Government of India (GoI) launched the ‘Start-up India’ initiative in January, 2016 with an objective to provide a conducive environment for growth of start-ups in India. The action plan, designed by the Department of Industrial Policy and Promotion (DIPP), Ministry of Finance, focused on three broad areas, namely

• procedural simplifications for setting of entities
• providing tax and regulatory relaxation as part of ongoing compliances and operations and
• providing incubation and funding assistance.
From 2016 until August, 2017, 2,865 startups registered themselves with DIPP, out of which 60 have been approved for tax benefits.

Since then, based on the feedback received, GoI has been making an attempt to further simplify things for start-ups and provide them the necessary ecosystem for growth. Key developments and focus areas include:

• The definition of startup has been widened to include startups not older than seven years from date of incorporation, earlier, the definition provided a limit of five years. For entities operating in the biotechnology sector, the age has been extended to ten years from date of incorporation. This change will enable more young and budding business ventures to fall within the start-up framework and thus avail perks conferred upon startups.

• To ease the process of obtaining recognition, startups are no longer required to obtain a recommendation letter from an incubator or an industry association. This is a welcome step as it will simplify and fast track the process to obtain benefits available to startups.

• Restrictions on setting off of initial year(s) tax losses with the profits of future years owing to change in shareholding beyond 49 percent on account of further issuance of shares have been relaxed for startups.

Ideally, such relaxation should be available without any conditions. One such condition being that such benefit will be available only if all share holders in the year in which losses were incurred continue to hold their shares in the year in which losses are set off. It’s difficult for startups to satisfy such condition given that the angel investors tend to exit in first few years of making

investments. The GoI needs to look into this provision in due course.

• The tenure of tax holiday available to startups has been extended to three out of seven years, from the earlier three out of five years. This can help start-ups having longer gestation periods avail of tax benefits and grow as more funds will be at disposal of inchoate businesses. However, based on the experiences of various e-Commerce companies in India, this increased tenure may however not be sufficient to give real benefit to the start-up community and there is a need to further relax the conditions in relation to this benefit.

From 2016 until August, 2017, 2,865 startups registered themselves with DIPP, out of which 60 have been approved for tax benefits

• Under the overall incentive package, startups have been allowed to obtain investment from domestic investors based on fair value thus allowing receipt of share premium in a company without any adverse income tax ramifications. This intervention can enable startups to lure investors based on growth potential without attracting any questioning from the Income tax Department (ITD). However, there is ambiguity around receipt of excess consideration prior to obtaining Start-up status or where startup recognition is subsequently rescinded and this may lead to litigation.

Lately, the ITD has also started raising concerns on changes in fair valuations of start-ups and are trying to classify such differential as income of startups. This attempt of the ITD to recover taxes is against its own stated policy of improving the eco system of startups and can prove counterproductive.

• Pursuant to the action plan, the GoI has allowed startups to raise rupee or foreign currency denominated external commercial borrowings without restrictions on fund utilisation, interest pay out caps, type of security to be provided for availing loan and more. Further, for stimulating foreign investment in new businesses SEBI registered Foreign Venture Capital Investors (FVCIs) have been permitted to invest into equity and hybrid instruments issued by startups, regardless of the area of operation without prior regulatory sanction. This movement has opened another source for startups for obtaining finance.

• Shifting focus to GST which became effective from July 2017, registration procedure and compliances have radically eased as GST subsumes numerous indirect taxes into one. However, GST regime has led to manifold increase in compliances on e-Commerce entities as they now have to obtain registrations in every state where supplies are made. Also, startups/e-Commerce entities attempt to systemise the unorganised sector in India by use of technology considering that most part of the unorganised sector is either unregistered or is exempted from obtaining registrations. The GST casts an obligation on such companies including startups (through reverse charge mechanism or TDS and others) to pay taxes while making payment to such small vendors. This has increased the cost of doing business. It will be helpful for startups if some relaxation in this regard especially is made keeping in mind that in nascent stages of their lifecycle, startups have limited resources to undertake compliances.

Having said the above, GoI has shown its commitment to support start-ups. Anticipating the number of start-ups in India to double by 2020, India presently ranks third just behind U.S. and UK in terms of the number of start-ups, even though more needs to be done on ground by GoI. Purely from a tax and regulatory perspective, GoI has covered a substantial ground. There are some teething issues but hopefully the same will disappear if GoI views startups as a major contributor to India’s growth story.