Angel taxes may reduce foreign investment in Indian businesses
By Team Startupcity | Thursday, 02 February 2023, 08:58 IST
Angel tax will now be required of Indian businesses receiving money from international investors including SoftBank, Sequoia Capital, Prosus, Tiger Global, KKR, and Blackstone. This might limit funding to the sector, which is experiencing a liquidity crisis, and force more startups to relocate outside.
Non-residents will now be subject to Section 56(2) VII B, popularly known as the angel tax, which was implemented in 2012 as an anti-abuse tool intended to combat tax avoidance, according to Finance Minister Nirmala Sitharaman's budget address.
The tax exemption would still apply to alternative investment funds that are registered with the Securities and Exchange Board of India (Sebi). However, international investors who were previously exempt from the tax have now been included in its coverage.
As they receive the majority of their funding from foreign investors, startups are likely to be impacted by the decision. Private equity and venture capital investments into India totaled $54 billion in 2022, compared to a record-breaking $77 billion in 2021 for Indian companies. "The scope of this tax has never applied to non-resident investors, "J Sagar & Associates partner Ritesh Kumar said. "We all hope that this is an error, ".
If the share price allocated to investors is more than the share's fair market value (FMV), an angel tax is imposed. The difference in this situation is governed by Section 56 (2) VII B. The difference of $5 would be taxed as income by the firm, for example, if the FMV (of a share with a $1 face value) is $10 per share and the startup distributes shares at a premium of $15.
For startups in the early to growth stages, where there is a greater difference between the FMV and the price of the allotted share, the impact is probably going to be more severe. In mature organisations, this gap is typically less pronounced. The government's decision, according to Kumar, "proposes to bring into the tax net any sum received by a closely held firm from a non-resident towards subscribing of shares when the consideration is higher than the fair market value."
As international investors would not want to cope with higher tax burden as a result of their investment in the startup, this could force more firms to sell their businesses overseas "VC firm 3one4 Capital co-founder Siddarth Pai stated. "The re-introduction is totally against the grain of the entire reverse-flipping trend. In reality, this will speed up international flipping, "Pai expanded.
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