Angel Tax Is Gone, But Here's the New Compliance Challenge Founders Are Facing

Angel Tax under Section 56(2)(viib) will be revoked for all categories of investors starting FY 2025-26. Angel Tax compliance on fundraising is not dead but only evolving with increased scrutiny on alternate areas by tax authorities. This blog covers all you need to know on Angel tax new rules and revised compliance for startups.

Sneha Das

7/29/20263 min read

What changed?

As per Union Budget 2024, Angel Tax will no longer be applicable to all classes of investors commencing FY 2025-26 (effective from 1st April 2025) both for resident and non-resident investors. Previously, Angel Tax provisions were amended to also include non-resident investors. This amendment revokes the charging of tax on share premium over and above the fair market value in case of fresh issue of shares for financing rounds starting FY 2025-26.

Angel Tax will be revoked as a result of Finance Act, 2024, with effect from FY 2025-26, thereby removing the erstwhile valuation-linked tax liability on fresh issue of shares for all categories of investors.

Where has the scrutiny moved to?

With the specific tax on share premium removed, tax authorities and regulatory bodies have shifted their focus to other areas of transaction transparency:

Source of Funds Verification: Tax authorities are closely examining the origin of an investor's capital, particularly for high-value rounds, looking past mere valuation numbers to ensure the legitimacy of the money trail.
Round-Tripping and Complex Layered Structures: Capital routed through multiple shell entities or opaque cross-border jurisdictions is triggering deeper inquiries, especially where the ultimate beneficial ownership remains unclear.
Legacy Assessment Years: Assessments and ongoing litigation for financial periods prior to FY 2025-26 remain legally open, meaning historical Angel Tax exposure is not automatically erased. Founders with older funding rounds must preserve their historical records.
Debt-Equity Hybrid Instruments: Structuring investments improperly as loans, debentures, or convertible notes to bypass corporate regulations or exchange controls is drawing strict scrutiny under alternative provisions.
FEMA and RBI Cross-Border Compliance: For foreign capital inflows, adherence to Foreign Exchange Management Act (FEMA) pricing guidelines and timely Form FC-GPR filings are under sharper watch.
Beneficial Ownership Disclosures: Ensuring Ultimate Beneficial Owner (UBO) transparency is mandatory to prevent capital laundering under corporate governance guidelines.
Commercial Rationale of Transactions: Evaluating whether high-premium transactions align with genuine business milestones, intellectual property creation, or commercial growth potential.
Mismatch with Income Tax Returns (ITRs): Reconciling incoming share capital entries on company balance sheets with corresponding capital disclosures filed by investors.

What Angels get wrong?

The most common compliance oversight by Angels is assuming that Angel Tax abolition means no tax scrutiny on any aspect of fundraising. Modern fundraising requires a detailed documentation trail both on source of funds of an investor and detailed independent valuation reports (even if not directly linked to tax issues).

Strategic Compliance checklist for modern fundraising

To help you navigate the complexities of fundraising while ensuring tax compliance, it is important to implement a comprehensive documentation trail as follows:

Conduct Deep Investor KYC: Maintain verified identity records, PAN, and tax residency certificates of all participating angels, HNIs, or institutional funds.
Secure Independent Valuations: Even post-abolition, obtain formal merchant banker valuations under standard discounted cash flow (DCF) or asset-backed methodologies to satisfy general corporate law requirements.
Maintain Clean Bank Trails: Ensure all subscription monies arrive via banking channels directly from the investor's designated account, avoiding cash or multi-layer intermediary transfers.

Frequently asked questions (FAQs)

Q1. Is Angel Tax completely abolished now, including for foreign investors?

A: Yes, as Angel Tax has been completely revoked as per Union Budget 2024, effective from FY 2025-26 for all categories of investors including non-resident investors.

Q2. Does the Angel Tax abolition apply retroactively to funding rounds from earlier years?

A: No, Angel Tax abolition by virtue of Union Budget 2024 will only apply to funding rounds from FY 2025-26. There are ongoing assessments/ litigations for FY 2024-25 and earlier years which will continue to be governed by existing tax laws.

Q3. Do I still need a professional valuation report if Angel Tax no longer applies?

A: Yes, apart from Angel Tax, valuation reports are necessary to meet general corporate law requirements and FEMA guidelines pertaining to foreign exchange management.

Q4. What records should founders keep regarding investor capital?

A: Founders need to keep records of investor banking details to show proof of payment, board approvals, KYC documents and subscription agreements.

Q5. How does the current tax scrutiny affect foreign venture capital inflows?

A: While Angel Tax is revoked, foreign capital inflows are subject to FEMA guidelines and tax authorities are likely to scrutinize transactions to ensure compliance with foreign exchange laws.

Conclusion

In case you are raising a round anytime soon, remember that Angel Tax revocation does not mean relaxation of documentation standards. It continues to remain important to maintain valuation reports, investor KYC documents and source of fund details to help deal with any scrutiny on corporate law filings or Angel Tax for earlier rounds as the specific tax lens has only changed.