Angel Tax Regions: Indirect Investment Routes Amplify Funding Concerns

The impact of ongoing funding climate in the Indian startup sector, certain key jurisdictions including Singapore, Mauritius, Cayman Islands, and the Netherlands have been excluded from the white list of geographies exempted from angel tax provisions. Venture capitalists are expressing concerns about the potential consequences of this exclusion, particularly due to the significant foreign direct investment (FDI) flowing into Indian startups from these jurisdictions.

Exclusion of Angel Tax Jurisdictions Raises Concerns for Indian Startup Sector

The angel tax regime, introduced in 2012 as a measure to prevent money laundering, subjects a startup's fundraising to taxation if the funding round occurs at a valuation higher than the fair value of shares, as determined by a merchant banker. However, the exclusion of jurisdictions that account for a substantial portion of FDI into Indian startups has raised apprehensions among investors and industry experts.

Industry Experts Express Apprehensions about Funding Consequences

Mr Anil Joshi, Managing Partner at Unicorn India Ventures, tells TICE News that the exclusion of Singapore, Mauritius, and UAE from the angel tax exemption criteria would impact the fundraising process. He highlighted that over 50% of funding comes from funds structured in these countries. 

CBDT’s Recent Notification Exempts Investments from 21 Countries

On May 24, the Central Board of Direct Taxes (CBDT) issued a notification stating that investments from 21 countries would be exempted from angel tax. This list includes countries such as Australia, Austria, Canada, France, Germany, the United Kingdom, and the United States. However, the omission of jurisdictions like Singapore, Mauritius, and the Cayman Islands, which rank among the top sources of FDI into India, has sparked concerns among investors.

Investors Opting for Indirect Investment Routes Heightens Funding Winter Fears

Investors fear a prolonged funding winter because even investors from exempted jurisdictions often choose to invest in India through Mauritius, Singapore, and other regions as part of their Asia strategy.

Government's Proposal to Exclude Certain Parties from Angel Tax Scope

This recent move follows the finance ministry's proposal to exclude certain parties, including pension funds and sovereign wealth funds, from the scope of angel tax. The exemption also applies to entities with direct or indirect government ownership of 75% or more. These measures were introduced to provide relief to new-age companies struggling to navigate the challenging capital market environment.

Under Section 56(2)(viib) of the Income Tax Act, the difference between the fair market value and the face value of shares issued by a company is subject to taxation.

Stakeholders Seek Protective Measures for Startup Funding Environment

The exclusion of crucial jurisdictions from angel tax exemption criteria raises concerns about the potential impact on funding availability for Indian startups. Investors and industry stakeholders will closely monitor developments in the hope of finding a resolution that ensures a conducive environment for entrepreneurial growth and innovation.

“If decision to include these countries in the exemption list is not taken soon then startups may find it an expensive proposition to raise money from the funds structured in these countries. Given the current situation the startups may need to look at the countries like the USA or the UK, considering the current economy situation the money raise from even above countries will be challenging,” Mr Anil Joshi says.

Striking a Balance: Regulatory Requirements and Facilitating Foreign Investment

These measures were introduced to provide relief to new-age companies navigating the challenges of the capital market. 

Different perspectives exist within the industry regarding the exclusion of Mauritius and Singapore. Some industry players support this exclusion, expressing concerns about these jurisdictions being used as pooling destinations and emphasizing the need to adhere to different tax systems. 

On the other hand, others stress the importance of fostering genuine investment flows into the country. With each tax system and geographical location possessing its own unique characteristics, stakeholders must navigate diverse rules. Striking a balance between regulatory requirements and the facilitation of foreign investment is crucial to maintain a favorable environment for startups.

Stakeholders in the industry are actively engaging with the government and regulatory bodies to find protective measures that address the concerns raised by the exclusion of Mauritius and Singapore from the angel tax exemption list. Striking a balance between preventing misuse and fostering investment flows will be essential to maintain a conducive environment for startup funding. This favorable environment is of utmost importance for nurturing innovation and entrepreneurship in India.