CBDT spares many entities from angel tax purview

The Central Board of Direct Taxes (CBDT) issued a notification exempting several foreign and Indian entities from the purview of section 56 (2) (VII B), commonly referred to as angel tax, a statement released on Friday said.

The angel tax applies to the premium paid over the fair market value of shares and is set to apply to ‘non-residents’, according to the Finance Act 2023. The tax authority said that all government and government-related entities such as “central banks, sovereign wealth funds, international or multilateral organizations or agencies” will be exempt. It also exempted entities where a government owns more than 75%, either directly or indirectly.

The notification added that banks or entities involved in the insurance business would also be exempt. Other entities exempted include those registered with the Securities and Exchange Board of India as category-I funds, foreign portfolio investors, endowment funds associated with a university, hospitals or charities’ foreign pension funds, and a broad-based pooled investment vehicle with over 50 investors, “which is not a hedge fund or a fund which employs diverse or complex trading strategies”.

The government’s notification is likely to offer major relief to the investment community, which was concerned that the new tax could exacerbate the ongoing funding crunch within the tech ecosystem.

Mint first reported on 24 March that the government was considering exempting overseas funds as well as funds regulated by certain entities like the International Financial Services Centre Authority.

Companies that raise capital at a premium from exempt entities won’t have to pay angel tax. The tax authority has also proposed that an additional five valuation methodologies, excluding discounted cash flow and net asset value method (which are currently in use), will be considered to value the shares for the scope of angel tax.

There are other changes too. “A key issue of the interplay of angel tax and Foreign Exchange Management Act (FEMA) was the price differential between resident and non-resident investors. FEMA didn’t allow a non-resident to acquire securities below FMV (fair market value), while angel tax didn’t allow a company to issue shares above fair market value. Now, price matching with venture capital funds will be taken as the fair market value,” said Siddarth Pai, co-founder of 3one4 capital and co-chair of the regulatory affairs committee of the Indian Private Equity and Venture Capital Association.

“Previously, even a small difference could trigger angel tax. The government has now specified 10% variation as acceptable,” Pai said.

Further, valuation reports now have a valid tenure of 90 days from the previously unspecified time period, he added.