The Central government decision came after a number of representations were made to Commerce and Industry Minister Suresh Prabhu by Start-Ups, seeking relief from the often ambiguous "Angel Tax" demands, sources said, adding the step is expected to give a boost to the growing sector of Start-Ups.
Now, the government has introduced changes to tax laws under the Section 56 (2) (vii b) of the Income Tax Act that will exempt "genuine" investors in recognised startups - but not without another red tape.
To seek the exemption, a startup will apply, with all the documents, to the department of industrial policy and promotion (DIPP). Once approved, the Central Board of Direct Taxes (CBDT) is to then issue a certificate of exemption within 45 days of the application.
Angel tax is applicable on capital raised by unlisted companies from any entity against an issue of shares in excess of fair market value.
"Startup which is recognised by DIPP under para 2 (iii) (a) shall be eligible to apply for approval for the purposes of clause (viib) of sub-section (2) to section 56 of the Act for the shares already issued or proposed to be issued if the following conditions are fulfilled", said the notification.
So, what do these amendments mean for startups, and what is their impact on angel tax?
Industry think tank iSPIRT wrote to Prime Minister Narendra Modi earlier, urging the government to abolish tax on angel investments that has "victimised" many startups and poses a "serious threat" to the Start Up India movement.
The aggregate amount of paid-up capital and share premium of the startup after the proposed issue should not exceed Rs 10 crore.
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For the Investor to be eligible for Angel Tax Exemption, she/he should have filed Income tax returns of at least INR 50 Lakhs for the year preceding the investment year, it added.
Earlier, there was a need for a certification by an inter-ministerial board. Application procedure has been simplified by making application to CBDT through the DIPP.
To further the ease of application, startups are not required to submit investor income and net worth details.
With the thresholds of income and net worth of investors increased, only investments by large investors would qualify for exemption from "angel tax".
It is a long drawn process to get a startup certificate from DIPP. The new norms would not apply to those entrepreneurs who have received notices from tax authorities.
Since the launch of the Startup India Action Plan on January 16, 2016, 15,113 startups have been recognised under the programme across 492 districts in 29 states and six Union Territories.
It's also important to note that the notification clearly says that in case the application is made for an investment received earlier, (i.e. before this notification) the exemption shall be available only in case the assessment order has not been passed by the tax officer.
Importantly, startups are also no longer necessarily required to collect information about angel investors investing in them. The notices primarily question the high premium at which shares are allocated by startups during angel funding.