Angel Tax rules on equity valuation come into force

New Delhi: The Income-Tax (I-T) Department has notified rules for valuation of investments by resident and non-resident investors in startups, thus paving way for implementation of the changes brought in 2023-24 Budget. As per the changes in Rule 11UA of I-T rules, the Central Board of Direct Taxes (CBDT) provides that the valuation of compulsorily convertible preference shares (CCPS) and equity shares issued by unlisted startups can be based on the fair market value.

The amended rules also retain the five new valuation methods proposed in the draft rules for consideration received from the non-residents viz., (i) Comparable Company Multiple Method, (ii) Probability Weighted Expected Return Method, (iii) Option Pricing Method, (iv) Milestone Analysis Method, and (v) Replacement Cost Method. The rules come into effect from September 25.

Deloitte India Partner Sumit Singhania said from investors’ standpoint, revised rules offer wider range of valuation methodologies to work with, and that ought to make compliance less onerous, henceforth.

“Also, safe harbour permitting 10 per cent deviation from fair value makes room for valuation adjustments when needed. Overall, the trajectory is to align tax valuation methodologies with permissible exchange control norms,” Singhania said.

Nangia & Co LLP Partner Amit Agarwal said the amendments to Rule 11UA of the Indian Income Tax Act bring positive changes by offering taxpayers flexibility through multiple valuation methods, simplifying the valuation date consideration, incentivising venture capital investments, facilitating investments from notified entities, providing clarity on CCPS and encouraging foreign investments. “The inclusion of a tolerance threshold for minor valuation discrepancies further enhances efficiency and fairness in tax assessments, ultimately benefiting both taxpayers and the government. “These changes offer taxpayers a broader range of valuation methods to choose from, including internationally recognized approaches, thereby attracting foreign investments and fostering clarity. Moreover, the notified final rule introduces an additional sub-clause specifically addressing CCPS,” Agarwal said. SW India Managing Partner and Co-founder Atul Puri said the CBDT has amended Rule 11UA, for arriving at the fair market value of unquoted shares issued to resident and non-resident investors. Rule 11UA at present prescribes two methods for the valuation of unquoted shares i.e.; DCF (Discounted Cash Flow) method and NAV (Net Asset Value) method for resident investors. However, there was no specific reference to the valuation of shares issued to non-resident investors and this would lead to confusion and litigation between tax officers and non-resident investors. Amended Rule 11UA includes five more valuation methods available as an option to non-resident investors, in addition to DCF and NAV methods. However, the option to value equity shares as per any of these five methods is not available to resident investors. “The amended Rule 11UA is a welcome move, which brings in more clarity for both investor and investee, basis which an appropriate valuation method can be adopted, thereby, reducing the chances of any future litigation and addressing illegitimate or non-genuine transactions while promoting investments in eligible startups,” Puri said. AKM Global Tax Partner Amit Maheshwari said the new angel tax rules have very well taken care of an important aspect of CCPS valuation mechanism which was not the case earlier since most of the investments in India by VC funds is through the CCPS route only.