Why in news?

• The Finance Ministry has exempted investors from 21 countries from the levy of angel tax for non-resident investment in unlisted Indian startups.
• Countries like Singapore, Netherlands and Mauritius have not been included in the exemption list.
  • These countries constitute the major chunk of foreign direct investment in India.

What’s in today’s article?

• Angel Tax
• News Summary

Angel Tax

• It is a term basically used to refer to the income tax payable on the capital raised by unlisted companies via the issue of shares through off-market transactions.
• This tax is levied on the capital raised via the issue of shares by unlisted companies from an investor if the share price of issued shares is seen in excess of the fair market value of the company.
• The excess realization is considered as income and therefore, taxed accordingly.
  • E.g., If the fair market value of a start-up share is Rs 10 apiece, and in a subsequent funding round they offer it to an investor for Rs 20, then the difference of Rs 10 would be taxed as income.
• Angel tax gets its name from the wealthy individuals (“angels”) who invest heavily in risky, unproven business ventures and start-ups, in the initial stages when they are yet to be recognised widely.

Rationale behind introducing Angel Tax

• Rule related to Angel Taxis described in Section 56(2)(viib) of the Income Tax Act, 1961.
• This clause was inserted into the act in 2012 to prevent laundering of black money, roundtripping via investments with a large premium into unlisted companies.

Budget 2023-23 and Angel Tax

• Investments that used to fall under the ambit of Angel Tax before the introduction of Budget 2023-24
  • Before budget 2023-24, angel tax was imposed only on investments made by a resident investor.
  • i.e., it was not applicable in case the investments are made by any non-resident or venture capital funds.
  • Allaying the concerns of the startup community, the govt had also exempted investments made by the domestic investors in companies approved by an inter-ministerial panel from Angel Tax.
    • i.e., Government recognised startups, upon meeting certain criteria, were exempted from this tax.
• Changes introduced in Budget 2023-24 with respect to angel tax
  • The Finance Bill, 2023 has proposed to amend Section 56(2) VII B of the Income Tax Act.
  • With this, the government has proposed to include foreign investors in the ambit.
  • That means when a start-up raises funding from a foreign investor, that too will now be counted as income and be taxable.
  • However, these foreign investors will not need to pay any angel tax while investing in a government-recognised startup in India — similar to the provision for domestic investors.
  • Either of domestic or overseas investors investing in a DPIIT-registered startup will not attract the so-called angel tax

News Summary: Angel Tax - Investment from 21 nations exempted

• The Finance Ministry has notified 21 countries, from where non-resident investment in unlisted Indian startups will not attract angel tax.

Notified categories of exempted investors from angel tax

• Excluded entities as notified by the Central Board of Direct Taxes (CBDT)
  • Those registered with Sebi as Category-I FPI,
    • Category-I FPI (Foreign Portfolio Investor) refers to a classification of foreign investors in India's financial markets.
    • It includes entities such as sovereign wealth funds, central banks, government agencies etc.
    • These entities are considered to have a relatively low-risk profile.
  • Endowment Funds,
  • Pension Funds and
  • Broad-based pooled investment vehicles where the number of investors in such vehicle or fund is more than 50, and
  • the residents of 21 specified nations
    • These nations are- US, UK, Australia, Germany, Spain, Austria, Canada, Czech Republic, Belgium, Denmark, Finland, Israel, Italy, Iceland, Japan, Korea, Russia, Norway, New Zealand and Sweden.

Concerns regarding the exemptions

• Can impact fundraising by startups
  • Experts believe the exclusions of countries from exemption list impacts fundraising by startups as these form a major chunk of investment source for them.
  • E.g., Singapore, Mauritius and UAE - these three countries together constitute over 50% FDI in India.
• Welcome move to plug loopholes
  • The exclusion of Mauritius, Singapore and Netherlands is being seen as a move to plug loopholes from investments arising from such tax havens.
• Aims to attract more FDI into India from exempted countries
  • By explicitly mentioning this list of countries, the government aims to attract more FDI into India from countries that have robust regulatory
  • This move aligns with the Government’s initial intention of bringing FDI under the purview of angel tax to prevent the circulation of unaccounted money.
  • Therefore, exempting investments from regulated entities, resident in countries with stringent and effective regulatory frameworks serves a logical purpose.