After the income tax department suggested exempting Sebi-registered FPIs, pension funds, and SWFs from angel tax, the government has announced a list of 21 countries from which non-resident investments in unlisted Indian startups will be Tax Relief from angel tax. These countries include the United States, United Kingdom, and France. However, investments from Singapore, Netherlands, and Mauritius will not qualify for the exemption.

The recent notification by the CBDT will come into effect on April 1, and it outlines additional countries from which non-resident investments in unlisted Indian startups will not attract angel tax. These countries are Austria, Canada, Czech Republic, Belgium, Denmark, Finland, Israel, Italy, Iceland, Japan, Korea, Russia, Norway, New Zealand, and Sweden.

Angel tax refers to the taxation imposed when shares of an unlisted entity are issued to an investor at a price exceeding its fair market value.

In the 2023-24 Budget, overseas investments in unlisted closely held companies (excluding DPIIT-recognized startups) were brought under the purview of angel tax. Consequently, the startup and venture capital industry requested exemptions for specific categories of overseas investors.

On May 24, the Central Board of Direct Taxes (CBDT) announced the classes of investors that would be exempt from the Angel Tax provision. This includes entities registered with Sebi as Category-I FPI, Endowment Funds, Pension Funds, and broad-based pooled investment vehicles from 21 specified nations such as the US, UK, Australia, Germany, and Spain.

Entities such as banks or regulated entities engaged in the insurance business, as well as those registered with Sebi as Category I foreign portfolio investors (FPIs), endowment funds, and pension funds, are also proposed to be exempt.

Experts stated that several major FDI source countries for India are noticeably absent from the list of exempt countries. These excluded jurisdictions include Singapore, Netherlands, Mauritius, etc. Consequently, primary investments from various India-focused funds based in these jurisdictions may fall under the provisions of Section 56(2)(viib). The government’s intention appears to discourage the use of tax-favorable jurisdictions for investing in India, potentially leading to a significant reduction in investment routing through these excluded jurisdictions.

Under the current norms, only domestic investors or residents investing in closely held companies were subject to taxation based on the fair market value. This was commonly referred to as angel tax. However, the Finance Act of 2023 specifies that investments exceeding the FMV will be taxed regardless of the investor’s residency status.

The proposed amendments in the Finance Bill have raised concerns regarding the calculation of fair market value under two different laws.

In conclusion, the government’s recent notification regarding angel tax and its exemption for non-resident investments in unlisted Indian startups is a significant development. By exempting investors from certain countries, including the US, UK, and France, from angel tax, the government aims to encourage foreign investments in the Indian startup ecosystem. However, it is important to note that investments from countries such as Singapore, Netherlands, and Mauritius are not covered under this exemption.

While the move is expected to boost investor confidence and attract more foreign capital, concerns have been raised about the exclusion of key FDI source countries. The government’s intention to discourage the use of tax-favorable jurisdictions for investing in India may lead to a reduction in investments routed through these jurisdictions.

Furthermore, the Finance Act of 2023 has broadened the scope of angel tax to include investments exceeding the fair market value, regardless of the investor’s residency status. This change has raised concerns about the calculation of fair market value under different laws, creating some uncertainty for investors.

Overall, the government’s efforts to strike a balance between promoting investments and ensuring tax compliance in the startup sector are commendable. It remains to be seen how these measures will shape the investment landscape and foster the growth of Indian startups in the coming years.

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