Relaxed norms on angel tax – an inadequate offering?

  • A major source of finance for a start up comes straight from friends and family who only wish to own equity to a limited extent. Technically no tax should be levied on allotment of shares since the shares are created when they are allotted and not transferred. On the contrary capital gain is levied on transfer of shares and not creation.
  • An angel practice could give rise to an evil misconduct. Capital infusion in new companies through equity investments could be instrumental in circulation of unaccounted money in economy.

So two provisos were introduced in section 68 & 56 (2) (7b) was introduced.

  • An application in FORM-1 has to be filed with inter ministerial board seeking approval for being eligible as a start up.
  • FORM-2 for obtaining exemption from section 56(2)(7b).
  • Pre condition of filing form-2 have been further tweaked, wherein the limit of returned income in the preceding financial year has been enhanced from 25 lakhs to 50 lakhs or above combined with Net worth of 2 crores.
  • Form-2 application received by DIPP (DEPT of industrial policy and promotion) shall be forwarded to CBDT (CENTRAL BOARD OF DIRECT TAXES) which will grant or decline approval within 45 days of receipt of such application.

Reasons to be called as inadequate offerings …

  • DIPPs notification doesn’t meet up to the expectations of the stakeholders at any level, except for doing away with the merchant banker’s valuation report requirement.
  • Enhancing the net worth and returned income criteria of proposed investor have made the offering further stringent and stiff.
  • Out of all pre-conditions, the basic condition of obtaining Inter-Ministerial board’s approval is an uphill task that discourages most of the start-ups in even planning for obtaining an angel tax exemption in future.
  • Without the recognition as a start-up, every private company is at a risk of receiving notices challenging their market worth and the report issued by merchant banker. So the impact of section 56(2)(7b) is maintained .
  • Valuation limits set on a start up valuation of RS 10 crore is too low and will discourage larger bets on building next set of unicorns in India.

Striking a balance on government …

  • With the above backdrop, the government should effectively endeavor to strike a good balance between imposing restrictions on flow of unaccounted money and incentivizing start-ups at the same time.
  • One of the ways to achieve it could be to link the provisions of section 68 with section 56(2)(7b) Wherein the pre-condition of applying angel tax would be to the satisfaction of AO on applicability of section 68.
  • In other words, where the taxpayer is not able to satisfactorily explain the nature and source of share application money invested, only then angel tax should be levied in the hands of recipient start-up company in order to check the circulation of unaccounted money
  • In this way, the current insuperable discretionary power in hands of the AO to challenge the valuations of the start-up companies can be contained and the degree of abrasiveness of section 56(2)(7b) can be moderated.

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