Tax officials will need approval to probe startups for angel tax: CBDT

The Central Board of Direct Taxes (CBDT) has clarified that IT officials will need their superior’s approval to scrutinise startups under Section 56(2)(viib) of the Income Tax Act—which has come to be known as angel tax—and for “other issues”. The move is in line with finance minister Nirmala Sitharaman’s budget announcement last month.
In a notification dated August 7, the CBDT said the rule would apply even when assessing startups that have not obtained ‘angel tax’ exemption certificate from the Department for Promotion of Industry and Internal Trade (DPIIT). For startups that have the certificate, no verification by assessing officers (AOs) on the grounds of Section 56 will be carried out.
Nakul Saxena, director of public policy at Ispirt, a think-tank, said, “It’s a welcome move by the CBDT which will help ease the problems that startups are facing. However, for startups which have not received the exemption from the DPIIT, this provision should be temporary as it could lead to misuse by bad actors.”
Earlier this year, the DPIIT had introduced a mechanism whereby startups incorporated less than 10 years ago with share premium not exceeding Rs 25 crore and a turnover of less than Rs 50 crore would be eligible for an automatic exemption from Section 56(2)(viib) of the I-T Act. Within a few months of the move, hundreds of startups had opted for the exemption.
However, even after the mechanism was put in place, a few startups had complained of receiving notices from tax authorities around the capital they had raised at valuations higher than the fair market value. Industry bodies, startups and investors had urged the government to find a permanent fix to the issue.
Section 56(2)(viib), introduced in 2012, deals with the issue of a startup raising consideration for issue of shares in excess of the fair market value of such shares. Tax authorities have for long maintained that the excess consideration is income for the startups and that they should pay tax on it.
The latest circular from the CBDT does mention that AOs will need to seek prior permission from their superiors even for conducting enquiries into “other issue”, but does not clarify what “other issue” means. Apart from Section 56, startups say they’re also troubled by Section 68 of the I-T Act, under which they are questioned on the identity of their investors.
In her budget speech, Sitharaman had said the government is working on a mechanism to e-verify investors, something which was understood to be a valid fix for Section 68 of the I-T Act which deals with unexplained cash credits. However, no such notification has been made public by the government so far.
Sources close to the CBDT told ET that the investor e-verification provision is still in the works.