountability. Balancing transparency with commercial confidentiality requires careful
consideration, potentially through sharing impact data while safeguarding sensitive
commercial information and harmonizing measurement practices.
iii) Dedicate appropriate resources for monitoring and evaluation: Ensuring
sufficient resources are allocated for monitoring and evaluating blended finance
initiatives is paramount for their effectiveness. However, addressing resource limitations
poses a real challenge, prompting the need for creative solutions like setting aside
dedicated budgets. Clarifying responsibilities and tailoring approaches based on the scale
and risk of projects can enhance the monitoring and evaluation process within blended
finance endeavors.
iv) Ensure public transparency and accountability on blended finance operations:
Ensuring transparency and accountability in blended finance operations is crucial, with
information on implementation and outcomes readily accessible. International
commitments, rooted in the Sustainable Development Goals, emphasize transparency's
importance. Aligning blended finance practices with established principles and norms in
development cooperation ensures consistency. Independent monitoring and evaluation
processes foster trust and enable evidence-based decision-making.