Budget 2019: No Angel Tax action against start-ups who've filed documents

Govt proposes e-verification mechanism to do away with any engagement between an enterprise and a tax officer, which many had called out as akin to harassment

Finance Minister Nirmala Sitharaman in her Budget speech on Friday said all start-ups booked under the Angel Tax [Section 56(2)(viib) of the Income Tax Act] but had submitted all relevant documents and decelerations sought by the tax authority would not be pursued any further.

“To resolve the ‘angel tax’ issue, the start-ups and their investors, who file requisite declarations and provide information in their returns, will not be subjected to any kind of scrutiny in respect of valuations of share premiums,” the minister said.

Under Section 56, infamously called the angel tax, the money raised by a start-up from an angel investor is taxed as income at 30 per cent. It does not apply to firms registered as ‘start-ups’, with the government or those raising money from venture capital funds (which come under Alternate Investment Fund Category 1). 

The provision, which was introduced to prevent money laundering through shell firms, has been a back-breaker for start-ups that have had to go from pillar to post explaining their valuations and legitimacy of the source of their funds to tax inspectors.

About 100 start-ups have received tax demands under the angel tax clause in the past two years, with some having to shut shop because it spooked their investors or made further fundraising a challenge. Start-ups have also complained about running into a wall explaining their firm’s valuation to tax inspectors and sourcing intricate financial documents from their investors — demands made by the tax collectors. To resolve this issue, the government has proposed an e-verification mechanism for securing necessary fillings from start-ups and investors. The idea is to skip any engagement between a start-up and a tax-assessing officer.  The minister said special administrative arrangements would be made by Central Board of Direct Taxes for pending assessments of start-ups and redressal of their grievances. “It will be ensured that no inquiry or verification in such cases can be carried out by the assessing officer without obtaining approval of his supervisory officer,” she said.

In another respite, the government said it had decided to exempt category II AIFs from the purview of angel tax, which was a main recommendation of the investor community. “At present, start-ups are not required to justify fair market value of their shares issued to certain investors, including Category-I Alternative Investment Funds (AIF). I propose to extend this benefit to Category-II Alternative Investment Funds also. Therefore, valuation of shares issued to these funds shall be beyond the scope of income tax scrutiny,” Sitharaman said. 

“AIF 2 funds now protected from Angel Tax: wonderful move to support innovation and private investment by @nsitharaman @narendramodi Thanks for your immense faith and encouragement to Indian VC PE investors and investments!” tweeted Gopal Srinivasanþ, chairman and managing director, TVS Capital. According to data from Indian Venture Capital Association (IVCA) 291 category II, AIFs invested Rs 900 crore in the first half of 2019, which accounts for 35 per cent of total VC investment in this period.

TV programme for start-ups

The Finance Minister also announced a dedicated television programme for start-ups on the national broadcaster. 

More on the digital front

The Budget included several other measures on the digital skilling front, with announcements on training young people in relevant skills. “We applaud the government for recognising this as the need of the hour, and committing to train 10 million young professionals in emerging fields like artificial intelligence, Internet of Things, Big Data, Robotics and 3D printing. We will work with the government to understand the implementation process for the roll-out,” said industry body National Association of Software and Services Companies. The Internet and Mobile Association of India said these announcements would promote investments and focus on developing core infrastructure.

“The association welcomes the initiative for a $5-trillion economy, with focus on heavy infrastructure, employment generation, and the digital economy. The association welcomes the new drive for promoting BharatNet under the Universal Service Obligation Fund, and the grand vision of the Pradhan Mantri Grameen Digital Saksharta Mission,” it said.