ANGEL TAX FOR STARTUPS
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Context: The recent tax directive issued by the Central Board of Direct Taxes (CBDT) exempts recognized start-ups from verification by field officials for cases related to Section 56(2)(viib) of the Income-tax Act, as amended in the Finance Act, 2023, which extended the angel tax levy to include non-resident investors.
- The new tax directive issued by the tax department in response to the amendments made in the Finance Act 2023, addresses the concerns raised by start-up companies regarding the angel tax.
Directive on Start-ups
- The tax department issued a directive stating that no verification is required for recognized start-ups under Section 56(2)(viib) of the Income-tax Act if they receive scrutiny notices related to angel tax.
- Recognized start-ups, as acknowledged by the DPIIT (Department for Promotion of Industry and Internal Trade), will not be subjected to verification by Assessing Officers for notices related to the amended provisions for angel tax.
- The directive outlines two scenarios:
- If a start-up is selected for scrutiny solely on the issue of the applicability of Section 56(2)(viib), no verification will be done, and the start-up's contention on the matter will be accepted.
- If a start-up is selected for scrutiny on multiple issues, including Section 56(2)(viib), the applicability of Section 56(2)(viib) will not be pursued during the assessment proceedings.
Changes in Angel Tax (Budget 2023-24)
- Angel tax refers to income tax levied at a rate of 30.6% when an unlisted company issue shares to an investor at a price higher than its fair market value.
- Earlier, angel tax was imposed only on investments made by resident investors. The Finance Act 2023, proposed to extend angel tax to non-resident investors as well, starting from April 1.
- The Finance Act, 2023, amended Section 56(2)(viib) of the Income-tax Act, which deals with angel tax. The amendment included foreign investors in the purview of angel tax. Start-ups receiving equity investments from foreign investors at a value exceeding the fair market value of shares were subject to this tax.
- The Finance Ministry introduced valuation rules for foreign and domestic investors in unlisted companies, including start-ups.
- These rules specified valuation methods, such as the discounted cash flow (DCF) method for resident investors and comparable company multiple method, probability-weighted expected return method, option pricing method, milestone analysis method, and replacement cost method for non-resident investors.
- In May, the Finance Ministry exempted investors from 21 countries, including the US, UK, and France, from the levy of angel tax for non-resident investments in unlisted Indian start-ups. However, investments from countries like Singapore, Netherlands, and Mauritius were not exempted from angel tax.
- This directive and the amendments aim to provide clarity and relief to recognized start-ups facing scrutiny notices related to angel tax, especially in cases involving non-resident investors.
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