Tax Benefits of Startup India under section 56 of Income Tax Act,1961

TAX BENEFITS OF STARTUP INDIA

The Startup India campaign was announced for the first time on 15th August 2015 by the Prime Minister of India, Shri Narendra Modi. However, the action plan of the Startup India Scheme was unveiled on 16th January 2016.  Startup India Scheme is one of the flagship initiatives of the Central Government of India.

Under Startup India Scheme, several programs are rolled out with the following objectives –

a. To support entrepreneurs;

b. To build a robust startup ecosystem;

c. To transform India from a country of job seekers to a country of job creators; etc

What are the eligibility criteria under the Startup India scheme?

Following are the eligibility criteria to be satisfied for availing benefits under Startup India Scheme.

1. Type of company: The Startup must be incorporated in any of the following forms-

  • Private Limited Company under the Companies Act, 2013; or
  • Limited Liability Partnership under Limited Liability Partnership Act, 2008; or
  • Partnership firm under Partnership Act, 1932.

2. Formation: The Startup should not have been formed out of the splitting/ reconstruction of the business. Notably, any company formed out of splitting an organization into two or more businesses will not be eligible under Startup India Scheme.

3. Maximum cap of Annual Turnover: The Startup should not have an annual turnover of more than INR 25 Crores.

4. Type of business: The Startup should be engaged in developing some new product/ service. Additionally, the following conditions should also be satisfied –

  • The aim of the Startup should be to develop/ commercialize the new product/ service or significantly improve the existing product/ service which enables to add/ enhance value to customers or workflow;
  • The Startup must be majorly working towards the development; innovation; commercialization or deployment of the product/ service that is specifically driven by intellectual property or the latest technology;
  • The Startup should not be involved in developing a product/ service that doesn’t have the potential for commercialization or developing an undifferentiated product/ service which has NIL or limited incremental value for customers/ workflow. 

 Section 56(2)(viib) of the Income Tax Act & DIPP

Section 56(2)(viib) of the Income Tax Act states that any consideration received by a person from any investor in respect of the issue of shares which exceed the fair market value of the shares shall be chargeable to income-tax as income from other sources.

The Department of Industrial Policy and Promotion (DIPP) issued a notification on May 19, 2016, to provide an exemption to startups under Section 56(2)(viib) of the Income Tax Act, 1961. This notification is intended to exempt startups from the provisions of section 56(2)(viib) of the Income Tax Act, 1961, which states that any consideration received by a startup for the issue of shares in excess of the fair market value shall be taxable as income from other sources. The notification states that any consideration received by a startup for the issue of shares, which is in excess of the fair market value, shall be exempt from tax.

A Startup shall be eligible for an exemption to clause (viib) of subsection (2) of section 56 of the Act if it fulfills the following three conditions which were issued by notification dated 19th Feb 2019:

(i) it has been recognized as a startup by DPIIT

(ii) aggregate amount of paid-up share capital and share premium of the startup after issue or proposed issue of a share, if any, does not exceed, twenty-five crore rupees:

Provided that in computing the aggregate amount of paid-up share capital, the amount of paid-up share capital and share premium of twenty-five crore rupees in respect of shares issued to any of the following persons shall not be included─

(a) a non-resident; or

(b) a venture capital company or a venture capital fund;

Provided further that considerations received by such startup for shares issued or proposed to be issued to a specified company shall also be exempt and shall not be included in computing the aggregate amount of paid-up share capital and share premium of twenty-five crore rupees.

iii) It has not invested in any of the following assets, ─

(a) the building or land appurtenant thereto, being a residential house, other than that used by the Startup for the purposes of renting or held by it as stock-in-trade, in the ordinary course of business;

(b) land or building, or both, not being a residential house, other than that occupied by the Startup for its business or used by it for purposes of renting or held by it as stock-in-trade, in the ordinary course of business;

(c) loans and advances, other than loans or advances extended in the ordinary course of business by the Startup where the lending of money is a substantial part of its business;

(d) a capital contribution made to any other entity;

(e) shares and securities;

(f) a motor vehicle, aircraft, yacht or any other mode of transport, the actual cost of which exceeds ten lakh rupees, other than that held by the Startup for the purpose of plying, hiring, leasing, or as stock-in-trade, in the ordinary course of business;

(g) jewelry other than that held by the Startup as stock-in-trade in the ordinary course of business;

(h) any other asset, whether in the nature of the capital asset or otherwise, of the nature specified in sub-clauses (iv) to (ix) of clause (d) of Explanation to clause (vii) of sub-section (2) of section 56 of the Act.

Provided the Startup shall not invest in any of the assets specified in sub-clauses (a) to (h) for the period of seven years from the end of the latest financial year in which shares are issued at a premium.

Form-2 Declaration to DIPP As per the DPIIT Notifications, Startups that fulfill the conditions stipulated above must submit to the Department of Industrial Policy and Promotion (DIPP) a duly signed Form-2 declaration certifying that they indeed comply with said clause’s requirements.

Revocation of Exemption Under Section 56(2)(Viib) of Income Tax Act

In case the Startup, that has submitted a declaration in Form-2 for exemption under Section 56(2)(viib) of the Act fails to fulfill above mentioned three conditions before the end of seven years from the end of the latest financial year in which the shares were issued at a premium, the exemption provided under Section 56(2)(viib) of the Act shall be revoked with retrospective effect.

 

 

 

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