When it comes to startups, the Union Budget of 2023 reminds me of the famous exchange between Sherlock Holmes and Inspector Gregory.
Gregory: Is there any other point to which you wish to draw my attention?
Holmes: To the curious incident of the dog in the night-time.
Gregory: The dog did nothing in the night-time.
Holmes: That was the curious incident.
In a budget full of many surprises, the startup world was conspicuous by its absence. In last year’s budget speech, the finance minister was ebullient about the industry – while counting the number of unicorns in India, while setting up an expert committee to promote VC and PE funds, while promoting thematic funds in new tech areas, while reducing the surcharge on LTCG tax, even while announcing the crypto tax. This year, crickets.
Whether this reflects a cooling of the global investment climate or the acknowledgement of a maturing industry that doesn’t need much government support, it is hard to say. But another year went by without any action on the industry’s key requests from the government: tax parity for private and public company investments, reduction in red tape for startups and mobilisation of domestic capital for investment into the industry.
Thin On Details
Let us look at what does find mention though. The proposal to set up an Agriculture Accelerator Fund sounds promising, but is thin on details. Without knowing the size of the fund and the mechanism of its deployment, it is hard to say whether it will have a catalysing effect on startups like the Fund of Funds for Startups (FFS) did in 2016 or will fizzle out in the backrooms of a ministry. For the sake of our country’s most important sector, I hope the accelerator is decentralised and managed by professionals.
The proposed Centre of Excellence for Artificial Intelligence, on the other hand, sounds like lip service to a most crucial and urgent question: who will own the most strategically important technology of our times? Starting around 2015, Chinese companies have made a concerted effort to recruit every Chinese-origin PhD in Artificial Intelligence from western universities. The US government directly supports AI research and development. Unless India makes an urgent and intense effort to concentrate Indian human and financial capital in this industry, we will be reduced to annotating training data for global corporations. The best time to make a budgetary allocation to this was a decade ago; the second-best time is now.
New Opportunities
On the other hand, “5G labs” in 100 engineering institutions across the country is a welcome idea. While I’m not expecting breakthrough innovation to come from these labs, just providing high-quality computing and telecom technology at engineering colleges will be a huge improvement on the current state of the art. My only wish is for the budget for these labs to match their ambition (and for the students to use the infrastructure to do more than just play video games).
A couple of announcements for the financial services industry are potentially very interesting for fintech startups. The Digilocker infrastructure being extended to entities, not only individuals, will enable MSMEs to share authenticated digital documents with lenders. This can massively crunch the turnaround time for availing MSME loans, and will allow lenders to automatically monitor the financial health of their portfolio without paper changing hands. Similarly, the National Financial Information Registry will further enable financial inclusion by providing financial services companies with accurate and timely data to make underwriting decisions. In both cases, startups are likely to play a key role in supplying data streams and providing analytics and decision support services.
Puzzling Moves
The dreaded “Angel Tax” finds a mention again in this year’s budget, and unfortunately in the form of an expanded mandate. Now investments by foreign angel investors will also attract the tax on share premium (which was earlier only applicable only for domestic investors). While registered startups are exempt from this tax, the eligibility conditions for both the investor and the startup make this an onerous exercise. I wonder how many foreign angel investors will be willing to navigate this maze of paperwork. This will either push away overseas angels or push startups to incorporate abroad from the beginning.
Another puzzling proposal that affects everyone, but startup founders and employees disproportionately, is the 20 percent withholding tax on foreign expenditure. While the intent behind the legislation is clear and laudable (to bring people making frequent foreign transactions into the tax net), it unfairly penalises those that are forced to make legitimate business transactions on their personal cards – i.e., every startup founder I know. I sincerely hope this provision is either rolled back or curtailed in scope before it affects the business of most tech companies.
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The wide-ranging changes to personal income tax are mostly not applicable to startup founders – despite what people believe, I’ve never known anyone at a startup who’s in the Rs 5 crore tax slab. However, one curious development seemed targeted squarely at founders and employees of successful startups. When such startups get an exit, they leave the founders and key executives with a huge tax liability. Capital gains tax on startup gains is 24 percent (including surcharge), compared to 11 percent for stock market gains. Founders often try to offset this liability by investing the gains into residential houses. Now the government has limited the extent of this tax avoidance to Rs 10 crore. It is hard to argue against the limit and the logic behind it, but the need only arises because of the extremely high tax rates for startup investments. By reducing them, the government can both spur domestic startup investments and ensure the gains get ploughed back into the productive economy rather than being locked into expensive residential real estate.
Overall, the budget is mostly disappointing for startup founders, employees and investors. The few initiatives that were announced were bereft of crucial details and budget allocations, and we seem to have taken a few steps back in the form of expanding the angel tax and 20 percent tax collected at source (TCS) on foreign expenses. The industry will continue to grow regardless, but I hope the 2024 budget does more to encourage its development. Amen.
Ritesh Banglani is Partner, Stellaris Venture Partners. Views are personal, and do not represent the stand of this publication.
