Union Budget 2016-17 : Taxing or exempting start-ups?
Yogesh Shah (Partner, Deloitte Haskins & Sells LLP)
Aparna Parelkar (Senior Manager)
Dipika Shah (Deputy Manager)
The Finance Minister in the Budget 2016 has set crystal clear agenda for “Transform India”. The Budget proposals have been outlined in this direction with nine distinct transformative agenda two of which are focussed on social sector and education, skills & job creation. In January 2016, the government had already set stage for Start-up India Stand-up India.
With a view to provide an impetus to Start-ups and facilitate the growth in the initial phase of business many tax incentives have been proposed in the Finance Bill which are highlighted as under:
New provision Section 80-IAC for 100% tax holiday
1. To facilitate growth of Start-ups in their initial stage section 80-IAC has been inserted to provide 100% tax holiday for three consecutive years subject to certain conditions
2. The tax holiday at the option of eligible Start-ups can be claimed in 3 consecutive years out of 5 years beginning from the year in which eligible Start-up is incorporated.
3. Conditions that imposed are similar to that of existing tax holiday provisions under section 80-IA summarised hereunder:
- Eligible Start-ups should not be formed by split up or reconstruction except if the Start-up is formed on account of re-establishment, reconstruction or revival of any business which was inoperative on account of any natural disaster like earthquake, flood or any civil disruptions
- Start-ups should not be formed by transfer of previously used assets from any other business in India. However, relaxation is provided that used assets if any should not exceed 20% of total assets.
- Other provisions which are existing in subsection 5 and 7 to 11 of Section 80-IA will also apply to Start-ups. These clauses are elucidated below
- Start-ups has to obtain audit report from CA and submit before tax authorities at the time of filing return of income to avail such tax holiday.
- Internal transfer of goods or services by Start-ups to inter or intra unit/undertakings should be at market value i.e., at arm’s length. The provisions of specified domestic transactions in transfer pricing are applied even on Start-ups. The profits will be adjusted to include the impact of any deviation from arm’s length price. This is to ensure Start-ups enjoying tax holiday do not charge more for its goods or services, transferred internally.
- Start-ups will not be eligible to claim any other deductions under chapter VIA during the period of tax holiday.
4. Eligible business for Start-ups has been defined in the Finance Bill. It covers businesses that involves innovation, development, deployment or commercialization of new products, processes or services driven by technology or intellectual property.
5. Start-up companies should be incorporated between 1.4.2016 to 1.4.2019 to be eligible for this section.
6. The total turnover of eligible Start-ups should not exceed Rs.25 crores in any financial year beginning from FY 2016-17 upto FY 2020-21
7. Eligible Start-ups should hold a certificate of eligible business from the Inter-Ministerial Board of Certification failing which the tax holiday benefit will not be available.
However, even if the Start-ups are claiming tax holiday and eventually on any occasion the units have book profits then they will be subject to Minimum Alternate Tax applicable at 18.5% plus surcharge and cess (effectively 20.388% or 21.341%). This gesture indicates that there is actually no 100% tax benefit. Thus Start-ups earning good profit in initial years would have risk of paying taxes under MAT.
The eligibility conditions like having inter-ministerial board approval and turnover not exceeding Rs.25 crores could pose hurdles for Start-ups to claim tax holiday benefit. In the eventualities if Start-ups get good response in initial years and turnover exceeds Rs.25 crores then the benefit under tax provisions would not be available.
After the tax holiday period Start-ups can evaluate to claim deduction under provision of section 80JJAA which has now been extended to all taxpayers.
It has been proposed in Budget speech that a bill to amend Companies Act, 2013 is in pipeline which will enable registration of Start-ups within 24 hrs. Whether registration and incorporation in a day will also make available CIN, DIN and other requirements for a company to be incorporated in a day need to be addressed.
The amendments do not state anything on carry forward of loss. Hence the existing provisions may apply in common parlance.
Capital Gains exemption for investors of Start-ups under new section 54EE and existing section 54GB
Section 54EE – Long term capital gains not chargeable on investment in units of specified funds
- Capital gain from sale of any long term capital asset will not be taxed if the same is invested in regulated or notified fund set up by government. It is proposed to establish a fund of funds which intend to raise Rs.2500 crores per annum for four years to finance Start-ups.
- Such gains should be invested within 6 months from date of transfer
- Eligible amount of exemption
- Where investment in specified assets > capital gains; entire capital gains are exempted
- Where investment in specified assets < capital gains; capital gains in proportion to cost of specified assets will be exempted.
However, the maximum exemption that is restricted to Rs.50 lakhs even if the investments falls in two separate fiscal years.
- The investment has lock in period of three years. If the investment is transferred / sold within 3 years from the date of its investment then the amount of capital gains exempted previously will be taxed as long term capital gains. Further, investors are not allowed to obtain any loan or advance on the security of such specified investments. If they do so then it will be deemed as transfer and capital gains will be taxed.
- Long term specified asset/investment will be notified by government in due course.
Section 54GB – Long term capital gains from sale of residential property invested in shares of Start-ups/ Micro and Small Enterprises (MSMEs).
- The existing benefit under section 54GB has been extended for investment in Start-up entities subject to conditions.
- The Start-ups should further invest the subscription money for purchase of new asset. Definition of new asset has been amended to include computer or computer software for eligible Start-ups certified by Inter-Ministerial Board as technology driven Start-ups.
As envisaged in Start-ups India scheme, the Finance Bill has not brought any amendment to Section 56(2)(viib) with regard to non – application of this section to Start-ups as currently available to venture capital undertaking where the investment is received from venture capital company/fund. In absence of the same any amount received by Start-ups as consideration for issue of shares in excess of fair market value of shares will be taxed.
Presumptive tax for MSMEs
The presumptive tax provisions available to small taxpayers wherein tax on 8% of gross receipts has to be paid if the total gross receipts do not exceed one crore rupees. The threshold limit of one crore is proposed to be increased to two crores bringing in further small taxpayers to avail beneficial provision of presumptive tax. Thus, MSMEs having gross receipts upto rupees two crores can avail this provision and pay tax on 8% of gross receipts.
To reduce cost of compliance especially for small tax payers like MSMEs e-Sahyog project will be started to provide online mechanism to resolve mismatches in income tax returns without requiring taxpayers to attend income tax office. All the above provisions are applicable from AY 2017-18 (FY 2016-17).
Though it is welcome, it would have been more desirable if exemption or lower tax be provided in MAT. Further in consonance of the Start-up scheme, amounts received by Start-ups as consideration for issue of shares in excess of fair market value of shares should also not be subject to tax.