As the rest of the world fauns over angels this season, Indian entrepreneurs and the government are fretting over the angel tax. This measure (Section 56(2)(viib)), introduced by the UPA government in 2012 by stating that the pernicious practice of conversion of unaccounted money through the masquerade of investment in the share capital of a company needs to be prevented”. But instead, the legislative intent is being subverted by using it as a weapon to tax any startup who has raised capital at a premium.
Instead of curing dandruff by decapitation, as the government is trying to do with this law, a simple approach that has been used by the government in the past can effectively solve this draconian issue: Make citing the PAN of the investor mandatory before investment into a startup.
The humble PAN (Permanent Account Number) is already mandatory for a variety of dealings, both financial and non-financial such as:
- Filing IT Returns
- Opening a bank account
- Buying or selling a motor vehicle – above $7.1K (INR 5 Lakh)
- Applying for a credit or debit card
- Purchase of jewellery – above $2.8K (INR 2 Lakh)
- Stock market investments (above INR 50,000)
- Purchase or sale of property
- Obtaining loans
- Insurance payments
By making the PAN of the investors mandatory, the Central Board of Direct Taxes (CBDT) can solve the core issue at the heart of section 56(2)(viib): ensuring that the funds received are from accounted sources.
This same practice has been followed for other such investments to great effect. By making this mandatory and asking all startups aggrieved by this section to obtain the PAN in a time-bound manner, the IT department can help distinguish genuine investors who have invested out of their tax-paid funds.
This is further boosted by the changes made to the Income Tax forms last year where even salaried people earning more than $71.1K (INR 50 Lakh) need to file their financial statements with their IT Returns. This will help establish the source of funds and net-worth of the investors instead of forcing the startups to become middlemen in obtaining this.
Thus, in one simple move, genuine startups who raised capital can breathe easy, the government’s intent of preventing the laundering of unaccounted funds via high premia can be achieved and angels can continue their good work without being harangued.