The 2018 Budget is one of muted ecstasy and tempered agony for Startups and Investors from the lens of the Stay in India and List in India initiatives. Several low-hanging fruits which would have solved the chronic malaise enervating startups and investors were not addressed by the Finance Minister in his speech. The decisiveness demanded of this Budget, being the last one by the Modi Government, instead saw a deferment of these changes into more formal regimes which are yet to be articulated. Yet the initiatives announced sows the seeds for a digital dividend which we can hopefully harvest in the future.
This article aims to expound upon the budget for Startups and Investors and what we can expect in the coming future.
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The ecosystem is still awaits with bated breath the promise of a specific tax regime for Angel Investors and Venture Capital Funds, which bears the burden of solving not just the minor issues, but setting the foundation for near future. The mention of angel investors in the Budget speech may signal the long-awaited decision to remove the draconian angel tax [section 56(2)(viib)]. The Finance Minister acknowledged that the Government has taken various measures to develop the and promote the Startup and Venture Capital ecosystem and decided that they require a special regime to ensure their sustained growth. We’re once again left to speculate on what the new proposed regime may hold. But some of the points the industry expects include:
- Recognise Angel Investors and Angel Networks and allow them the flexibility continue without excessive regulations.
- Create an accredited investor status and exempt the investments made by them into startups from angel tax and associated measures
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- Categorise securities held by a domestic fund as a capital asset only, along the lines of the allowance made to FIIs during Finance Act 2014, this removing the disadvantage placed upon domestic funds.
- Relaxation of Place of Effective Management (POEM) rules for Fund Managers, thus ensuring the flow of USD 12-16 Billion in management fees coming into India (assumed at 2% fees of 600 billion dollars in FPI, 200 Billion in venture investment, which currently invests into India but is managed from outside India for tax planning purposes).
- Allow for investors in AIFs to set off or carry forward their proportionate share of expenses incurred by the AIFs.
LTCG: Long Term Capital Gains or Long-Term Capital Gone?
The Long Term Capital Gains exemption provided to listed equity suffered a major blow with the removal of the STT (Securities Transaction Tax) regime in favour of a flat 10% tax without any indexation benefits. The effect this will have upon the nascent SME listing platforms and the List in India initiative is still awaited. Several experts expect this to be detrimental in 2 ways:
Tax-free exits for shareholders, which has traditionally balanced the increased compliance burden of listing, may have an impact on the appetite of Startups to list.
From a liquidity perspective , the effect this may have on Foreign Institutional Investors (FIIs) and domestic investors, for whom the tax-free gains would temper the inherent volatility of listed startups, is still unknown.
Its still too early to predict how FIIs would react. India’s strong fundamentals and staggering growth of our capital markets should hopefully allay the removal of this favourable regime, but its still an unquantifiable unknown. What would be needed today is a strong emphasis on Foundational Capital, ie, capital from domestic investors and angel investors in unlisted shares, which needs to be nurtured and treated on par with Foreign Capital, instead of being discriminated against in the current tax regime.
ODI is no longer a Test
The Finance Minister’s promise to rationalise Overseas Direct Investment (ODI) will be welcomed by both Startups and Investors. If the regime is more streamlined and liberalised, this would be a great boon to the Stay in India initiative as we may see the rise of Startups with an Indian Parent and Foreign Subsidiary, instead of the current norm of a Foreign Parent and Indian Subsidiaries. By allowing grater leeway in ODI, Startups can create better structures for revenue collection and billing and Indian Investors can craft a more diversified portfolio with fewer restrictions.
The articulation of a formal Hybrid Instrument policy, a long-standing demand of the Stay in India initiative, will bring great relief to Foreign and domestic Investors. If this is harmonised with existing tax infrastructure, it can help eliminate a lot of the litigation that follows exits from these hybrid instruments.
The Seeds of a Digital Dividend
The Digital India initiative is bringing corporate India under its ambit with the launch of "Aadhar for business", a unique identifier which can harmonise the myriad numbers used to identity corporate entities in India. This way, the GSTN, PAN, TAN, CIN, LLPIN and other acronyms a corporation needs to obtain before they can start business in India will further the ease of doing business.
The digital push towards e-assessments, wherein Income Tax assessments can be handled online, can help reduce the scope for corruption tremendously and alleviate the anxiety one faces when meeting the taxman. The movement of Stamp Duty payments online along with reforms for financial instruments can further ease the conduct of business in India.
Conclusion:
Though this Budget didn’t have the big-bang people always hoped for, it also lacked the consolidations direly needed by the country. The Finance Minister strived for balance and some may argue that he achieved it while others may argue against. What needs to be seen is not if this balance was achieved, but that inertia wasn’t.
T.V. Mohandas Pai is the Chairman of Aarin Capital, Chairman of Manipal Global Education and Advisor to Ispirt. Siddarth Pai is the Founding Partner of 3one4 Capital and Member of the Stay in India Council at Ispirt.