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‘Start-up India’ is an initiative of the Government of India. The action plan of this initiative is to create a conducive environment for the startups incorporated in India. As a part of the Action Plan, the Finance Act, 2016 introduced tax exemptions for start-ups under Section 80-IAC. An eligible start-up can claim 100% tax deduction under this provision for certain number of years. A start-up, once approved by the Department of Industrial Policy and Promotion (DIPP), becomes eligible for this tax exemptions.

Every start-up needs an innovative concept and seed funding to begin its journey. At every stage of business, start-ups look for more funding from the investors. Fresh capital is raised by the start-up cos. from the investors by issuing new equity shares, generally at a price calculated on discounted cash flow method.

In recent times, startups have faced various income-tax proceedings due to inflated share valuations. For allotment of new equity shares, start-up cos. are required to submit a valuation report from a merchant banker or an accountant based on Discounted Free Cash Flow Method as prescribed in Rule 11UA(2)(b) of the Income-tax Rules, 1962. However, these reports were generally rejected or modified by the Assessing Officers because of abnormal valuations done on assumptions. Consequently, additions were made in the residuary income of start-ups as per provisions of Section 56(2)(viib). As an immediate relief, the CBDT issued an instruction that no coercive steps shall be taken against the start-ups for recovery of outstanding demand.

Since a start-up gets high investment because of its idea, applying Section 56(2)(viib) to recover the tax on pretext of inflated valuation would be prejudicial to the interest of the start-up. The DIPP, therefore, provides a relief to the start-ups by issuing a new notification G.S.R. 2364(E) dated 11-04-2018 (superseding the existing notification GSR 501(E) 23-05-2017). This notification requires Startups to file new Form-1 and Form-2 in order to claim tax incentives.

Start-ups get partial exemption from angel tax

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The application in Form-1 shall be filed along with prescribed documents before CBDT to obtain a tax exemption certificate under Section 80-IAC. The Form-2 shall be filed by the start-up to claim exemption from the applicability of Section 56(2)(viib). No tax shall be levied on start-up in respect of angel funding, if following conditions are fulfilled by the start-up:

A. The aggregate amount of paid share capital and share premium of the start-up doesn’t exceed ` 10 crores

B. The investor who proposed to subscribe shares of start-up has average returned income of ` 25 lakhs or more in last 3 financial years or its net worth is ` 2 crores or more on the last date of preceding financial year.

C. Start-up has obtained a valuation report from a merchant banker specifying fair market value of shares in accordance with Rule 11UA of the Income-tax Rules, 1962

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STArT-uPS geT PArTiAl exemPTion from Angel TAx

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