News Excerpt:
In response to a significant decline in startup funding and subsequent job losses, Indian industry leaders are calling for the removal of the 'Angel Tax.'
- This tax has been a contentious issue since its expansion in the Finance Bill 2023.
What is Angel Tax?
- Angel tax refers to a tax levied on the capital raised by unlisted companies from any individual against an issue of shares in excess of the fair market value of those shares.
- In simpler terms, if a startup company raises funds from an individual (often referred to as an angel investor) and the valuation of the shares issued is deemed to be higher than what the tax authorities consider reasonable or fair market value, the excess amount can be taxed as income for the company under the angel tax provisions i.e the difference between the issue price of unlisted securities and their fair market value (FMV).
- It was introduced in 2012 to curb the use of unaccounted money through the subscription of shares in closely held companies at values exceeding their fair market value.
- As per section 56(2)(viib) of the Income Tax Act, when an unlisted company, such as a startup, receives equity investment from a resident in excess of the face value of its shares, such excess amount is treated as income and is subject to income tax under the head 'income from other sources' for the relevant financial year.
- Startups recognized by the Department for Promotion of Industry and Internal Trade (DPIIT) were initially exempt from the Angel Tax.
- Previously, the Angel Tax, which imposes a 30.6% income tax rate, applied only to investments from resident investors.
- However, the Finance Act 2023 proposed extending this tax to non-resident investors starting April 1, 2024. This means that funding from foreign investors would also be treated as income and taxed accordingly.
Industry’s concern
- However, industry stakeholders argue that the government misinterprets the discrepancy between valuations and actual performance as money laundering.
- They assert that investors base their funding decisions on startups' future potential.
Funding crunch for Startup
- The Angel Tax provisions were tightened at a time when over 100 Indian startups laid off more than 15,000 employees in 2023 due to a persistent funding winter that began in 2022.
- Additionally, Indian startups experienced a more than 60% decline in funding value in 2023.
Corrective measure of Government
- Nevertheless, after industry backlash and reports of declining funding, the Finance Ministry exempted investors from 21 countries, including the US, UK, and France, from the Angel Tax for non-resident investment in unlisted Indian startups.
- However, the exemption list did not include countries like Singapore, the Netherlands, and Mauritius, which are traditional key sources of startup funding.
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Startup Eligibility Criteria
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