Introduction:
Vide Finance Act, 2023, the Indian Government has expanded the scope of section 56(2)(viib) of the Income-tax Act, 1961 to include non-resident investors (commonly referred to as Angel tax). This amendment will take effect from April 1, 2024. According to this provision, if a company receives an amount for share issuance that exceeds the Fair Market Value (FMV) of the shares, the difference will be considered as taxable income for the company. Consequently, the amendment to Rule 11UA was required to address the valuation methodology for shares in such scenarios.
Proposed Changes in Rule 11UA:
Rule 11UA currently prescribes two valuation methods, namely the Discounted Cash Flow (DCF) and Net Asset Value (NAV) methods, for resident investors. In an effort to enhance fairness, the proposal aims to introduce five additional valuation methods applicable to non-resident investors, in addition to the DCF and NAV methods.
The proposed modification stipulates that if a company receives consideration for share issuance from a notified non-resident entity, the price of the equity shares may be considered as the FMV for both resident and non-resident investors. However, this applies only if consideration is received within ninety days from the date of share issuance.
Additionally, the proposal extends the provision of price matching to resident and non-resident investors for investments made by Venture Capital Funds or Specified Funds. To ensure reliability, a valuation report would be acceptable if it is no more than ninety days old from the date of share issuance.
Furthermore, considering the potential impact of forex fluctuations, bidding processes, and variations in economic indicators on the valuation of unquoted equity shares during multiple investment rounds, a safe harbor provision of 10% variation in value is proposed.
The draft Rules encompassing the above modifications will be made available for public comments for a period of 10 days, after which they will be formally notified.
Notification for Excluded Entities:
To address specific classes of non-resident investors, it is proposed to notify certain entities to whom clause (viib) of sub-section (2) of section 56 of the Act shall not be applicable. The exclusion includes:
(1) Government and Government-related investors: This category encompasses central banks, sovereign wealth funds, international or multilateral organizations or agencies controlled by the Government, or where the Government holds 75% or more direct or indirect ownership.
(2) Banks and Insurance entities: The exclusion applies to banks and entities involved in the insurance business, subject to applicable regulations in their respective country of establishment or incorporation or residency.
(3) Entities from certain countries or specified territories: The exclusion extends to entities registered with the Securities and Exchange Board of India as Category-I Foreign Portfolio Investors, endowment funds associated with universities, hospitals, or charities, pension funds created under foreign law, and broad-based pooled investment vehicles or funds with more than 50 investors that do not function as hedge funds or employ complex trading strategies.
Investment in recognized Startup:
The proposal also includes a modification to Notification No. S.O 1131(E) dated 5th March 2019, stating that the provisions of section 56(2)(viib) of the Act shall not apply to consideration received from Non-resident by start-ups covered in paragraphs 4 and 5 of the Notification dated 19th February 2019 issued by the Ministry of Commerce and Industry in the Department for Promotion of Industry and Internal Trade.