The Future of Angel Tax: Will the Upcoming Union Budget Provide Relief for Startups?

Why in news?

There is a lot of discussing on how Indian gov can end or reduce angel tax for new companies startups Across the Indian startup ecosystem, the word on every one’s lips is the potential that the government could do away with the angel tax – a burden that has been the bane of emerging enterprises. The Department for Promotion of Industry and Internal Trade (DPIIT) for now has recommended the total abolition of this tax which may happen in the upcoming Union Budget. This proposal seeks to demystify the challenge of financing for new ventures, and make the starts up more appealing to financiers.

Understanding Angel Tax

• Angel tax is a tax levied on the amount raised by a private firm from angel investors in case the amount exceeds the fair market value of the shares that has been issued.
• This tax was effected under the Income Tax Act in 2007 under Section 56(2)(viib) after deeming the excess amount as ‘income from other sources’.

Key Points About Angel Tax

• Taxation Clause:
  • Section 56(2)(viib) of the Income tax Act the provision examines the income in excess of expenditure.
• Trigger Condition:
  • Is used where the amount of investment is more than the fair value of shares.
• Tax Category:
  • As reported under ‘Income from other sources. ’

Origins of Angel Tax

The angel tax was proposed first in the 2012 Union Budget by the former Finance Minister Mr. Prannoy Mukherjee. The primary goal was to address the situation when people, using black money, invested it in legal activities. Nonetheless, this regulation with good intentions emerged and became one of the major problems for startups, as it was originally aimed at combating real efforts in investment.

Lauding this, the government in April 2018 brought a big amendment absolving the startups of this tax if they do not raise more than ₹10 crore from anyone including angel investors. However, these reforms did not eliminate bureaucracy and official suspicion of startups – they still had to go through a maze of regulations which include having to acquire several licenses, and value certificates.

The rationale behind DPIIT’s recommendation for repeal

• This paper aimed at examining the factors that led DPIIT to recommend the repeal of these provisions of the Copyright Act.
• The DPIIT issued the recommendation to abolish the angel tax after extensive discussions on issues surrounding the ecosystem for startup firms.
• Many industrial associations and startups owners have complained about the issues arising from angel tax in funding and growth plan.
• Thus, the DPIIT plans to remove this tax as a way of encouraging capital formation while improving the local environment for startups.

Impact on Startups

• Eliminating angel tax can open up a world of opportunities for the Indian startup ecosystem that currently has over 141 K DPIIT registered startups. Here’s how the removal of the angel tax could benefit the startup ecosystem:Here’s how the removal of the angel tax could benefit the startup ecosystem:
  • Increased Investment Appeal: Angel tax poses a drawback that constrains investors from Angel investments, however, the removal of angel tax would ease the investment in startups.
  • Enhanced Capital Availability: Venture capitalists would get more returns since the startups would reinvest the borrowed funds into their businesses.
  • Boost to Startup Valuations: Asking for its repeal can help promote positive change on the startup valuations, which can attract more domestic as well as international investors.

Trends in Investment Today and Its Difficulties

• The month of January to mid of June 2024 showed a lower tendency in terms of funds raised by the startups which is an indication of the current funding crunch faced by new wave tech entrepreneurs.
• Thus, together with the increased devaluation of famous startups and aggregate decrease in funding, this trend is associated with the overall global risk aversion.
• Factors Contributing to the Investment Slowdown:
  • Global Economic Uncertainty: Businessmen are being wary because of high risks in global markets.
  • High-Profile Devaluations: Further decrease in the estimated values of other popular startups that still cannot generate sustainable revenues has also impacted investors’ confidence.
  • Regulatory Hurdles: Current regulations issues for instance the angel tax have been a hindrance to investors chocking the startups.
• The Possible Gains of Scrapping Angel Tax
  • Stimulating Economic Growth: Removing the angel tax might actually provide a new lease of life to the startup industry, thus boosting the economy, and job opportunities included.
  • Encouraging Innovation: Startups would be able to increase expenditure in research and development hence increasing on innovation due to increase accessibility to funding.
  • Enhancing Global Competitiveness: A much more vibrant start up ecosystem could put India on the world map as the place to be for start ups and innovation.

Conclusion: A Step to a Vibrant Start up Ecosystem

• startup industry see hope on the potential removal of angel tax in the Union Budget that is set to take place soon.
• Given the various complaints about the drawbacks of the current approach to fundraising from investors, as well as startup founders themselves, the DPIIT’s recommendation addresses the problems that have been lingering for a long time, which could eventually lead to innovation and development if implemented.
• This thinks will inevitably increase the quantity of Angel investors, improve fund circulation and eventually raise the survival and sustainability of startups in the country. The Union Budget announcement is expected in the coming months and the startups have seen this particular policy change as a great opportunity of unlocking new horizons for innovation.

People Also ask

Q1: What is known as the angel tax?
Ans: Angel tax is a tax levied on the funds commanded by the private firms from the angel investors where the amount exceeds the face value of the share. It is deemed as “income from other sources” on the basis of the Section 56(2)(viib) of the Income Tax Act.

Q2: What was the reason for the introduction of the angel tax?
Ans: The angel tax was established in the financial year 2012–2013 through the Union Budget to check various operations of money laundering within which the black money was parked in the garb of legitimate angel investments.

Q3: In what way has the angel tax impacted startups?
Ans: The angel tax affects the ability of startups to be financed because it has placed a tax on investments which presents a value higher than the fair market price of shares. This has put off potential investors and restricted the cash that young companies can use for expansion and self-replenishment.

Q4: What were the changes that were made to the angel tax in the year 2018?
Ans: during April 2018, the government came up with some relief for the startups where they no longer have to pay the angel tax on the condition that the total amount of investment including the angel investor’s investment should not exceed ₹10 crore. However, it was noted that startups still had to acquire multiple licenses and valuation certificates.