Angel Tax and Indian Startup Companies

Context:

Indian industry bodies have expressed concerns regarding the Angel Tax, particularly its recent expansion in the Finance Bill 2023. This development comes amidst a decline in startup funding and job losses.

Understanding Angel Tax:

• Angel Tax refers to the income tax levied on unlisted companies that issue shares to investors at a price exceeding the fair market value (FMV). The current rate is 30.6%.
• Introduced in 2012, the tax aimed to curb money laundering practices involving inflated startup valuations.
• The Finance Act 2023 extended the Angel Tax to cover investments made by non-resident investors starting from April 2024 (previously applicable only to resident investors).

Industry Concerns:

• Hinders Growth: The industry argues that Angel Tax discourages investments in startups. Taxes levied on the difference between the issue price and FMV can significantly reduce the available capital for early-stage companies.
• Discourages Future Potential Investment: Investors often base their decisions on a startup’s future potential, not just current valuation. Angel Tax penalizes this practice, hindering investments in high-growth potential startups.
• Data Suggests Negative Impact: Recent data shows a decline in startup funding and job losses, potentially linked to the Angel Tax. Industry bodies like CII recommend eliminating the relevant section of the Income Tax Act to boost capital formation in the startup ecosystem.

Recent Developments:

The government has partially addressed these concerns by:

• Exempting DPIIT-recognized Startups: Startups recognized by the Department for Promotion of Industry and Internal Trade (DPIIT) are exempt from Angel Tax.
• Excluding Investors from Specific Countries: Investors from 21 countries (including the US and UK) are exempt from Angel Tax on their non-resident investments.

However, limitations remain:

• Key investment source countries like Singapore, Netherlands, and Mauritius are still not exempt from Angel Tax.