Budget 2019-20: This government has so far taken several steps to boost startup activity in the country -- Fund of Funds, access to government contracts, availability of debt, angel tax exemption etc.
By Dr Saurabh Srivastava
Budget 2019 India: This government has taken several positive steps to boost startup activity in the country — Fund of Funds, access to government contracts, availability of debt, exempting DPIIT registered startups from angel tax etc. Angel investors and also startups are therefore hoping that the Union Budget 2019 will seek to iron out some of the remaining wrinkles that still hinder startup activity in the country. Following are the angel investors’ expectations from this year’s budget.
Relief from Section 42 of Companies Act: Section 42 rules that an enterprise seeking capital from more than 200 potential investors amounts to a public issue. This interpretation hinders angel groups and platforms. This rule should be relaxed for investments in DPIIT-certified start-ups raising less than Rs 25 crores. It will enable start-ups to get funding without affecting governmental revenues.
Removal of Section 56: Post-February 21 notification, DPIIT-registered start-ups have been exempted from angel tax. However, this still does not cover MSMEs in general which don’t meet the DPIIT definition. As General Anti-Avoidance Rules (GAAR) will now kick in, and Section 68 of the Income Tax (IT) act exists already, Section 56 is redundant and should be eliminated entirely. It will positively impact start-up activity and angel Investments in MSMEs.
Overseas investments in start-ups: Complicated RBI-driven processes for inward and outward remittance discourage overseas investors to invest in Indian start-ups. The challenges range from the delay resulting from using the new “FIRMS” portal to file FC-TRS to inconsistencies in information requirement and approvals by AD (authorised dealer) banks. What’s required here is the provision of a single, hassle-free, and faster document filing portal for banks and RBI; transparent tracking/query system; reinstating the erstwhile “eBiz” portal, and instituting a single point of contact in each bank for overseas transactions.
Government revenues will remain unaffected even as there will be an increased overseas investment in Indian start-ups. It will also help companies to be compliant for subsequent investment rounds and exits.
No Funding Mechanism for Angels: The Government has created several schemes for funding incubators, tinkering labs, and the fund of funds to enable start-ups. However, angel investors, who not only invest money but also high-quality time mentoring and guiding companies to make them investible by venture capital firms, have missed the government’s attention. The government should create a pool of capital for funding operations of the angel groups based on a fair analysis of their past track record and future strategy.
Limited Liability Partnership: Effective since 2009, the Indian LLP structure does not allow a foreign passport holder to be a ‘Controlling Partner’ in the LLP. Thus discouraging the participating of the global entrepreneurial talent in building Indian start-ups. Here, persons of Indian origin (PIO) residing in India (as defined by the IT Act) should be allowed to become controlling partners in LLPs. This will attract international talent in India.
Exits: Currently, angel investors cannot get an exit after selling their shares to other angels as it is considered as an exchange. This hinders potential angel investment prospects. So, angel groups should be allowed to facilitate exits for angel investors for DPIIT-registered start-ups. This will encourage angel investment and also create a positive impact on revenue for the government due to increased tax collections on transfers.
Relief from misuse of Section 131, 133 (6) and section 143 of IT Act: Some assessing officers (AO) are not accepting the DPIIT notification while others are now misusing these sections to bully investors into justifying the valuation of their investments in start-ups and asking for all kinds of information such as bank statements, ITRs, investment details, valuation justification, etc., from each investor. This violates the relief granted by DPIIT’s February 21, 2019 notification regarding Section 56 of the angel tax.
DPIIT’s notification should be applicable with regards to the valuation of companies defined as start-ups at the time of investment. Further queries/justification for the valuation of companies should be addressed to companies and not investors. AOs need to be instructed to align with the governments intent in this area. This will keep the sanctity of the hard work done to eliminate angel tax by the government.
Special funds: The government should create a separate fund for helping women founders and biotech, healthcare, and agritech start-ups as most healthcare and biotech companies have to relocate their headquarters overseas to attract funding from VCs.
Taxation of ESOPs: ESOPs are currently taxed at the time of their exercise. This results in ESOP holders becoming unable to sell unlisted, illiquid shares to raise cash to pay the tax, variable fair value at the time of exercise and actual sale, etc. Hence, the government should tax ESOPs at the time of sale and not exercise.
Relief from Section 79: Section 79 of the IT Act restricts Indian start-ups from carrying forward their losses in the event of a change in shareholding. This clause should not apply to start-ups. If removed, the short-term loss of tax revenue will be compensated for by increased investment activity and enhanced tax collections.
Restrictive Provision for Insurance firms backing AIFs: The IRDA act prohibits alternative investment funds (AIF), which have accepted an investment of as low as 5 per cent of their entire corpus from an insurance company, to invest in an Indian company based out of India. The IRDA condition should only apply to the money invested by the insurance, not the entire AIF corpus. This will open good opportunities for insurance companies investing in AIFs which is the ideal risk duration/profile for them.
Round-tripping rules: Current round-tripping regulations are not conducive to the growth of start-ups, especially tech start-ups, which need to be encouraged to acquire innovative foreign companies, whose technology can benefit Indian companies. The RBI policy announcements need to clarify the specifications than just containing the following generic statement: Streamlining of overseas investment operations for the start-up enterprises. This will help in a positive revenue impact for the government.
(Dr Saurabh Srivastava is chairman and cofounder at Indian Angel Network and chairman emeritus at TiE Delhi-NCR. Views expressed are the author’s own.)