Removal of Angel Tax – A Big Relief for Startups

Removal Angel Tax Big Relief Startups If we go by the literal meaning of the term “Angel Investment”, it should make things easy and smooth for the startups by providing the required funds essential for establishing and operating a new business. However, the fact was far away from this meaning as such extra inflow was taxable as “income from other sources” under Section 56(2) of the Income-Tax Act. It was charged as the corporate tax rate that led to an effective tax of over 30%. This had a deterrent effect on the investments to be made by angel investors.

However, in its endeavor to boost entrepreneurship and hence, create more jobs in the country, the government has taken a major step of removing the so-called ‘angel tax’ for investors who intend to provide funds to startups. Adding further, under the government-approved plan announced by PM Narendra Modi in January, funding to startups will not face tax even if it exceeds the face value.

Domestic funds, Resident angel investors or domestic family offices not registered as venture capital funds have no reasons to fret or worry now as their invested amount shall not be taxed. Currently, the funds that were raised by an unlisted company through equity issuance were covered under the ‘angel tax’ to the extent the amount was in excess of the fair market value.

Usually, the valuation of startups is done according to the promise of the idea and not the immediate worth and hence, it is far in excess of market value. In such a case, a chunk of inflow is lost to the ‘angel tax’. “The Central Board of Direct Taxes has issued a notification to this effect, exempting startups raising investments from the rigors of Section 56(2)(viib).”

However, this notification won’t cover all the startups and it will cover only new entities who meet the criteria laid down by the department of industrial policy and promotion (DIPP) on 17th February 2016. The department of industrial policy and promotion (DIPP) says that a firm would be considered as startup only if it is incorporated or registered in India not prior to five years. The annual turnover of these firms should not exceed 25 crores in any preceding financial year.

At the same time, a start-up should be working towards development, deployment or commercialization of new products in the market, processes or services driven by technology or intellectual property.

Moreover, safeguard measures are taken to ensure that the existing firms do not show themselves as new startups. An application is to be made for recognition as a startup with the DPIIT and whether tax benefits are to be claimed, and finally a validation by an inter-ministerial board is required to prove the innovative nature of the business.