In response to sustained pressure from start-ups, the Indian government has eased tax norms for new businesses in a bid to boost the entrepreneurship ecosystem in the country.

Over the past three years, start-ups have been concerned over the so-called ‘angel tax’: this is a tax on equity infusion in start-ups that is higher than their fair market value, with the premium considered as income, and aimed at fighting money-laundering in the form of overvalued capital raises. This has been called an angel tax as it affects early stage investments. More than 2000 start-ups have received notices from the tax department according to the Indian Private Equity and Venture Capital Association. 


According to the new norms announced by India’s Department for Promotion of Industry and Internal Trade (DPIIT), start-ups raising capital up to Rs250m ($3.5m) can now claim tax benefits, as against the limit of Rs100m earlier. Exemptions have also been allowed for investments by non-resident Indians and alternative investment funds as well as for equity infusion into start-ups by relatively large listed companies. These will not be considered part of the Rs250m limit and is intended to encourage more investments by Indian companies and ownership. 

Start-ups can also escape the tax net if they are private limited companies recognised by DPIIT that are not investing in any of the following assets: buildings or land other than that occupied by the start-ups for its business; extending loans and advances; capital contributions made to other entities; shares and securities; any motor vehicle, aircraft, yacht, the actual cost of which exceeds Rs1m. This is to prevent any sort of money-laundering. For availing exemptions, start-ups will now file a self-certified declaration with the DPIIT, which will then be passed on to the Central Board of Direct Taxes (CBDT). 

Around 7000 of the 16,200 start-ups registered with the DPIIT are expected to benefit from these new norms. These are mostly smaller, cash-starved firms that had found it difficult to raise funds from investors who were deterred by the angel tax. Angels invested around $5.5bn in early stage start-ups in 2018. With the tax matters now being resolved, this could double to $12bn from 2000 angel investors and hundreds of smaller backers of start-ups by the end of the year. Of this, about $7bn will come in the form of corporate investments, according to a story in the Business Standard

The big question is what will happen to the 2000 startups that have received notices from the tax authorities. As many as 120 start-ups face tax demands on the valuation premium for the investments received for expanding businesses. There are indications that the new norms do not provide relief for the latter category. Although the CBDT has indicated that tax officials have been directed to not enforce the recovery of demand, these start-ups would have to go through the appeals process. Despite the new norms, start-ups still have to establish the genuineness of the source of investments if they are not to be taxed. 

N Chandra Mohan is an economics and business commentator based in New Delhi.