10 Tax Announcements All Startups Should Know

Startups and MSMEs have caught the Government’s attention as potential sources of economic growth and employment generation in India. The Prime Minister rolled out Startup India Action Plan in January this year, indicating that the Government is serious towards creating an enabling environment for this sector.

Eurion Constellation published an article series on some of its key announcements:

The current year’s budget has made its recommendations and some implementation deadlines have passed. So, now is the time to evaluate whether the startup sector is really on the path to the promised land. In this series, we will cover the important new announcements and concrete policy steps taken, beginning with tax sops.

Angel Tax

The not-so-good news is that the much expected exemption from“angel tax” did not come through. No, it is not so named in the I-T Act. Under section 56(2)(viib), if an unlisted private company receives funding from a domestic investor such that it includes share premium, the premium part is taxable as Income from Other Sources. This applies only to angels who are not part of any fund. Share premium received from venture capital funding is also excluded.

Presumptive Tax

The benefit of presumptive tax is now extended to a larger number of businesses through a revision in turnover threshold to INR 2 cr. In addition, newly introduced section 44ADA brings professionals under presumptive tax, provided the gross receipts do not exceed INR 50 lac. This provision needs serious reconsideration, though.

Three-year Tax Holiday

Sticking to its promise, the Government introduced 80-IAC in the budget, which provides for a deduction of 100% of the profits of an eligible startup in 3 consecutive years out 5 beginning from the year of incorporation.

One of the key criteria is that the date of incorporation should be on or after April 1, 2016 but before April 1, 2019. The manner of providing deductions will be governed by sub-section (5) and sub-sections (7) to (11) of section 80-IA. In addition, Minimum Alternate Tax (MAT) provisions will also apply, which implies 20% tax rate instead of regular 33%. Therefore, on the ground your tax liability is significantly reduced, but not waived off completely.

Tax Rate for Manufacturing Startups

Budget 2016 has introduced section 115BA, which provides for a tax rate of 25% + Surcharge (Agg. 26.75%) for manufacturing units set up on or after March 1, 2016. Deduction for depreciation u/s 32 will be allowed. However, no deductions will be admissible u/s 10AA, 32(1)(iia), 32AC, 32AD, 33AB, 33ABA, subsections of section 35, 35AC, 35AD, 35CCC, 35CCD and Chapter VI-A (Heading C). Moreover, set-off of carry forward losses will not be additionally allowed.

New Corporate Tax Rate for Smaller Entities

The Finance Ministry has indicated that it intends to bring down the corporate tax rate to 25% over the next couple of years. This move will involve a rationalization of the tax structure by withdrawing some exemptions. This year Arun Jaitley has already given relief to small enterprises whose turnover did not exceed INR 5 cr in the year 2014-15. The applicable tax rate for the year 2016-17 will be 29% + Surcharge (Agg. 31.03%).

Long Term Capital Gains (LTCG)

The startup world has been clamoring for equalization in capital gains tax norms between listed and unlisted companies. As per the existing norms:

Listed Securities
Unlisted Securities/Immovable Property
Long Term
> 12 months
> 36 months
LTCG Tax Rate
Exempt u/s 10(38), if STT* paid
Shares: 20% with indexation

No STT: 10% without indexation
Property: 20% with indexation

No STT: 20% with indexation

STCG Tax Rate
15%, if STT paid
Regular slab rate
 * Securities Transaction Tax
While Budget 2016 did not include unlisted securities in section 10(38), it did lower the long-term holding period from 36 to 24 months. This will reduce the tax liability in the hands of the startup investors. At this time, this is all they will need to contend with.

However, foreign investors can rejoice as their tax liability is reduced to half. The Finance Ministry has widened the meaning of section 112(c) to include private company investments in the definition of “securities.” Therefore, LTCG arising in this respect will now be charged at 10% without indexation instead of 20% currently. Basically, this is now at par with listed securities on which no STT is paid.

Nearly all tax provisions come packaged with mandatory conditions, provisions and explanations, which impact the actual outcome of each case. It is advisable to seek expert opinion to avoid missed opportunities or lengthy and expensive legal process due errors in judgment.

Amendment to Section 54GB

Currently, u/s 54GB capital gain on sale of a residential property, by an individual or HUF, will not be taxable if the net consideration is invested in the shares of a small or medium enterprise under the Micro, Small and Medium Enterprises Act, 2006. The entity should be a manufacturing unit in which the assessee will gain at least 50% voting rights after the subscription to shares. The company must buy new plant and machinery within a year of such subscription.

Budget 2016 has now brought eligible startups under this section. In addition, purchase of computer and computer software will also qualify. The startups will need to wait a little bit more as the amendments will take effect from next year (April 1, 2017) and therefore, the old provisions will still apply in 2016-17.

New section 54EE

Insertion of new section 54EE is also a prospective one (applicable form year 2017-18). Capital gain on sale of any long term asset will not be taxable if invested in the units of a specified fund (to be notified) within 6 months. The fund mentioned is likely to be the Fund of Funds that the Government has planned to facilitate startup funding.

Patent Related Benefits

Effective April 1, 2017, newly inserted section 115BBF provides that worldwide royalty income generated from patents developed and registered in India will be chargeable at a special rate of 10%. The section requires that no expenditure with respect to such income will be allowed. This provision is likely to benefits the technology based companies, which form the single largest segment of the startup ecosystem in India.

Government Contribution to EPF
Under the current provisions, an employer is required to pay minimum 12% of basic salaries of the employees as employer’s contribution to EPF. Budget 2016 has announced that the Government will pay employer’s contribution to the extent of 8.33% for all new employees for first three years. The remaining contribution will be paid by the employer. This move is designed to reduce employee cost burden for startups and growing organizations.

Eurion Constellation can help you harness the potential gains from Government policies and improve your bottom line. Know more about us at www.eurionconstellation.com or drop a line at contact@eurionconstellation.com.

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