Booster for startups: 15% surcharge cap on LTCG, extension on tax benefits

(Written by Soumyarendra Barik)

In a move likely to boost investments in startups and make employee stock options (ESOPs) a more lucrative proposition to attract and retain top talent, Finance Minister Nirmala Sitharaman on Tuesday proposed to cap the surcharge on long-term capital gains (LTCG) from shares of unlisted companies at 15 percent in the Union Budget 2022-23.

“The long-term capital gains on listed equity shares, units etc are liable to maximum surcharge of 15 per cent, while the other long-term capital gains are subjected to a graded surcharge which goes up to 37 per cent. I propose to cap the surcharge on long-term capital gains arising on transfer of any type of assets at 15 per cent,” she said in her Budget speech.

The proposal is likely to address a long-pending demand of investors of the startup ecosystem, who have been urging the government to introduce parity in surcharge on the LTCG from listed and unlisted companies, industry executives said. “The change announced today will help startup founders, employees and domestic VCs selling unlisted shares, which in turn will set off a virtuous cycle of more investments in the startup ecosystem,” said Siddarth Pai, managing partner of venture capital firm 3one4 Capital.

Investors like Pai and others usually choose to put money in high-risk startups in the unlisted market. The LTCG surcharge on gains made from their investment in such startups earlier used to go as high as 37 per cent. “For ESOP holders, this change is a step forward to the long-awaited ask of tax parity between listed and unlisted securities. This will boost ESOPs as a means of attracting and retaining talent and increase rupee capital participation in the Indian startup ecosystem,” Pai added.

The announcement comes after what was a record breaking year for startup funding in India. The country saw a record 42 startups turn unicorn — valued at over a billion dollars — in 2021. Overall, the startup ecosystem raised more than $40 billion, according to a report by Orion Venture Partners, an investor in early stage of startups.

The Budget also had other incentives for domestic startups, including an extension in the tax benefits available to eligible startups in the country, by one year, until March 2023.

“Eligible startups established before 31.3.2022 had been provided a tax incentive for three consecutive years out of ten years from incorporation. In view of the Covid pandemic, I propose to extend the period of incorporation of the eligible startup by one more year, that is, up to 31.03.2023 for providing such tax incentive,” said the Finance Minister in her Budget speech.

To further boost venture capital and private equity funding in startups, FM Sitharaman said an expert committee would be created to examine and suggest “appropriate measures” on scaling up such investments.

The National Bank for Agriculture and Rural Development (NABARD) will also facilitate a fund with blended capital, raised under a co-investment model, to finance startups in the agriculture industry. The expectation is that these startups would support Farmer Producer Organisations (FPOs) with machinery for farmers on a rental basis at the farm level, and technology including IT-based support.