Under Section 56(2)(vii)(b) of the Income Tax Act, if a closely-held company issues shares at a price exceeding fair market value (FMV), computed in accordance with the prescribed methodology, the difference is to be taxed as income from other sources. The tax largely impacts angel investments and is therefore called the angel tax.
In the February budget, the government amended the section, bringing all foreign investments under its ambit, against the earlier narrower provision that covered only non-resident Indians. But the provision impacts investments below market value and not just angel investment in startups.
The Central Board of Direct Taxes has amended rule 11 UAC(4) of Income Tax Rules that provides an exception from the applicability of Section 56(2)(x) of the Act.
The latest amendment also covers investments where they are lower than fair market value.
According to the amendment, the section shall not apply to “any movable property, being equity shares of a public sector company or a company received by a person from a public sector company or the central government or any state government under strategic disinvestment”.”The amendment is aimed at facilitating the process of strategic divestment by exempting deemed taxation of difference in book value and the fair value,” said Amit Agarwal, partner with Nangia & Co LLP.Typically, government companies divested under strategic divestment process may have a high book value but a lower fair value, which could result in potential tax consequences for a buyer of shares, Agarwal added.