TAX DELIBERATIONS FOR STARTUPS TO THRIVE

Introduction-

PM of India, Narendra Modi demonstrated the Startup India campaign in the year 2016 to encourage businesses in India. The blueprint was directed at advancing bank funding for the startups, clarifying the incorporation process to the startups, and permitting various tax exclusions and various other benefits to the startups. But all such benefits and exemptions are available to those startups only if they arise

under the standard of an eligible startup.

So let’s understand the concept and eligibility which needs to be fulfilled by the enterprises to become an eligible startup.

 

Eligibility criteria for startups in India-

The following conditions needs are satisfied to be qualified as a startup in India:

1. Must not yet accomplish 10 years from the date of incorporation.
2. Must be registered as a private limited company or as a partnership firm or as an LLP.
3. Must have a yearly income of not more than Rs. 100 crore for any financial year since the incorporation.
4. Must be working regarding the revolution, improvement of products and services.
5. Must not be established by cracking or rebuilding a business already in existence.

 

Registrations requirement-

 

 

1. PAN card, TAN (PAN is a number allotted by the income tax department of the country. Whereas, TAN is essential for undertaking TDS-related accordance).
2. GST registration is also needed where the turnover from that business is more than the directed limit of Rs. 40 Lakh for the business involved in the supply of goods and Rs 20 Lakh for the business involved in the supply of services.
3. The eligible startup will be required to acquire professional tax registrations.
4. A shop license and Establishment license is needed for the place of work of the business.
5. Patent registration.
6. Industry-specific regulatory approvals are needed for some industries before starting the business.
7. Import & Export Code is needed where the entity is complexed in import or exports of goods and services.

 

Other available benefits-

1. The procedure for registering the startup is very simple.
2. Funds are easily accessible via Alternate Investment Funds.
3. Patent application procedures are fast and there’s an 80% refund in filling the patents.
4. Indemnity from the must-haves of the money deposit, previous experience, and income which are required in administration proposals.
5. Simple winding up of the company within 90 days under Insolvency & Bankruptcy Code, 2016.

 

This campaign has been quite victorious in advancing the possibilities of shooting business people and groups of investors in India. The Government should extend the closing date for utilizing the deduction of profits accessible to these eligible start-ups within another five years, and relieve acquiescence, to help accomplish their full capability.

 

Essential issues which are faced by the startups-

 

 

1. Establishing the entity as a C Corp, an S Corp, or an LLC:

The creator/founder of an entity must originally ascertain if to arrange the company as an LLC or as a corporation. If the company is to be formed as a corporation, then the company should also determine if they need to file a poll to have it taxed as a ‘ corporation’ or a ‘C corporation.’

S corporations are those corporations that elect to pass the corporate income, losses, and credits through their stakeholders for tax.

C corporation under the confederate income tax laws is the one which is taxed separately from their owners.  All gains of businesses are restricted as C corporations, until and unless the company is faultlessly appointed to become an S corporation.

LLC is another organization that provides limited liability to the owners in the same way as C and S corporations, and it also provides rise-through taxation to the owners.

 

So now the question arises what type of entity should be formed by a founder?

1. In case the entity will get investors from the outside, in that case, it is most likely needed to be a C corporation.
2. In case it is a simple entity with only one or two sole owners, then an S corporation is better.
3. In case the owners want more flexibility and want to avoid the limitations of S corporations, then LLC or C corporation sounds good.

 

2. Qualified small business stock (QSBS):

 

If the inventory of any startup fulfills the necessities of a QSBS, 100 percent of the profit on the sale of inventory confined by a noncorporate taxpayer for more than 5 years may be eliminated from the income. Additionally, the gains on the sale of QSBS which are held for less than 5 years may be certified for a tax-free flip over, if sale excesses are reinstalled in another QSBS after 60 days of the sale.

3. Granting Stock Options:

 

These are exceptionally favored methods for Employers of motivating, attracting, and engaging employees, especially in those times when the company is not able to pay high salaries to the employees. It gives the entity flexibility to grant stock options to its employees, officers, directors, consultants, etc allowing them to buy these stocks in the company itself whenever they implement this option.

 

4. Sales Tax Issues:

 

Your business can be made subject to taxes made from the sale or by lease of goods and services, this is commonly referred to as “sales tax” and is also known as “use tax” in some cases. Calculation of sales tax can be done by doing the multiplication of the purchase price and the applicable tax rate. The applicable tax rates which are applied vary by state.

The sales tax needs to be collected with the seller at the time of sale. The seller needs to file the tax returns as well as forward the tax to the state and the county that imposed the sales tax.

The variety of goods and services which are made subjected to sales tax relies on state, city, or county. However, there are many noticeable exempted categories of goods and services from the sales tax.

 

5. Payroll Tax Issues:

 

All the startups need to pay state as well as federal payroll taxes for employee compensation. Calculation of Payroll taxes is done by calculating a percentage of all the salaries that the company pays to all the employees. These taxes are usually derived out of employee pay and are collected by all employers which are paid by the employers on behalf of their employees as well as the company.

Payroll is taxed based on salary slabs in India. There are 4 major salary slabs in India.

Up to rupees 2,50,000 – Zero tax

Between rupees 2,50,000 – rupees 5,00,000 – 5% of taxable income

Between rupees 5,00,000 – rupees 10,00,000 – Rupees 12,500 and 20% of income

More than 10,00,000 – Rupees 1,12,000 and 30% of income.

 

6. Net Operating Losses:

 

In this case, if any company is organized as a C corporation then any tax loss that is generated in their business produces no current tax benefits to it, but it can be carried forward as “net operating losses” (NOL) as well as an offset taxable income in coming years. All the founders of a company need to know that if in the future there is more than 50% change in the ownership of the company in the duration of the three years, then any NOL that is generated before the change in ownership will be used every year but only to a limited extent and based on the importance or value of company’s stock during the time of change, it multiplied with a percentage that is suggested every month by IRS. The need of the company to raise capital by issuing additional stocks for the new investors will eventually overcome the benefit of protecting unlimited use of its NOLs.

 

7. Employee vs. Independent Contractor Issues:

 

It is very important that the company correctly determines tax purposes clearly that whether the individuals which are providing services to their business are their employees or independent contractors. Employers need to run the risk of improperly characterizing with independent contractors. Numerous startups prioritize independent contractors so that they can avoid paying Social Security, Medicare taxes as well as unemployment taxes to avoid giving health insurance coverage.

 

8. Properly Documenting All Income and Deductible Expenses:

 

Each business needs to adopt a system for recordkeeping that captures all the incomes and deductible expenses accurately and completely. Few businesses still use ordinary checks book for this process, but several businesses chose to adopt electronic accounting software programs like QuickBooks.

 

Tax exemptions allowed to Eligible Startups under Startup India Program-

 

Below given are a few tax exemptions that are allowed for eligible startups,

 

1. 3 year tax holiday under the block of seven years:

 

Only the Startups that are launched between April 1, 2016, to 31st March 2021 are found to be eligible for this scheme. However, the budget of 2021 extended its eligibility to 31 March 2022. All the startups within this time frame will be eligible for receiving a 100% tax rebate for a term of three years on profit in a block of seven years, given that the annual turnover of that startup is not exceeding Rs.25 crores in any of the financial years. This will surely help these budding startups to get their capital requirements for working for the initial years of their operation.

 

2. Getting an exemption from tax on long term capital gains:

 

The new addition of a section 54 EE is made in the Income Tax Act for those startups which are eligible for exemption from their tax based on a long term capital gain, only in those cases where that long term capital gain or even a part of it is invested in any fund which is notified by Central Government inside a period of six months from date of transferring of the asset.

The maximum amount which can be invested in such a long-term specified asset is a total of Rs 50 lakh. This amount needs to remain invested in that specified fund for 3 years. If that amount is withdrawn before 3 years, then the exemption will not be granted in that year in which money is withdrawn.

 

3. Tax exemption is given on investments that are above the fair market value:

 

The government has also exempted the tax that is being charged on investments that are above fair market value in some eligible startups. These investments include investments that are made by some resident angel investors, by family or the funds which remain un-registered as venture capital funds. Furthermore, the investments that are made by incubators and are above fair market value are also exempted.

 

4. Tax exemption is given to Individual/HUF for the investment of long-term capital gain towards equity shares of Eligible Startups under section 54GB:

 

Pre-existing provisions under section 54GB exempts us from taxes on long-term capital gains which are based on the sale of any residential property and if these gains are placed in small or even medium enterprises then they are specified inside the Micro, Small, and Medium Enterprises Act, 2006. But, at present above section had been amended to inculcate the exemption on capital gains that are invested in eligible start-ups too.

 

In case, if any individual or any HUF sells residential property and then invests the capital gains to get 50% or more equity shares, then the tax exemption which is on long term capital will be given under the condition that such shares will not be sold or transferred for a term of 5 years from the date of their acquisition.

Startups should even use the amount that is invested to purchase the assets and they should not transfer the asset that is purchased within 5 years from the date of their purchase.

This particular exemption will help in boosting the investment of all eligible startups and will help in their growth and expansion.

 

5. The set-off of the carry forward losses and capital gains which are allowed in case of change in Shareholding pattern:

 

Carry forward of the losses in all aspects is allowed only if all shareholders of that company hold shares that are carrying voting power on the last day of the year in which loss was incurred and continues to hold back the shares on the last day of the previous year in which this loss is supposed to be carried forward. This restriction of holding back 51% of voting rights to remain unchanged under u/s 79 has been relaxed for eligible startups.

 

Conclusion-

Sticking to the legal requirements is necessary for every business. Knowledge regarding the laws and their accordance with the applicable laws is the first step to making sure that your business is running smoothly. Engaging a highly skilled legal counsel with the business to provide guidance and to maintain legal records in the best way possible, is one of the prescribed ways to make sure that your business is safe and will not face any kind of legal consequences.

 

References-

https://timesofindia.indiatimes.com/business/india-business/guidebook-for-startups-how-innovative-ideas-can-be-transformed-into-an-opportunity/articleshow/80597757.cms

https://www.forbes.com/sites/allbusiness/2016/03/29/pay-attention-to-these-9-essential-startup-tax-issues/?sh=5c5027566eb3

https://cleartax.in/s/startup-india-tax-exemptions-eligibility