Rule 274 explained: this guide covers what it means, who it applies to, the step-by-step process, documents required, fees, due dates and penalties in India — so you can stay compliant with confidence and avoid costly mistakes.
Rule 274 of the Income-tax Rules, 2026 lets an eligible fund look through an institutional investor, forgives short breaches of the Schedule I conditions, fixes 26% as control of a business, and sets a floor on the fund manager's remuneration.
Looking through an institutional investor
Sub-rule (1) of rule 274: where investment in a fund has been made directly by an institutional entity, the number of members and the participation interest shall be determined by looking through that entity, if it:
- (a) independently satisfies the conditions in paragraphs 1(1)(c), (e), (f) and (g) of Schedule I to the Act;
- (b) has been set up solely for the purpose of pooling funds and investment thereof; and
- (c) is resident of a country or specified territory with which a section 159 agreement has been entered into, or is established, incorporated or registered in a country or specified territory notified by the Central Government.
Schedule I requires an eligible fund to have a minimum number of members and a limit on any one member's participation interest. A fund whose investors are themselves pooling vehicles would fail on a headcount of direct members. Sub-rule (1) of rule 274 allows the fund to count the underlying investors of a qualifying institutional entity instead — but only where all three conditions hold. Condition (b) is the one that bites: the entity must exist solely for pooling and investment, so an operating company or a family holding vehicle with other activities cannot be looked through.
Breaches that do not cost eligibility
Sub-rule (2): a fund shall not be denied the benefit of being an eligible fund where:
| Clause | Breach | Tolerance |
|---|---|---|
| (a)(i) | Non-fulfilment of paragraphs 1(1)(c), (d) and (e) of Schedule I for reasons beyond the fund's control | Up to ninety days |
| (a)(ii) | Non-fulfilment of the same paragraphs where bona fide efforts are made to satisfy them | Up to eighteen months from the date the fund is set up, or the final closing of the fund, whichever is earlier |
| (a)(iii) | Non-fulfilment because the fund is in the process of being wound up | Up to one year from the date the winding-up process began |
| (b) | Delay in furnishing the statement referred to in paragraph 1(4) of Schedule I | Up to ninety days |
Clause (a)(ii) of rule 274 is the start-up concession — a new fund is not expected to be broad-based on day one, and has until eighteen months or final closing, whichever is earlier. Note that it is the earlier of the two, so a fund that closes quickly loses the balance of the eighteen months.
Control of a business — the 26% line
Sub-rule (3): for paragraph 1(1)(k) of Schedule I, a fund is said to be controlling or managing a business carried out by an entity if it directly or indirectly holds rights which result in the fund holding more than 26% of the total share capital or voting power or interest in the entity.
The test is disjunctive — share capital or voting power or interest — so crossing any one of the three engages it. And it reaches indirect holdings, so a chain of intermediate vehicles must be aggregated.
The fund manager's minimum remuneration
Sub-rule (4): the remuneration paid by the fund to a fund manager, referred to in paragraph 1(1)(m) of Schedule I, shall not be less than:
| Case | Minimum remuneration |
|---|---|
| (a) The fund is a Category-I foreign portfolio investor within items (i), (ii) or (iii), or sub-item (III) of item (iv), of clause (a) of the relevant regulation of the SEBI (Foreign Portfolio Investors) Regulations, 2019 | 0.10% of the asset under management |
| (b)(i) Other cases — general | 0.30% of the asset under management |
| (b)(ii) Other cases — where the manager is entitled only to remuneration linked to income or profits | 10% of profits derived by the fund in excess of the specified hurdle rate from the fund management activity |
| (b)(iii) Other cases — where the fund also pays a management fee to another fund manager | 50% of the management fee, fixed or profit-linked, paid in respect of that activity, as reduced by operational expenses including distribution expenses |
Sub-rule (4) sets a minimum. The concern it answers is that an offshore fund managed from India could pay its Indian manager a token fee, leaving almost all the economic return offshore while still claiming that the fund is not resident here. Requiring an arm's-length-like floor keeps a proportionate share of the value taxable in India. Note that the 0.10% Category-I FPI rate is a third of the general 0.30% — Category-I FPIs are the regulated, government-linked and sovereign categories, where the regulatory oversight is treated as substitute assurance.
Sub-rules (5) and (6) provide the escape. Where the actual remuneration is lower than the sub-rule (4) amount, the fund may apply to the Member, Central Board of Direct Taxes referred to in rule 275(2), and the Board, if satisfied considering the relevant facts, may approve that lower amount. Sub-rule (6) applies rule 275(3) to (12) to such an application mutatis mutandis — so the three-month lead time, the committee, and the two-month decision window all carry across.
The accountant's report
Sub-rule (7): the fund manager shall, in addition to any report required under section 172, obtain a report from an accountant as defined in section 515(3)(b) in respect of the activity undertaken for the fund, and furnish it on or before the specified date in Form No. 172, duly verified. All the provisions of the Act apply as if it were a report to be furnished under section 172.
That last sentence matters: the Form No. 172 report inherits section 172's consequences, including the penalty exposure for failure to furnish, even though it is a separate report.
Two protective provisions
- Sub-rule (8) — for paragraph 1(3)(a) of Schedule I, a fund manager is not a connected person of the fund merely because he undertakes its fund management activity.
- Sub-rule (9) — for paragraph 1(3)(d), remuneration in the nature of a fixed charge not dependent on the fund's income or profits is not included in the profits referred to there, provided the paragraph 1(1)(m) conditions are satisfied and the fixed charge was agreed in writing at the beginning of the relevant fund management activity.
The exclusion of a fixed management charge from the paragraph 1(3)(d) profits depends on a writing agreed at the beginning of the relevant fund management activity. A fee settled afterwards, or evidenced only by invoices and board minutes, does not meet the condition however commercial it is. This is a one-line documentation point in rule 274 that decides a substantive outcome, and it should be handled at the time the management agreement is signed.
The three definitions
| Expression | Meaning under rule 274(10) |
|---|---|
| Asset under management | The annual average of the monthly average of the opening and closing balances of the value of such part of the fund as is managed by the fund manager |
| Management fee | The amount mentioned in the certificate obtained from an accountant for this purpose |
| Specified hurdle rate | A pre-defined threshold beyond which the fund agrees to pay a share of the profits earned from the fund management activity |
Sub-rule (10)(b) of rule 274 defines "management fee" by reference to a certificate from an accountant "as defined in rule 10(a)". Rule 10 of these Rules is the definitions rule for indirect transfer valuation, and does not define "accountant". Sub-rule (7) of this very rule defines an accountant by section 515(3)(b), which is the definition used throughout the 2026 Rules. The cross-reference appears to be carried over from the 1962 numbering. It is reproduced here rather than silently amended; in practice read it as the section 515(3)(b) accountant.
Note that asset under management is a double average — monthly averages of opening and closing balances, then an annual average of those — and it covers only the part of the fund the particular manager manages, which matters directly to sub-rule (4)(b)(iii) where more than one manager is paid.
Worked example
| Facts | Position under rule 274 |
|---|---|
| Investor is a pooling vehicle in a treaty country, doing nothing else | Look through permitted if it also meets the Schedule I conditions |
| Investor is an operating company with surplus funds | No look-through — not set up solely for pooling |
| Fund breaches a member condition for 70 days for reasons outside its control | Forgiven — within ninety days |
| New fund not broad-based fourteen months after set-up; final closing already done at month ten | Tolerance ran to the earlier date — final closing |
| Paragraph 1(4) statement filed 80 days late | Forgiven under clause (b) |
| Fund holds 20% directly and 10% through a subsidiary | Above 26% indirectly — controlling the business |
| Fund holds 15% of capital but 40% of voting power | Engaged — the test is disjunctive |
| Category-I FPI fund paying 0.12% of AUM | Above the 0.10% floor |
| Other fund paying 0.20% of AUM | Below the 0.30% floor — apply under sub-rule (5) |
| Manager paid only a profit share above a hurdle | Floor is 10% of profits above the specified hurdle rate |
| Fixed fee agreed by exchange of emails after the year began | Fails the agreed in writing at the beginning condition |
| Form No. 172 not furnished by the specified date | Treated as a section 172 report failure |
Compliance checklist
- Test each institutional investor against all three look-through conditions in rule 274(1).
- Track breach periods against the ninety-day, eighteen-month and one-year tolerances.
- Remember the start-up tolerance ends at final closing if that is earlier.
- Aggregate direct and indirect holdings against the 26% line, on all three measures.
- Compute asset under management as the double average, for the part each manager manages.
- Benchmark remuneration against the applicable floor and, if below it, apply three months before the tax year under sub-rules (5) and (6).
- Agree any fixed charge in writing at the outset of the management activity.
- Furnish Form No. 172 by the specified date, verified by a section 515(3)(b) accountant.
Common mistakes
- Looking through an investor that has activities beyond pooling and investment.
- Assuming eighteen months always run in full when final closing may cut them short.
- Testing the 26% line on share capital alone.
- Computing AUM on year-end balances instead of the double average.
- Paying below the floor without a Board approval under sub-rule (5).
- Documenting a fixed fee after the activity began.
- Treating Form No. 172 as optional because a section 172 report was already filed.
Which year this governs
The Income-tax Rules, 2026 are made under the Income-tax Act, 2025. The 1962 parallel to rule 274 is rule 10V, given for tracing only. Verify the current text, Schedule I and the SEBI FPI Regulations before relying on a category or a floor.