In a landmark decision, Finance Minister Nirmala Sitharaman has announced the removal of the controversial “angel tax” in her Union Budget 2024 presentation on July 23.
This significant move comes as a breath of fresh air for India’s startup ecosystem, which has long criticized the tax for its burdensome implications.
Origins of Angel Tax
Introduced in the 2012 Union Budget by then Finance Minister Pranab Mukherjee, the angel tax was aimed at curbing money laundering through investments in startups and preventing bogus firms from exploiting investment channels.
Officially known as Section 56 (2) (vii b) of the Income Tax Act, the tax was levied on funds raised by startups from angel investors that exceeded the company’s fair market value.
This excess amount was taxed at 30.9%, which was seen as a deterrent for potential investors.
Problem and Impact
Angel investors, who are high-net-worth individuals investing personal capital into startups and small businesses, faced increasing scrutiny under this tax regime.
Many startups argued that calculating the fair market value of a fledgling enterprise was impractical and often resulted in substantial tax notices and penalties long after the investments were made.
Reports from 2019 highlighted that over 73 percent of startups raising between Rs 50 lakh to Rs 2 crore had received tax notices related to angel tax.
While the government attempted to mitigate the impact by offering exemptions to DPIIT-registered startups in the 2019 Union Budget, the relief was limited.
The exemptions applied only to startups certified by the Inter-Ministerial Board (IMB), a bureaucratic body that certified the eligibility of startups for benefits under the Income Tax Act.
However, less than 1 percent of the 84,000 DPIIT-registered startups were IMB-certified, leaving many still vulnerable to angel tax.
Relief for Startups
The removal of the angel tax is expected to provide substantial relief to startups, many of which had faced tax notices years after their initial funding, sometimes resulting in tax liabilities exceeding the original investment.
By abolishing this tax, the government aims to foster a more supportive environment for startups, encouraging investment and innovation without the burden of cumbersome tax regulations.
This pivotal change is seen as a major boost for the Indian startup ecosystem, aligning with broader efforts to streamline regulatory frameworks and enhance the ease of doing business in the country.
The decision has been met with widespread approval from entrepreneurs and investors who view it as a significant step towards nurturing India’s burgeoning startup landscape.
