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Introduction: Understanding the tax implications for startups is crucial for entrepreneurs embarking on their business journey. A startup, in its nascent stages, faces various tax considerations that can significantly impact its growth and operations. This article explores the concept of startups, their eligibility criteria, and the benefits available under different provisions of the Income-tax Act. It also delves into the procedures for getting recognized as a startup with the Department for Promotion of Industry and Internal Trade (DPIIT) and highlights the benefits and conditions associated with exemptions under Section 56(2)(viib).

What do you mean by Start up?

A startup refers to a company in its initial stages of operations.

There are certain benefits that flow to an entity if it is an ‘Eligible Start-up’. To become an eligible start-up entity has to satisfy various conditions. These conditions are not same for all the provisions of the Income-tax Act under which these benefits are allowed. The different set of conditions and their applicability for different provisions have been discussed below.

(a) Conditions prescribed by DPIIT: An entity shall be considered as a start-up up to a period of 10 years from the date of its incorporation/registration if the following conditions are satisfied:

    • It is incorporated as a private limited company, partnership firm or an LLP.
    • Its turnover for any of the financial years since incorporation does not exceed Rs. 100 crores.
    • It is working towards innovation, development or improvement of product or process or services or business model of the entity is scalable with high potential of employment generation or wealth creation.
    • It is not formed by  splitting up or reconstruction of an existing business.

(b) Conditions prescribed under Section 80-IAC: As per Section 80-IAC, an entity shall be considered as an eligible startup if it fulfils following conditions:

    • It is incorporated as a company (Private Ltd. Co. or Public Ltd. Co.) or an LLP.
    • It is incorporated on or after April 1, 2016 but before April 1, 2021.
    • Its turnover does not exceed Rs. 25 crore in the previous year relevant to the assessment year for which such deduction is claimed.
    • It is not formed by  splitting up or reconstruction of an existing business.
    • It is not formed by  transfer to a new business of machinery or plant previously used for any purpose.
    • It holds a  certificate of eligible business from the Inter-Ministerial Board of Certification.
    • It is working towards innovation, development or improvement of product or process or services or business model of the entity is scalable with high potential of employment generation or wealth creation.

Start-up and its Income Tax Implications

How to get recognized as a startup with DPIIT?

An incorporated entity (private company, partnership firm or an LLP) can make an online application with the DPIIT to get recognized as an eligible start-up. This online application can be filed from the following links or from the mobile app:

https://www.startupindia.gov.in/content/sih/en/recognition-page.html

Following documents are required to be furnished along with the application:

  • Copy of certificate of registration or incorporation, as the case may be;
  • Write-up on the nature of business highlights incorporating how it is working towards innovation, development or improvement of products or processes or services, or its scalability in terms of employment generation or wealth creation;
  • Additional documents providing website link, pitch desk, patents, etc., shall also be attached to support the application.
  • Information on any award received by the entity.
  • Document any proof of funding received by the entity, if any.

The DPIIT may, after calling for such documents or information and making such enquires, as it may deem fit, —

  • recognize the eligible entity as Startup; or
  • reject the application by providing reasons.

Once an application is rejected by the DPIIT, a new application can be filed by the applicant. The same can be filed after three months from the date of communication of rejection.

What are the benefits available to an eligible start-up?

Following benefits shall be available to an eligible start-up or its shareholders:

  • Exemption from levy of angel tax under section 56(2)(viib)
  • Deductions under section 80-IAC
  • Liberalized regime of section 79 to carry forward and set off the losses.
  • Exemption under section 54GB to the shareholder for making investment in a start-up
  • Access to the dedicated cell created by the CBDT to address the problems of startups.

When is a startup eligible to claim exemption u/s 56(2)(viib)?

A Startup shall be eligible to claim exemption u/s 56(2)(viib) if it fulfills the following conditions:

1. it has been recognised by DPIIT .

2. aggregate amount of paid up share capital and share premium of the startup after issue or proposed issue of 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 non-resident,
  • A venture capital company or a venture capital fund;

However, the Finance Act 2023 has amended the provisions of Section 56(2)(viib) and has widened the applicability of provision to cover even non-residents. This amendment is effective from the 1st day of April, 2024 and shall accordingly, apply in relation to the assessment year 2024-25 and subsequent assessment years.

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.

“Specified company” means a company whose shares are frequently traded within the meaning of Securities and Exchange Board of India (Substantial Acquisition of Shares and Takeovers) Regulations, 2011 and whose net worth on the last date of financial year preceding the year in which shares are issued exceeds one hundred crore rupees or turnover for the financial year preceding the year in which shares are issued exceeds two hundred fifty crore rupees.

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

  • 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;
  • 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;
  • loans and advances, other than loans or advances extended in the ordinary course of business by the Startup where the lending of money is substantial part of its business;
  • capital contribution made to any other entity;
  • shares and securities;
  • 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;
  • jewellary other than that held by the Startup as stock-in-trade in the ordinary course of business;

Provided the Startup shall not invest in any of the assets specified above for the period of seven years from the end of the latest financial year in which shares are issued at premium;

Declaration

A startup fulfilling all necessary conditions to be recognized as eligible start up shall file duly signed declaration in Form 2 to DIPP. On receipt of such declaration, the DPIIT shall forward the same to the CBDT. The CBDT, within a period of 45 days from the date of receipt of application from DIPP may grant approval to the Startup for the purposes of clause (viib) of sub-section (2) of section 56 of the Act or decline to grant such approval.

Conclusion: Navigating the tax landscape as a startup requires careful attention to eligibility criteria, benefits, and procedural requirements. By understanding the tax implications and leveraging available benefits, startups can optimize their financial resources and focus on innovation and growth. The recognition process with DPIIT, along with compliance with exemption conditions, ensures startups can access incentives and support conducive to their development. With proper planning and adherence to regulatory norms, startups can mitigate tax risks and unlock opportunities for sustainable success.

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