When you raise your first equity round from angel investors, you will almost certainly issue shares at a price far above their book value, because investors are paying for future potential, not current assets. For more than a decade, that gap created a strange tax risk in India known as angel tax. The good news is that this tax has now been abolished for every investor. This lesson explains what angel tax was, how DPIIT recognised startups escaped it, and what changed under the 2024 Budget, so you understand the history behind the compliance you may still hear about.
What angel tax was
Angel tax came from Section 56(2)(viib) of the Income Tax Act, 1961, introduced by the Finance Act, 2012. It applied to closely held companies, which for practical purposes means most private limited startups. When such a company issued shares to a resident investor at a price higher than the fair market value (FMV) of those shares, the excess was treated as income from other sources in the hands of the company and taxed at roughly 30 percent, plus surcharge and cess.
The nickname stuck because the tax mainly hurt startups raising from angel investors. A young company has few tangible assets, so its FMV under the tax rules is low, but an angel pays a premium for the idea and the team. Tax officers often rejected the discounted cash flow valuations founders relied on and demanded tax on the difference. The Finance Act, 2023 widened the problem by extending Section 56(2)(viib) to money received from non-resident investors too, so even foreign funding could trigger it.
How DPIIT startups were exempted
To protect genuine startups, the government allowed an exemption for companies recognised by the Department for Promotion of Industry and Internal Trade (DPIIT). A recognised startup could claim immunity from Section 56(2)(viib) by filing a declaration in Form 2 with DPIIT, which was forwarded to the Central Board of Direct Taxes (CBDT).
The exemption came with conditions. The main ones were:
- The aggregate of paid-up share capital and share premium after the proposed issue could not exceed Rs 25 crore.
- The startup could not invest the funds in certain assets, such as land and buildings not used for its business, loans and advances, or shares and capital contributions in other entities, for seven years from the end of the financial year in which the shares were issued.
This helped many founders, but it added paperwork, and any company that missed recognition or breached a condition stayed exposed.
Abolition from Assessment Year 2025-26
In the Union Budget presented on 23 July 2024, Finance Minister Nirmala Sitharaman announced the abolition of angel tax for all classes of investors. The Finance (No. 2) Act, 2024 inserted a proviso so that Section 56(2)(viib) does not apply from Assessment Year 2025-26. Because that assessment year covers the income of financial year 2024-25, the relief reaches share issues made on or after 1 April 2024. From then on, the premium above FMV is no longer taxed.
The relief is universal. It is not limited to DPIIT recognised startups, and it covers both resident and non-resident investors. The valuation disputes and the Form 2 route that shaped startup fundraising for years no longer apply to this particular tax.
What this means for you
As a first-time founder, the practical takeaways are simple:
- You can raise equity at a premium valuation without worrying about Section 56(2)(viib), regardless of your DPIIT status.
- DPIIT recognition still matters for other benefits, such as the income tax holiday under Section 80-IAC, self-certification of compliances, and public procurement relaxations, so continue to pursue it.
- Abolition does not remove other valuation rules. For foreign investment you must still price shares at or above fair value under FEMA pricing guidelines and report the allotment to the RBI in Form FC-GPR, generally within 30 days of allotment.
In short, one of the biggest tax headaches for Indian startups is gone, but you should still keep clean valuation reports and file your other allotment paperwork on time.