The Union Government and the Prime Minister of India have constant dwelt on the topic of encouraging start-ups in India. Even the Finance Minister, Nirmala Sitharman, has dwelt at length on the need to encourage entrepreneurs with the appropriate incentives and the right ecosystem so that their businesses can flourish, creating output, value and jobs.
In India, one of the most robust start-up ecosystems has been in the ecommerce and technology space. We have had names like Flipkart that were sold out for multi-billion dollar valuations. Then we have pioneers like Paytm and Byju’s that are valued in excess of $10 billion. These are the more high profile names. Then there are scores of smaller start-ups that are actually thriving in the start-up ecosystem.
One thing COVID proved is that the combination of technology, education, finance and a huge consumer market can be a potent combination. The real challenge is to replicate the success in the IT, ITES and ecommerce space to other segments. Not surprisingly, the start-up ecosystem has big expectations from the upcoming Union Budget. It looks forward to the necessary impetus to enable further expansion.
Make withholding taxes and compliance rules simpler
There has been a constant demand to simplify the withholding tax rules for start ups as it would create more investable surplus. Most companies in the start-up ecosystem burn cash and therefore are loss-making. The gestation is substantial and tax liability is low. However, this is not taken into account when withholding taxes on payments made to start-ups. Relaxing withholding tax obligations would be a boon for start-ups in terms of liquidity.
Let me come to the compliance part. Start-ups are about innovation and there is no point in getting them bogged down in paperwork. Compliance requirements take up too much time and effort. In the previous budgets, the government acknowledged the need to reduce the compliance burden placed on start-ups to the bare minimum. It is time to walk the talk.
Simplify IPO model and get more domestic investors
If you talk of the bigger players in the start-up ecosystem; they are fairly matured and well on the growth trajectory. They are equipped to go for an IPO. However, there are two budget expectations. The exchange listing requirements are not attuned to start-ups. Secondly, the government has hinted at permitting direct overseas listing but definitive and detailed guidelines are still awaited. Direct international listing is something start-ups with some scale would prefer.
The second expectation is about encouraging more domestic investors to participate in the start-up ecosystem. Today, start-ups largely rely on overseas investors. The government can look at policies that encourage Indian investors to support home-grown start-ups; including capital gains exemptions. There is a lot of money available in India and it can be used to boost the start-up ecosystem.
Incentives, exemptions and angel investors
The government has put in place a plan to encourage start-ups in India. However, to be called a start-up, the annual turnover cap is Rs100cr. It has been a persistent demand that this limit must be increased so that start-ups can grow and expand without worrying about losing their start-up status. The limit of Rs100cr may be too small if the start-up ecosystem grows rapidly.
No discussion on start-up ecosystem is complete without dwelling on the controversial Angel tax system. This is a tax levied on shares issued by start-ups to the investors. In the previous budgets, after representations from start-ups and even NASSCOM, the government relaxed the regulations and the process by which start-ups claim exemption from angel tax. However, clarity is needed on exception-based approach for applicability of angel tax; relaxation of thresholds etc. Hopefully, Budget 2021 will address them.
How about some clarity on Gift Tax applicability?
Gift tax is applicable in the case of incoming investors if shares are acquired at less than fair market value (FMV). The Tax Rules have already defined how FMV is to be calculated. It was originally meant to be an anti-abuse provision but it ends up becoming a deterrent to investors. That is because; FMV calculation can be complex and volatile in the case of technology companies where obsolescence is a big risk. There should be clear rules and principles to exempt genuine transactions from the ambit of gift tax.
Start-ups form the backbone of the futuristic economy and they create innovation, IP and future business leaders. Hence the government has a major stake in start-ups. India is the third-largest start-up nation in the world after the US and China and the Budget-21 must ensure that start-ups have enough government support.
The start-up sector will seek support in terms of access to capital, domestic investment environment, economies of scale and ease of regulation and also of exit. The potential of this segment is huge and the budget is the right opportunity to fill the gaps.