The Central Board of Direct Taxes (CBDT) has recently proposed significant changes to Rule 11UA, which pertains to the valuation of shares, in relation to the controversial Angel Tax. Additionally, the CBDT plans to issue a separate notification identifying excluded entities. These proposed changes aim to streamline the taxation process and provide clarity for both resident and non-resident investors.
Proposed Changes in Rule 11UA
Rule 11UA currently prescribes two methods, namely Discounted Cash Flow (DCF) and Net Asset Value (NAV), for valuing shares held by resident investors. However, the CBDT proposes to expand this list by including five additional valuation methods specifically for non-resident investors. This expansion will provide more options for determining the Fair Market Value (FMV) of shares.
Moreover, if a company receives consideration for issuing shares from a non-resident entity notified by the Central Government, the price of the equity shares corresponding to such consideration can be considered as the FMV for both resident and non-resident investors, subject to certain conditions:
- The consideration from the FMV does not exceed the aggregate consideration received from the notified entity.
- The consideration is received by the company from the notified entity within ninety days of the date of issue of the shares being valued.
Similarly, price matching between resident and non-resident investors will be applicable in cases of investment by Venture Capital Funds or Specified Funds.
To ensure the accuracy of valuation, the CBDT proposes that the valuation report prepared by the Merchant Banker will be acceptable if it is not more than ninety days old from the date of issue of the shares under consideration. This provision aims to keep the valuation up-to-date and relevant.
Additionally, considering factors such as forex fluctuations, bidding processes, and variations in other economic indicators, the CBDT suggests implementing a safe harbour provision. This provision would allow for a 10% variation in the value of unquoted equity shares during multiple rounds of investment. This adjustment intends to accommodate changing market conditions and provide more flexibility in valuations.
The draft rules reflecting the proposed changes will be made available for public comments for a period of ten days. Following the feedback period, these rules will be formally notified.
Notification for Excluded Entities
In addition to the proposed changes in Rule 11UA, the CBDT plans to issue a notification specifying certain classes of non-resident investors to whom section 56(2)(viib) of the Income-tax Act shall not be applicable. The notification will exclude the following entities:
- Government and Government-related investors, such as central banks, sovereign wealth funds, international or multilateral organizations or agencies, including entities controlled by the Government or where the Government’s direct or indirect ownership is 75% or more.
- Banks or entities involved in the insurance business that are subject to applicable regulations in their respective countries or jurisdictions.
- Entities registered with the Securities and Exchange Board of India as Category-I Foreign Portfolio Investors.
- Endowment funds are associated with universities, hospitals, or charities.
- Pension funds created or established under the law of a foreign country or specified territory.
- Broad-based pooled investment vehicles or funds where the number of investors exceeds 50, and the fund is not a hedge fund or does not employ diverse or complex trading strategies.
These exclusions aim to provide certain classes of investors with relief from the provisions of section 56(2)(viib) of the Income-tax Act, thereby encouraging investments from these entities.
Investment in Start-ups
The CBDT also proposes to modify Notification No. S.O 1131(E) dated 5th March 2019. The modification will ensure that the provisions of section 56(2)(viib) of the Income-tax Act do not apply to consideration received from any person by start-ups covered under paragraphs 4 and 5 of the Notification dated 19.2.2019 issued by the Ministry of Commerce and Industry in the Department for Promotion of Industry and Internal Trade (DPIIT). This modification aims to provide further support and promote investment in start-ups.
In conclusion, the proposed changes to Rule 11UA and the notification of excluded entities aim to bring more clarity and flexibility to the taxation of shares and investments. These measures will help streamline the process, encourage investments from various entities, and provide relief to start-ups, ultimately fostering a conducive environment for economic growth and innovation.