The Standing Committee on Finance headed by BJP MP and former Union Minister Jayant Sinha has recommended to the centre to abolish the tax on Long Term Capital Gains for all investments in startups which are made through collective investment vehicles such as angel funds, alternate investment funds (AIF), and investment LLPs
In a report titled "Financing the startup ecosystem" submitted to the Lok Sabha Speaker last week, the committee has strongly recommended that the tax on Long Term Capital Gains (LTCG) be abolished for all investments in startup companies (as designated by DPIIT) which are made through collective investment vehicles (CIVs) such as angel funds, AIFs, and investment LLPs. At a minimum, this should be done for at least the next 2 years to encourage investments during the pandemic period.
“After this 2 year period, the Securities Transaction Tax (STT) may be applied to CIVs so that revenue neutrality is maintained. Investments by CIVs are transparently done and have to be done at fair market value. Thus it is easy to calculate the STT associated with these investments. This can be done in lieu of imposing LTCG on these CIVs and to make the taxation system fairer, less cumbersome, and transparent. This will also ensure that investments in unlisted securities are on par with investments in listed securities.” the report recommended.
The report also called for establish a level playing field for domestic investments vis-a-vis foreign investments and domestic listed vis-a-vis unlisted securities. At present, LTCG earned by foreign investors in private companies attracts taxation at concessional rate of 10%, in comparison to the domestic VC/PE investments being taxed at 20% (for LTCG) with an enhanced surcharge of 37%, the report noted.
Given that the Indian economy is reeling under the post COVID – 19 crisis and various sectors need capital to recover, the Committee recommended that the exemption for income on investments made before 31 March, 2024, subject to the investment being held for a period of at least 36 months as incentivised in the Finance Act, 2020, should be provided to long-term and patient capital invested across all sectors.
The Committee recommended that in line with the global practices, large financial institutions in India should be encouraged to channelise a proportion of their investible surplus into domestic funds which would bring in much-needed additional domestic capital for startup investments. The steps advocated by the committee includes
(i) Encouraging Pension Fund Regulatory and Development Authority (PFRDA) and National Pension Scheme (NPS) to invite bids from professional fund managers for running a fund-of-funds program. SIDBI would be eligible to participate as well.
(ii) Major banks should join hands to float a fund-of-funds. Furthermore, the current exposure limits applicable to banks need to be enhanced and permission be granted to invest in Category III AIFs also.
(iii) Insurance companies (both life and non-life) must be given latitude to invest in fund-of-funds by IRDAI as well as directly in VC/PE funds along with a higher exposure cap
(iv) Foreign Development Finance Institutions may also be encouraged to participate with local asset management companies to set up fund-of-funds structure or direct VC/PE funds, particularly in social impact, healthcare and venture/startup sectors.
The Committee has noted that successful Initial Public Offerings (IPOs) of Real Estate Investment Trusts (REITs) and Infrastructure Investment Trust (InvITs) have already shown that asset portfolios can be packaged together to to attract specific investor type and thus would like to recommend that NBFCs also be allowed to list on stock exchanges to be able to draw in a larger investment pool.
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