Finance Bill 2023 amends section 56(2)(viib): How will it impact the startups?

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– Abhirup Ghosh, Partner | finserv@vinodkothari.com

Background

The Finance Bill 2023 has proposed amendments to section 56(2)(viib) of the Income Tax Act, which deals with tax on closely held companies for issuance of shares to residents at a premium where the shares are issued at a value higher than the fair market value. The objective of the change is to expand the scope of the section and bring shares issued to non-residents into the reach of the section. This proposal will particularly hit start-ups, which mostly issue equity shares and compulsorily convertible preference shares (CCPS) to their investors, and in most of the start-ups, at valuations which are far higher than the fair values at the time of issuance. 

Before we discuss the impact of the section, let us first understand the scope of the section at length.

Also, it is important to note that the focus of this article is to examine the potential impact of the amendment on startups, since, the majority of the foreign investments into closely held companies flow into the startups, therefore, this section will mostly affect the startup segment.

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The Munis of India: Facilitating municipal bonds

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Rhea Shah, Executive | finserv@vinodkothari.com

India may be said to be the land of munis and rishis; however, when it comes to what the capital markets know as munis, namely, municipal bonds, India lags substantially behind other bond issuing jurisdictions. The Municipal Bonds market is still at the nascent stage, thereby requiring a robust regulatory framework and other regulations to be in place for its effective functioning. Issued by municipal authorities and government entities to meet their day-to-day operational needs, munis in the Indian market context are generally seen as a favourable investment to make.   Our detailed articles on the subject may be viewed here[1].

Munis in the Economic survey

As per the Economic Survey, the yields of municipal bonds during the year 2022-2023 have seen a significant rise, thereby enhancing investors’ interest in the market. The Union Budget was expected to bring about favorable outcomes for munis thereby having an effect of promoting the further development of the market and simultaneously ensuring its due regulation.  In the recent period, there has been a resurgence of municipal bond issuances in India, with nine MCs raising around ₹3,840 crore during 2017-21.

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Budget gives major boost for infrastructure

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Timothy Lopes, Manager | finserv@vinodkothari.com

Giving a push to the infrastructure sector has always been a top priority of the government, since developing infrastructure has a large role to play in terms of the overall growth of an economy. Infrastructure and investment were named as the third priority in the budget speech 2023-24 made by the Hon’ble Finance Minister.

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Residual income from REITs and InvITs now covered under section 56 of Income-tax Act.

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– Kaushal Shah, Executive | kaushal@vinodkothari.com

Background

Real Estate Investment Trusts (REITs) and Infrastructure Investment Trusts (InvITs) are two of the most important investments in the real estate and infrastructure sectors. REITs provide investors with a way to invest in real estate without having to own physical assets, while InvITs allow investors to invest in infrastructure projects without taking on the risk associated with owning physical assets. Both REITs and InvITs offer investors an opportunity for diversification, income generation, and capital appreciation and also provide them with the option of liquidity. As per recent trends, they are becoming increasingly popular among both institutional and retail investors looking to diversify their portfolios.

One of the key aspects which make REITs & InvITs is the tax transparency they provide owing to their structure. The  ‘pass-through’ status means that the income generated would be taxed in the hands of the unit holders, and that the business trust will not be liable to pay any tax on the same.

As per the extant provisions the taxation of REITs as a business trust shall be as per the following:

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Measures for promoting MSMEs: credit guarantees and timely payments 

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The MSME segment represents 30%[1] of the Gross Domestic Product of the country and is a key to India’s vision to become a USD 5 trillion economy. As a result, this has always been a focus area so far as macro-economic policy-making is considered. 

During the present year’s budget, the FM highlighted that one of the key areas where the Government has worked on is ease of access to finance. 

Access to finance has always been a problem for the MSMEs in the country, and the reasons for this are many, including lack of standardisation of business processes, lack of credit history, lack of formal collateral, etc. To plug the demand and supply gap in MSME financing, the Government of India has over the years launched several schemes to directly or indirectly channelise institutional finance to this segment.

Of the several initiatives taken by the Government, the one which has gained the most popularity is the Credit Guarantee Scheme for Micro & Small Enterprises. To operationalise this, the GOI and SIDBI together formed the Credit Guarantee Fund Trust for Micro and Small Enterprises (CGTMSE). The CGTMSE primarily extends guarantee in case of collateral-free loans and loans with insufficient collateral to micro and small enterprises. 

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Financial Regulators to have a consultative approach

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– Timothy Lopes, Manager | finserv@vinodkothari.com

The need for a consultative approach

In a post on LinkedIn, Vinod Kothari stated: “Let us face it – the business world is increasingly governed by regulations, and not rule of law. Parliamentary law in most cases is skeletal, laying what may evasively be termed as the essential principles. Most substantive rules that define, delimit or deny business freedom are made by the regulators. In the world of finance and capital markets, the regulators are SEBI, RBI, IRDA, PFRDA, etc.

This note is to make a case that significant regulatory actions, involving change of the rules that govern business, must necessarily be first proposed for public comments. A sudden change in rules can cause great difficulty as the regulated would keep searching for the rationale behind the regulatory action.  Quite often, regulators come back and say: we have our own observations. But how does one justify the results of regulatory experience not being shared with the regulated? How does one conclude that the observations of the regulator are unbiased, not myopic, or that the proposed rule-making by the regulator is based on a wrong premise or flawed understanding, or that a proposed rule will not do a damage? There are occasions when a regulatory action may have to be taken without the benefit of prior discussion, but this is exceptional. Perhaps, such an action is justified when the regulator has to act abruptly, or the balance of convenience lies in immediate implementation. But for such exceptional cases, one is not able to make a case for a change in rules that takes people by surprise.

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India’s “green growth”: is the green skin-deep?

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– Payal Agarwal, Deputy Manager | corplaw@vinodkothari.com

Talking about green growth may seem like rhetoric. From policy-makers to economists, from corporate governance experts to environmentalists, everyone seems to be having “green growth” on the top of the agenda.

The Economic Survey dedicated a full chapter to climate change and related issues. The Budget also has green growth as one of the seven saptarishis, to guide the FM’s plans for our financial future.

Need of the hour

India has been taking small steps towards reaching its commitment to the net-zero emissions goal by 2070, as compared to a majority of countries committing to reach the net-zero targets by 2050. While the country contributes to a very low percentage of global emissions (only 4% of the cumulative global emissions from the period 1850-2019[1]), the global nature of the problem of climate change is what makes the country equally vulnerable to the problem, if not more. Further, given its long coastline, monsoon-dependent agriculture, and large agrarian economy, India is considered to be one of the most vulnerable countries to the climate change issue[2].

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Market-linked debentures: Is it the end of the market for them?

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– Aanchal Kaur Nagpal, Manager | finserv@vinodkothari.com

Tax proposal to tax gains on MLDs as short-term capital gains

The Budget proposes that the capital gains on market linked debentures (MLDs) will be taxed as short term capital gain.

Presently, MLDs are mostly listed, and as listed securities they have 2 advantages:

  • First , there are exempt from withholding tax. This is one of the carve-outs in sec. 193
  • Secondly, the holding period for capital gain purposes is 12 months,  as opposed to 36 months in case of normal capital assets. This comes from sec. 2 (42A) of the Act. Therefore, if a listed security is held for at least 12 months, and transferred or redeemed thereafter, the gain will be taxed as long term capital gain, with a rate as low as 10%.

Market linked debentures is a concept that prevails world-over, with different names such as equity-linked bonds, index-linked bonds, etc. However, in India, the issuance of MLDs was being exploited as a regulatory and tax arbitrage device.

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CBDCs in India – Another step towards Digitalisation

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finserv@vinodkothari.com

Related write-ups:

  1. CBDCs in India – A Leap of Faith?
  2. Untangling the Mystery of Virtual Digital Assets
  3. The Rise of Stablecoins amidst Instability
  4. Recent Trends in Crypto-Industry: India & Abroad

Takeaways from Budget 2022-23 – Fast Track Exit for Companies

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By Shaivi Bhamaria – Associate, [shaivi@vinodkothari.com]

Introduction

Over the past few years the Government of India has been increasingly focusing on ‘ease of doing business’ by corporates, and has taken several initiatives towards the same, such as exemption to private companies from the requirement of minimum paid up capital by way of the Companies (Amendment) Act, 2015; establishment to the Central Registration Centre (‘CRC’) under section 396 of the Companies Act, 2013 (‘CA, 2013’) for providing speedy incorporation related services; launch of the integrated web form SPICe+ and integration of the MCA21 system with the CBDT for issue of PAN and TAN to a company incorporated using SPICe+; launch of  web based service R.U.N. (Reserve Unique Name) for reserving a name for a new company, etc..

However, the term ‘ease of doing business’ includes not only a seamless start to a business or making the journey less cumbersome, but also involves the ease of exit. While there are various modes of exit available to corporates,  such as winding up, summary liquidation, mergers and amalgamations etc[1], given that in voluntary modes of exit like striking off or voluntary liquidation under IBC, the company is either solvent enough to meet its liabilities or holds nil assets and liabilities, ideally, the closure processes is expected to be fast and simple, However, it has been observed that these voluntary modes have not been essentially ‘easy’ given the significant delays associated with them.

It is in the backdrop of such delays, the Union Budget, 2022-23[2] has proposed certain reforms, specifically for speeding up the striking off process under section 248 (2) of the Companies Act. Further, the Insolvency and Bankruptcy Board of India (‘IBBI’) has issued a Discussion Paper dated 1st February, 2022[3] proposing amendments in the IBBI (Voluntary Liquidation) Regulations, 2016, for ensuring a faster closure of voluntary liquidation processes.

In this write up, the author discusses the two sets of proposed reforms as mentioned above, and attempts to gauge their effectiveness at present and post implementation of the proposed amendments. Read more →