Angel Tax (GS Paper 3, Economy)
Introduction:
- Angel tax has been a contentious issue in the startup ecosystem in India.
- The recent recommendation by the Department for Promotion of Industry and Internal Trade (DPIIT) to abolish this tax has sparked discussions on its potential impact on startup funding and investor sentiment.
- This proposal is anticipated to be announced in the upcoming Union Budget, aiming to simplify funding processes and enhance the attractiveness of Indian startups to investors.
Understanding Angel Tax:
- Angel tax refers to the tax levied on private companies when they receive funding that exceeds their fair market value, primarily affecting investments from angel investors.
- The tax was introduced under Section 56(2) VII B of the Income Tax Act, categorizing any premium on the sale of shares to foreign buyers as "income from other sources," thus making it taxable.
Origins of Angel Tax:
- Introduced in the 2012 Union Budget by then-Finance Minister Pranab Mukherjee, the angel tax aimed to curb money laundering activities.
- Significant relief came in April 2018 when startups were exempted from this tax if their total investment, including funds from angel investors, did not exceed ₹10 crore.
- However, startups were still required to obtain multiple licenses and valuation certificates, complicating the process.
Rationale Behind DPIIT’s Recommendation for Repeal:
- The recommendation to abolish the angel tax emerged from extensive consultations with stakeholders in the startup ecosystem and industry groups.
- Concerns were consistently raised about the adverse effects of the angel tax on startup funding and growth.
- The DPIIT has communicated these concerns to the finance ministry, suggesting that eliminating the tax could significantly boost capital formation in the country.
Impact on Startups:
- Abolishing the angel tax could greatly benefit India’s more than 141,000 DPIIT-registered startups.
- It would make angel investments more attractive and financially viable.
- Currently, the angel tax is seen as a deterrent by potential investors as it reduces the funds available for growth and reinvestment in startups.
- The Confederation of Indian Industry (CII) and other business groups have been vocal advocates for reducing this tax to support the startup ecosystem.
Current Investment Trends and Challenges:
- The first half of 2024 witnessed a slight decline in startup fundraising efforts, reflecting the challenging economic environment for new tech startups.
- Additionally, significant drops in the valuations of prominent startups indicate a broader slowdown in funding, exacerbated by cautious global market sentiments.
- Eliminating the angel tax could help mitigate some of these challenges by fostering more vigorous business activities.
Conclusion:
- The proposed abolition of the angel tax by the DPIIT is a welcome move for the Indian startup ecosystem.
- By making funding processes more straightforward and attractive for investors, this step could lead to a more vibrant and dynamic entrepreneurial landscape in India.
- As the Union Budget approaches, the startup community eagerly anticipates this potential policy change, hoping it will pave the way for enhanced growth and innovation.
