In a press release, IVCA (INDIAN VENTURE CAPITAL ASSOCIATION) has condemned Finance Minister’s Budget proposal regarding taxation of Domestic funds and called these steps as regressive and retrograde.
IVCA has said that the said proposal with regard to the tax pass through provision for Venture Capital funds will cause irreparable harm to innovation and entrepreneurship in India and seriously discourage the growth of venture capital in India which is vital for the myriads of start ups to achieve their full potential and enable the Indian economy to continue its growth rate. The provision is also unlikely to garner any significant tax revenues as all foreign venture funds will bypass the issue by investing through tax treaty friendly companies, and the impact will only be on the fledgling domestic venture capital industry which any way represents only a small fraction of the total investments.
The Government proposes to restrict the pass through to VC funds operating only in half a dozen areas specified by government. This measure is flawed on two counts. Firstly, nowhere in the world does government seek to be clairvoyant and direct in which areas of innovation venture capital are allowed to operate. This is an issue best left to entrepreneurs and people who are willing to invest in them. As an example, if government had drawn up such a list two decades ago, computer software would not have been on it. This list has some obvious, inexplicable exclusion such as telecom, value added services in the wireless arena, media, etc. But the main point is that no one, certainly not government, is competent to draw up a list of what are the promising areas of tomorrow. If the government’s intention was to exclude a specific sector then that would have been better though not still a good, approach.
The second issue comes from Government implying that the tax pass through represents some sort of incentive. The fact is that the pass through only eliminates double taxation. Worldwide, it is a standard practice that venture capital funds are not taxed twice and considered pass through vehicles, with the tax being paid in the hands of investors. In fact, in most countries such pass through is routinely available to any pool or group of investors even if they do not represent a registered venture capital fund. Even in India, any non corporate vehicle, such as a partnership, is not taxed twice.
Section 10 (23FB) and Section 115U were introduced precisely to bring this treatment on par with rest of the world and as a result venture capital investments in India grew from a billion dollars in 2000 to USD 7 bn. last year, representing perhaps the biggest single element of FDI but equally creating several new enterprises and enabling existing Indian companies to have the funds for foreign acquisitions.
The recent proposal by finance ministry has been widely criticized and is expected to further dampen the growth of entrepreneurship and startups as recent provisions will choke domestic funds and will further dry the avenues available to local entrepreneurs who any way don’t get much support due to lack of well developed venture fund industry.
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