Perils of Angel Tax

The Indian Income Tax Act came into existence in 1961 and the Companies Act was enacted in 1956 and it took Government more than 55 long years to make necessary amendments in the Acts to trace the tax evaders who were using a sophisticated modus operandi to convert their black money into accounted money by introduction of Bogus Share Application money. The generation of black money in any economy is a Taxman’s biggest nightmare. Amongst several attacks against such laundering of unaccounted money, one of the most important measure was the introduction of Section 56(2)(viib) in Income Tax Act 1961, which creates a deeming fiction and which provides that the excess amount received by Private Limited Company over and above the Fair Market Value of the shares would be deemed as gift liable to tax in the hands of Company. However this was the same year when the Indian Startup Ecosystem started flourishing and the Startup companies actually and genuinely received accounted investments over and above their present book value of shares based on future estimated earnings and other intangibles like goodwill and brand value from Angel Investors. While the Government took measures to curb the introduction of Black money, there were Startups who were fastened with tax liability on genuine raise of capital through Angel Investors and hence the word “Angel Tax” was coined. The present Paper on The perils of Angel Tax talks about the journey of Angel Tax and various measures taken by Government to distinguish the good and the evil and its effect on the Startup ecosystem.