Angel tax update: Proposal to amend Rule 11UA of Income Tax Rules, 1962 and notification of excluded entities

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Angel tax update: Proposal to amend Rule 11UA of Income Tax Rules, 1962 and notification of excluded entities

Tejasvi

@tejasvi

May 22, 2023

Public Policy

228

The press release dated May 19, 2023 issued by the Press Information Bureau (PIB) states that the Central Board of Direct Taxes (CBDT) is considering amending Rule 11UA of Income Tax Rules, 1962 (IT Rules) along with notification of excluded entities from applicability of S.56(2)(viib) of the Income Tax Act. 1961 (IT Act) [commonly referred to as Angel Tax].

This is a welcome development as the Finance Act, 2023 has posed serious concerns for the start-up ecosystem by brining consideration received from non-residents in excess of Fair Market Value (FMV) for issue of shares within the ambit of angel tax. Following this, nasscom had made a detailed submission to the government (Refer page 5 of the linked submission).

A review of the abovementioned press release indicates that several of our recommendations should be reflected in the draft rules that are likely to be released by the government in a few days.

SUMMARY OF CHANGES PROPOSED:

Rule 11UA of IT Rules:

Inclusion of 5 more valuation methods for non-resident investors, in addition to Discounted Cash Flow (DCF) and Net Assets Value (NAV) method will give more flexibility w.r.t. investment made by non-residents. This will help to align valuation mechanism with the valuation mythologies prescribed under foreign exchange control regulations. Once the draft notification is issued for public comments, nasscom will reach out to members to take inputs and submit appropriate feedback to the Government.
Where consideration is received from non-resident entity notified by Central Government, the price of equity shares may be taken as the FMV for resident and non-resident investors, subject to the following:

To the extent consideration from such FMV does not exceed aggregate consideration that is received from the notified entity and
Consideration has been received within 90 days from the date of issue of shares which are the subject matter of valuation.
Price matching for resident and non-resident investors will also be available on investment made by Venture Capital Funds or Specified Funds.

Valuation report given by Merchant Banker will be acceptable, if it is of a date not more than 90 days prior to the date of issue of shares which are subject matter of valuation.
Provision of 10% safe harbour to account for forex fluctuations, bidding processes and variations in other economic indicators, etc. which may affect valuation of shares is also being proposed.

These changes will help in bringing the commercially negotiated prices for share infusion within the ambit of fair market value which may ease out the burden to justify the subscription price to a great extent thereby minimizing litigations.

Exclusion of certain class of persons being non-resident investors from S. 56(2)(viib) of IT Act

Government and Government related investors such as central banks, sovereign wealth funds, international/ multilateral organisations/ agencies including entities controlled by the Government or direct / indirect ownership of the Government is at least 75%.
Banks or entities involved in insurance business, where such entity is subject to applicable regulations in the country where it is established/ incorporated/ is a resident.
Any of the following entities, which is a resident of a certain countries or specified territories having robust regulatory framework:

Entities registered with Securities and Exchange Board of India as Category-I Foreign Portfolio Investors.
Endowment Funds associated with a university, hospitals or charities.
Pension funds created/ established under law of foreign country or specified territory
Broad-based pooled investment vehicle or fund having more than 50 investors and such fund is not a hedge fund or a fund which employs diverse or complex trading strategies.

The aforesaid list appears to be quite wide in coverage. However, the above list falls short of the recommendation made by nasscom in terms of exemption for all the investments received from Financial Action Task Force (FATF) compliant or International Organization of Securities Commissions (IOSCO) member countries.

For Investment in Start-ups

Proposal to amend Income Tax notification to provide that S. 56(2)(viib) of IT Act will not apply to consideration received by startups from any person covered in para 4 and 5 of Notification dated 19.2.2019 issued by Department for Promotion of Industry and Internal Trade (DPIIT), i.e., consideration received from non-resident or venture capital company/ fund or a specified company.

Next steps

We are still awaiting for the fine prints of draft rules on the above aspects and will reach out to members for comments/ feedback on the same.

In case of more information, please reach out to garima@nasscom.in and tejasvi@nasscom.in

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Tejasvi