Angel Tax Conundrum: DPIIT Takes Up Startup Taxation Issue With FinMin

Amid the ongoing row over angel tax, the Department for Promotion of Industry and Internal Trade (DPIIT) has reportedly broached the taxation issue of Indian startups with the finance ministry.

“Startup India does provide such policy advocacy, particularly on the taxation issue. We have been taking that particular issue that many startups are worried about funding from non-residents…and the initial valuation of the startup, how that tax is calculated. We have taken it up,” DPIIT secretary Rajesh Kumar Singh said at an industry interaction.

The public affirmation comes a month after it reported that DPIIT had privately raised the Indian startups’ concerns related to angel tax with the Department of Revenue and Economic Affairs.

Any capital raised by startups via selling shares to investors above the fair market value attracts angel tax. This tax is levied at 30.9% on net investments over the fair market value. 

At the centre of the debate is the provision related to angel tax in the recently passed Finance Act, 2023, which amended Section 56(2)(VIIIB) of the Income Tax Act, 1961.

The amendment brought overseas investment in startups under the ambit of new tax rules. Post the amendments proposed in the Finance Bill, concerns have been raised over the methodology of calculation of fair market value under the two different laws.

The modification in valuation rules is needed as the I-T Act and FEMA provide different methodologies for calculating the fair market value of shares of unlisted companies.

However, exceptions were granted to certain DPIIT-recognised startups, and transactions where the total aggregate amount for the deal is under INR 25 Cr. This was reiterated by DPIIT secretary Anurag Jain in February.

“Let me put one thing very clearly. It [angel tax] does not affect startups in the least,” Jain said while addressing the PE-VC industry at the IVCA Conclave 2023 in Mumbai. “…there is a clear proviso which clearly brings out that it does not affect the startups.”

While the situation is still unclear around angel tax, startups in India have been more vocal about it as the funding winter refuses to let up.

DPIIT fears the proposal to withdraw exemptions from foreign investors, effective April 2024, will further impact the startup ecosystem. The government body is apprehensive that the move might lead foreign investors to look away from the Indian market.

The move can also potentially increase ‘flipping’ among startups – with Indian startups looking to move their domiciles abroad to raise funding from foreign investors, at a time when India is actively promoting ‘reverse flipping’ of startups.