Angel Tax Abolished: New Opportunities for Start-up Funding
Start-upsOctober 2024By CA Chandan Shahi
Budget 2024 abolished angel tax under Section 56(2)(viib) with effect from April 1, 2025. This landmark move removes one of the biggest compliance and valuation headaches for early-stage start-ups raising funds from domestic investors.
What Was Angel Tax?
Angel tax was a provision under Section 56(2)(viib) of the Income Tax Act that taxed the premium received by unlisted companies when issuing shares at a price higher than fair market value. For start-ups raising angel rounds, this created a bizarre situation — investors paying a premium (reflecting growth potential) triggered a tax demand on the investee company.
Why Was It a Problem?
Start-up valuations are inherently subjective and forward-looking. Rule 11UA provided two methods (DCF and NAV) to determine FMV, but neither adequately captured start-up economics. DPIIT-registered start-ups got partial relief, but non-registered ones and companies raising from non-resident investors continued to face scrutiny.
What Budget 2024 Changed
Finance Minister Nirmala Sitharaman announced the complete abolition of Section 56(2)(viib) effective April 1, 2025. This means any share premium received from any investor — resident or non-resident — will no longer be treated as 'income from other sources' and taxed. This is a full, unconditional removal.
Impact on Start-up Ecosystem
Angel investors and family offices can now invest in start-ups without worrying about valuation benchmarks. Seed and pre-Series A rounds will become simpler to close. Companies that received angel tax notices can breathe easier — though pending assessments will still need to be resolved for past years.
ESOP and Valuation Still Matter
While angel tax is gone, start-ups still need to comply with FEMA valuations for foreign investment (FDI), maintain proper documentation for convertible instruments, and manage ESOP taxation at exercise stage. A good tax advisor remains essential.
Action Points for Founders
Ensure your cap table and shareholder agreements are updated. If you have pending angel tax assessments, engage a tax advisor to resolve them. For new fundraising rounds, while angel tax is no longer a concern, proper documentation and board approvals remain essential for compliance.
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Angel tax under Section 56(2)(viib) of the Income Tax Act has been abolished with effect from 1 April 2025 (Assessment Year 2025-26 onwards). This was done through the Finance Act, 2024. It means that for any shares issued by a closely held company on or after 1 April 2025, there will be no tax on the premium received even if it exceeds the Fair Market Value. Shares issued prior to this date may still be subject to scrutiny for the relevant assessment year, so past transactions should be documented with proper valuation reports.
Yes. Prior to the Finance Act 2024, Section 56(2)(viib) was extended to cover investments by non-resident investors as well (introduced in Finance Act 2023). With the complete abolition of Section 56(2)(viib), no angel tax applies to either domestic or foreign investments from 1 April 2025. Foreign investors such as US, UK, Singapore-based angels and VCs can now invest in Indian start-ups without the company worrying about tax on the share premium — provided FEMA pricing guidelines and FC-GPR reporting requirements are still met.
While angel tax is gone, other valuation requirements remain. For FEMA purposes, shares issued to non-residents must be at or above Fair Market Value as per the Discounted Cash Flow (DCF) method or Net Asset Value (NAV) method, certified by a SEBI-registered Merchant Banker or CA. For domestic fund raises, the pricing is commercial and market-driven, but maintaining a valuation report helps demonstrate arm's length pricing. For ESOPs, Rule 11UA valuation is still required. Shahi & Co. provides FMV certificates and DCF valuations for start-up funding rounds.
Yes — while Section 56(2)(viib) is gone, some issues remain: (1) If a start-up issues shares at a price significantly below FMV to promoters or related parties, Section 56(2)(x) may apply to the recipient, (2) FEMA compliance (FC-GPR within 30 days) is non-negotiable for foreign investments, (3) The start-up must ensure proper books reflecting the premium in Securities Premium Account, and (4) The share application money should be received through banking channels with proper bank certificate. Shahi & Co. provides end-to-end advisory for start-up fundraising.