Startups may no longer have to worry about paying income tax on capital raised from angel investors. On Monday, amending an earlier proposal from March’s Union Budget, finance minister Pranab Mukherjee proposed to exempt capital raised by startups as angel investment from the purview of income tax. This, however, will be subject to a pre-condition. Only capital raised from notified angel investors will be eligible for the tax exemption.
Clarity is yet to emerge on what kind of entities would qualify as the proposed notified class of investors. But, Mukherjee’s move to establish a notified class sets the stage for a formal, self-regulated industry association of angel investors, on the lines of Kansas-based Angel Capital Association (ACA). The ACA is the nodal North American trade association of angel groups and private investors that invest in high-growth, early-stage companies. Importantly, it serves as the public policy voice for the professional angel community in the US.
The creation of an ACA-type of body in India will serve two important purposes. One, it will help identify and organize legitimate angel investors on a formal platform. The driving factor behind the Budget’s proposal to tax capital raised from angel investors was to prevent black money from being channeled into startups. Currently, as in the US, there are three kinds of angel investors active in the Indian market:
- Formal angel networks such as Hyderabad Angels, Indian Angel Network and Mumbai Angels pool the resources of high networth individuals and invest in startups. However, while such networks represent fairly significant amounts of capital, the actual scale of their investments is still quite small. For example, last year, Indian Angel Network, the largest angel network in the country with 200-odd registered members, invested just over $8 million.
- Professional angel investors, typically small businessmen, serial entrepreneurs and former entrepreneurs who are sitting on capital after successfully selling their own businesses, invest on their own, independent of any formal network. This group also includes professionals who often channel gains from investments in stock markets or real estate to startups. Again, this group is also relatively small in terms of scale of investments.
- Family and friends, a largely faceless group, constitute the bulk of angel investing activity in India. Given the nascent nature of professional angel investing here, most Indian startups end up raising the first Rs 20 lakh or Rs 50 lakh from these sources. It would not be incorrect to assume that more than 90 per cent of the angel money currently raised by startups comes from this group.
An organized, legally defined platform, that includes all three classes of investors, would go a long way in growing the angel investor ecosystem that is sorely lacking today. It would also, importantly, give startups access to a larger and transparent pool of investors.
The second critical purpose that an ACA-type of platform would serve is that, in future, it can work more effectively with the government on fostering angel investing rather than choke it. For instance, in 2010, the ACA, along with other industry associations, was particularly successful in thwarting proposed amendments in a financial reforms bill that would have potentially hurt angel investments. The amendments proposed to increase the asset requirements of accredited angel investors from $1 million to $2.3 million and require startups raising funding to register with the Securities and Exchange Commission (and wait 120 says for the markets regulator to review their filing).
Of course, a platform for angel investors could be created under the aegis of the Indian Venture Capital Association (IVCA), which is the nodal trade association for private equity and venture capital investors. But given the very unique nature of such investors – angels invest their own money, much smaller amounts, and roll up their sleeves to work alongside startup teams — and the IVCA’s preponderance with bigger issues, a separate body may serve the angel community better.
This is not the first time that the need for a comprehensive platform that aggregates angel investors has been felt or articulated. Back in 2009, SAIF Partners’ Mukul Singhal, then a part of the Canaan Partners India team, explored the idea of setting up of a platform, under the Canaan umbrella, to help entrepreneurs get in touch with angels more effectively. Singhal’s view was that the angel community was much larger than the already known pool of serial entrepreneurs, big corporate honchos and other high networth individuals. But most of these people never got into the system because either they didn’t know how to didn’t want to join an angel investor group.
We don’t know what happened to that particular initiative. But now is a good time as any to revive it, though as an independent platform. Mukherjee has inadvertently made the first move. Will the angel community take the lead?
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