Government’s Response To Angel Tax Worries Is Inadequate, Say Startups

Startups, which overcame troubles due to angel tax, may not find relief with a recent government notification.

Employees work inside a Biomoneta laboratory in Bengaluru. (Photographer: Samyukta Lakshmi/Bloomberg)
Employees work inside a Biomoneta laboratory in Bengaluru. (Photographer: Samyukta Lakshmi/Bloomberg)

Startup founders and investors, who only recently overcame troubles due to the angel tax, may not find much relief with the government’s new notification that sought to assuage their worries.

Those associated with the startup ecosystem said the way the government sought to make amends for tax notices sent to more than 150 startups on their angel funding with its notification is cosmetic in nature and doesn’t address the core issues.

The government yesterday said startups that are seeking exemption from angel-tax notices won’t require certification from an inter-ministerial body, but new applications must be routed through the Department of Industrial Policy and Promotion, which will be evaluated by the Central Board of Direct Taxes in 45 days. Also, the notification doesn’t help those who have already received notices on the angel investment.

Sreejith Moolayil—who received a Rs 40-lakh notice from the Income Tax Department on angel funding of Rs 1 crore for his startup True Elements—said the announcement won’t solve any of the core problems. The co-founder of the Pune-based health food startup told BloombergQuint over the phone that they have just changed the department. “Earlier it was with the DIPP, which CBDT will (now) do. The problem is with the overall process.”

Kafka Devises Renewed Tax Terror for India's Startup Angels

Each time entrepreneurs raise angel funding they still must:

  • Submit documents such as income-tax returns, total assets and net-worth certificates for exemption.
  • Provide justification for valuation of shares along with supporting documents.

Mohammed Ali, who runs the startup Primaseller in Bengaluru, said the move exposes a dichotomy in the government’s stance on funding. “The core issue is, on the one had government says it’s fine with investment as long as the money is from a legitimate source, but then they still want to question the value of the transaction.”

It’s still like a license raj, where every time we have to raise funds, we will have to take permission from the government. Section56 of the Income Tax ActWhy is that so?
Mohammed Ali, Founder, Primaseller

The founder of the omnichannel inventory and order management platform for retailers, who claims to have spent Rs 2-3 lakh on handling government notices, said investors develop cold feet if the government seeks details such as their income tax returns. “We already provide PANs (permanent account numbers) of the investors and government should ask other details only if they suspect something wrong.”

Angel Tax: Will The Wicked Consume The Righteous?

But What Does The Government Fear?

The government’s cautious attitude stems from the fact that they perceive such investments as a form of money laundering, said Anupam Mittal, an angel investor. Nearly 30 of the 100 companies that Mittal invested in have received tax notices.

Given the gravity of the situation, Mittal has employed a person to just handle tax queries on his portfolio companies.

The government, he said, should enforce software and strengthen money-laundering laws and not enforce rules which makes life difficult for entrepreneurs. “Entrepreneurs should be incentivised for raising angel investment, not penalised.”

Pranay Gupta, co-founder of the co-working startup 91springboard, agreed.

He said the government has erred in:

  • Limiting paid-up share capital and share premium at Rs 10 crore.
  • Asking angel investors to have a minimum returned income of Rs 50 lakh, with worth of Rs 2 crore.

“Most of the startups who raise funds are from friends and family, so they can’t invest now,” Gupta said.

All this makes it difficult for people wanting to back startups just when they are beginning to grow, said Vijay Sambamurthi, founder and managing partner at Lexygen, a law firm specialising in legal services for fundraising transactions. “First they put a tax on something which shouldn’t have been taxed and now small exemption,” said Sambamurthi. “This will only demotivate angels both from India and abroad to back startups in the country.”

Padmaja Ruparel, co-founder of Indian Angel Network, believes the government deserves applause. “We need to applaud the efforts of the government as they have removed the tedious process of inter-ministerial board, but says the real issue lies with Section 56 of the Income Tax Act.”

The government on one hands provides tax exemption for the profits for the first three years, but with Section 56 they are charging tax on the capital that is being used for the growth. Section 56 has to be removed.
Padmaja Ruparel, co-founder, Indian Angel Network
Startups In Uproar Over Angel Tax: The Tax Department’s Point Of View