Angel Tax & Startups

1. Startups and Angel Tax • Shivi Agarwal

2. What are Start-ups? • Young ventures that is just beginning to develop • Handful of founders • Driven by latest technology • Driven by innovation • Have rapid growth prospects

3. Is every small business a Start-up? • NO. • HOW? • The growth intent • The funding methods • Different “End visions”

4. Is every startup eligible for benefit under Income Tax Act? • NO. • The department of promotion of industry and internal trade defines a startups as follows: • Entity can be registered as either • Private limited company; or • Partnership Firm; or • LLP • The entity can be considered as a startup for a period of 10 years from the date of its incorporation/ registration. • T.O. of the entity doesn’t exceed Rs. 100 crores in any of the financial years since incorporation or registration. • Entity is working towards innovation, development of products, process or services; or it shall be a scalable business model with a high potential of employment generation or wealth generation.

5. What shall not be regarded as a Startup under IT Act? • Any entity not satisfying the conditions mentioned in the previous slide; and • Any entity formed by splitting or reconstruction of an existing business.

6. Recognition of startup under IT Act • Why is recognition important for startups under the Income tax Act? • To claim various relaxation from various provisions under the Act. • Process of recognition for under the Act • Incorporate your business either as Pvt. limited co. or partnership firm or LLP • Make online application in form 2 to the DPIIT • Application can be made over the mobile app or the portal set up by DPIIT • Application shall be accompanied by • A copy of certificate of incorporation or registration; • A write up about the nature of business highlighting how its working towards development or innovation or scalable project

7. Tax rates of startups • Following are the tax rates applicable in case of startups based on their status

8. Relaxations under the IT Act for Startups • Tax holiday for three consecutive years (80IAC) • Carry forward of losses despite substantial change in ownership • Relaxation from Angel tax • Capital gains exemption to the investors

9. Tax holiday for three consecutive years (80IAC) • Conditions to be fulfilled by the startup to claim deduction u/s 80IAC: - • A Private limited company or LLP. • Engaged in innovation, development or improvement of products or processes or services or a scalable business model with a high potential of employment generation or wealth generation. • Incorporated on or after April 1, 2016 but before April 1, 2021. • The paid up share capital shall not exceed 25 crores in any previous year for which deduction is to be claimed. • It shall hold a certificate of eligible business from the Inter-ministerial board of certification as notified by the CG. • Exemption available • Exemption can be claimed @ 100% of profits from such business for 3 consecutive assessment years.

10. Carry forward of losses despite substantial change in ownership • Carry forward is allowed as long as at least 51% of voting power in the year of incurrence of loss continue to be the same in the year of carry forward • This condition is not applicable in case of startup • The only condition for carry forwards is that all the shareholders in the year of loss shall be holding the shares in the company in the year of carry forward. • Loss can be carried forwards for a period of 7 years

11. Relaxation from Angel tax • Startups are exempted from payment of Angel tax • Conditions are to be fulfilled to claim such exemption • Compliance to claim such exemption (Form 2) • Tax rate is as per the normal rate of Income tax as applicable in case of the startup • Exemption withdrawn if conditions not fulfilled • Introduced in F.A. 2012

12. What is Angel Tax? • Income tax • Levied on amount received exceeding the FMV and FV of share • Of closely held company • Investor must be a resident person

13. Exemptions from Angel Tax • Following conditions are to be satisfied to claim exemption: - • T.O. shall not exceed Rs. 100 Cr. In any of the 10 financial year in which it is claiming to be a startup • Co. shall be engaged in developing or innovating idea or scalable project generating employment • Paid up share capital including premium shall not exceed Rs. 25 Cr • Exemption is available w.r.t. all shares issued • Not available for shares in respect to which addition has already been made

14. Calculation of paid up share capital (56(2)(viib)) • While calculating any amount received from following persons shall not be included: - • Non resident persons • Venture capital fund and venture capital company • Listed company having net worth exceeding Rs. 100 crores (on the last date of preceding financial year) or turnover exceeding Rs. 250 crores (in preceding year)

15. Condition to claim exemption (56(2)(viib)) • To claim exemption under the said provision, it is restricted to invest in following assets: - • Land or building, being a residential house, other than that used for the purposes of renting • Land or building, not being a residential house, other than that occupied by start-up for its business or renting • Loans and advances, if start-up isn't engaged in ordinary business of lending of money • Capital contributions made to any other entity • Shares and securities • Motor vehicle, aircraft, yacht or any other mode of transport, if the cost of such an asset exceeds Rs. 10 lakhs. • Jewellery held otherwise than as stock in trade • Archaeological collections, drawings, paintings, sculptures, any work of art or bullion • Such restriction shall be applicable for 7 years from the end of the financial year in which shares were issued at premium.

16. Computation of Angel Tax • Angel tax shall be calculated as follows: - • Amount exceeding FMV and FV of the share of the startup • Such income is to be included in income of the startup • Income is to be assessed as “Income from other sources” • Tax rate shall be the normal tax rate as applicable in case of such startup

17. Computation of Fair Market Value of shares (Rule 11UA) • Method 1: - • (A- L) * PV • PE • A: - book value of assets in the B/S, reduced by TDS, TCS, Advance tax and deferred expenditure • L: - book value of liability not including S/C, proposed dividend, reserves and surplus, provisions, contingent liability • PE: - total amount of paid up share capital • PV: - paid up value of such equity share • Method 2: - • Valuation to be done by Merchant Banker as per discounted free cash flow method.

18. Computation of Angel Tax • Example 1: - • Face value of share of a startup A Ltd: - Rs. 10 • Fair market value of share of A Ltd: - Rs. 50 • Issue price to Mr. X(investor): - Rs. 60 • No. of shares purchased: - 1,000 • Income to be included in the hands of A Ltd.: - Rs. (60-50)*1000 = Rs. 10/- per share*1000 = Rs.10,000 • Rs. 10,000 are to be assessed as “Income from other sources” and tax is to be levied on the same.

19. Computation of Angel Tax • Example 2: - • Face value of share of a startup A Ltd: - Rs. 10 • Fair market value of share of A Ltd: - Rs. 50 • Issue price to Mr. X(investor): - Rs. 40 • No. of shares purchased: - 1,000 • No income shall be included in the hands of the company rather the income shall be included in the hands of the investor.

20. Income taxable in the hands of the investor • Where amount paid to purchase share of a company • Exceeds the Face Value of the share but less than the FMV • Differential amount between the FMV and the issue price is to be taxed in the hands of the investor • Taxability only if the difference exceeds Rs. 50,000. • Taxable as “Income from other sources”

21. Capital gains exemption to the investor • Section 54GB • Long term capital gains are exempt • Arising from transfer of residential house property • Benefit available only in case where gains are invested in shares of an “Eligible startup”

22. Summary • If shares are issued by a closely held company + at price higher than FMV and FV + investors are residents • ANGEL TAX is levied • Exemption criteria to be fulfilled if the company is an eligible startup + amount not invested in specified assets + paid up share capital not exceeding Rs. 25 crore

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