Budget 2023 fails to deliver for startups and investors

By Siddarth Pai

  • 01 Feb 2023
Budget 2023 fails to deliver for startups and investors
Siddarth Pai, co-founder, 3one4 Capital

The Budget speech in India is as keenly followed by the public as any major sporting event. It even engenders the same churn of emotions in the audience, with a clear distinction between the winners and losers. Budget 2023 was no exception. Despite fantastic announcements for agriculture, capital expenditure and the like, Budget 2023 was deafening in its silence on measures for investors and startups.

Budget 2022 stated that the “Venture Capital and Private Equity invested more than Rs 5.5 lakh crore last year facilitating one of the largest start-up and growth ecosystem. Scaling up this investment requires a holistic examination of regulatory and other friction. An expert committee will be set up to examine and suggest appropriate measures."

This expert committee was formed in 2022 under the chair of Shri M Damodaran, the ex-SEBI chair. Many investors, Indian and foreign, met the committee and shared their views with the same. The report was tabled with the Ministry of Finance in December, with reports that the key asks of the PE/VC industry found mentioned therein. Thus, anticipation was at an all-time high for investors, who looked forward to policy and tax rationalisations to accelerate investments in a funding winter. None of the major points came out in the Budget 2023 speech.


A silver lining is the announcements on GIFT IFSCA. Setting up in GIFT IFSC as an Indian manager was fraught with challenges due to multiple approvals and registrations from disparate parties. The single window clearance from GST, SEZ, Indian Financials services regulators like SEBI, RBI, etc will help ease incorporation and make setting up in GIFT IFSC much easier. Empowering IFSCA with SEZ authority will reduce the dual compliance burden and increase the ease of operations. Acquisition financing by foreign banks based in GIFT, enabling international arbitration, etc will go a long way in making GIFT a truly International Financial Services Centre.

Business Trusts like REITS and InVITs saw a loophole in the tax law plugged, wherein certain distributions were tax-free in the hands of the Business Trust and the investor. TDS exemption for interest from listed debentures was also removed and income from market-linked debentures would be taxed as short-erm Capital Gains.

Startups looked forward to Budget 2023 hoping to find an outline for Startup India 2.0. Given that this is the last full budget before the elections, many perceived this to be the last opportunity to see long-standing asks come to fruition. Instead, many were surprised by the emergence of an old foe, Angel Tax.


Angel Tax or Section 56(2)(viib) of the Income Tax Act, 1961 is an anti-abuse measure introduced in 2012 to prevent the laundering of black money via investments at high premiums into unlisted entities. People would invest at a large premium in unlisted companies, siphon off the funds and sell the shares back at a nominal value. However, since 2016, this has been misapplied to Indian startups who often issue their securities at a premium to investors. Since 2012, the only exemptions to 56(2)(viib) were SEBI-registered AIFs and non-residents.

A majority of the funding in the Indian startup ecosystem comes from foreign sources. An analysis of the largest funding rounds in 2022 and 2021 puts Indian investments in the low single digits. Thus, bringing non-residents within the ambit will expose investments from even institutional foreign investors to this Angel Tax. Placing further throttles on capital during a funding winter will break the back of the Indian startup ecosystem. Many entrepreneurs are accelerating their flip to an overseas jurisdiction due to this change.

The government announced an exemption framework for “Angel Tax’ via a Form 2 exemption. The exemption applies for 7 years from when the company ceases to be a startup. Companies seeking the angel tax exemption can’t undertake ordinary transactions such as salary advances, stock M&A, creation of a subsidiary, or contribution to an ESOP trust. These restrictions make it impossible for startups to scale or compete globally. 


A further albatross around the neck of the Indian startup ecosystem is the IMB certification process. The “Inter-Ministerial Board” consists of a group of bureaucrats who need to certify the innovation of a startup before they can avail of any of the startup tax benefits. Out of the 84,000 DPIIT registered startups, less than 1% have IMB certification. The lack of reform of the IMB system is a huge disappointment as all the tax benefits only accrue to IMB-registered startups.

The budget had 2 other fiscal announcements for startups.

  1. Increase in the carry forward of losses due to change in shareholding from 7 years to 10 years. 
  2. Increase in the period of incorporation to qualify for IMB registration by 1 year. So, startups incorporated between April 1, 2016 to April 1, 2024 can qualify for IMB registration.

But they are contingent on IMB certification – hence it will not benefit 99% of the DPIIT-registered startups. 

This is a missed opportunity for Indian startups. Even long-standing asks like ESOP tax reform, extending the previous ESOP changes to all DPIIT registered startups, rationalize capital gains between listed and unlisted securities, haven’t come through.
Online Gaming startups will now see all the winnings paid to their users being subject to TDS from Re 1, with the erstwhile Rs 10,000 threshold not applicable.  

Non-fiscal measures such as an agriculture accelerator fund for rural agritech startups and creating digital public infrastructure for agritech companies to empower farmers. Allowing access to anonymized data through the National Data Governance Policy will greatly benefit AI startups in India. 


Budget 2023 could have been the beginning of Startup India 2.0, but the wait still remains. The main question is, will entrepreneurs have the patience not to flip overseas while these much-needed reforms are being deliberated and deferred?

(Siddarth Pai is co-founder at Bengaluru-based venture capital firm, 3one4 Capital)

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