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Mehul and Anjali, fresh out of IIM Bangalore, launched a startup named "EduNudge", a tech-based platform for personalised student mentorship. In 2021, they raised ₹1.2 crore from angel investors at a valuation of ₹12 crore.
All seemed well until early 2022, when they received a tax notice under Section 56(2)(viib), asking them to pay income tax on the premium they received over the fair market value of their shares.
Mehul was shocked: “Ye toh investment tha, income nahi. Phir tax kyun bharna padega?”
Anjali replied: “I think this is what they call Angel Tax. Let’s find out the full picture.”
Angel Tax refers to the income tax levied under Section 56(2)(viib) of the Income Tax Act, 1961. It is imposed on unlisted companies when they receive equity funding from resident investors at a price higher than the fair market value (FMV) of their shares.
The excess amount received over FMV is treated as “income from other sources” and taxed accordingly.
Because early-stage investors are often called angel investors, the tax was hitting startups receiving funds from them.
Let’s say EduNudge issues 10,000 shares at ₹1,200 each, raising ₹1.2 crore.
₹60,00,000 is taxable as “income from other sources” under Angel Tax.
The idea was to curb money laundering and prevent shell companies from bringing in black money disguised as investment.
In the early 2010s, the government noticed companies issuing shares at very high prices to individuals, suspected of laundering unaccounted money under the garb of investments.
Thus, Section 56(2)(viib) was introduced in the Finance Act 2012 to tax any excessive premium over FMV.
However, genuine startups like Mehul & Anjali’s began facing the heat too.
Initially, only resident investors (Indian citizens or entities) were covered under the provision. But in 2023, the scope was expanded to include non-resident investors, unless exempted.
Note: Mehul & Anjali had raised funds from resident individuals, not from SEBI-registered VCs, so Angel Tax was applicable to them.
Thanks to the lobbying efforts by startup founders and organisations like NASSCOM, the government introduced certain relaxations.
If a startup is recognised by DPIIT (Department for Promotion of Industry and Internal Trade) and meets specific conditions, it can apply for an Angel Tax exemption.
Mehul & Anjali applied for DPIIT recognition and were later granted exemption from Angel Tax.
In June 2023, the CBDT (Central Board of Direct Taxes) notified fresh valuation norms. These allowed more flexibility to startups while calculating FMV, such as:
*T&C Apply
Earlier, only NAV or limited versions of DCF were accepted, causing genuine valuations to be rejected.
Also Read - Tax Slab for Partnership Firms
Mehul hired a SEBI-registered merchant banker to issue a certificate justifying their ₹12 crore valuation.
While the intent was to stop fraud, Angel Tax drew criticism from many founders, investors, and ecosystem enablers.
Mehul said, “We were busy planning expansion, and suddenly had to focus on saving ourselves from tax penalties.”
If a company receives a notice under Section 56(2)(viib), it should:
Angel Tax started as a tool to stop fake funding transactions but ended up affecting genuine startups in India. The complexities of valuation methods, delayed tax notices, and a lack of understanding at the assessment level made it a major concern.
Thankfully, with continued policy improvements, DPIIT exemptions, and clarity on valuation norms, many hurdles have been removed. But awareness is still key.
Mehul and Anjali eventually got their exemption but not before spending ₹75,000 on compliance support and two months replying to tax queries. Their advice to new founders?
“Get your DPIIT certificate first. Plan your valuation transparently. Angel Tax may not be gone, but it’s manageable if you prepare.”
FAQs on Angel Tax in India
Is Angel Tax applicable to all startups?
No. If your startup is DPIIT-recognised and meets the exemption criteria, Angel Tax is not applicable.
What is the current Angel Tax rate in India?
It is taxed under “income from other sources” generally around 30% including surcharge and cess.
Is foreign investment also covered under Angel Tax?
As of June 2023, yes. However, certain foreign entities like SEBI-registered AIFs are exempted.
Can Angel Tax be applied retrospectively?
Tax notices have been sent for past funding rounds. However, current policies allow exemptions if you meet the qualifications.
How do I calculate FMV for issuing shares?
You can use the DCF method or the NAV method, certified by a registered merchant banker or CA.
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