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The objective of preparing this guide is to give an insight about Start-ups, its various stages, about Start-up India Scheme, the process of recognition, funding options for start-ups and the benefits of being a Start-up. The document also covers the basic compliances to be undertaken under various acts like Companies Act, 2013, Income Tax Act, 1961, labour laws and environmental laws etc. Preface
|1.2 Regulatory approvals
1.3 Stages of Start-up
|2||Funding of Startups|
|2.1 Funding options at different stages|
|2.2 Instruments to raise funds|
|2.3 Agreements to be entered by Startups|
|3||Benefits of being Startup|
|3.1 Promotion schemes|
|3.2 Tax benefits|
|3.3 Relaxations, incentives and self-certification under various acts|
|3.iv Government tenders|
|3.4 Monetary benefits|
|4||Annual compliances to be complied|
|4.i Companies Act, 2013|
|4.ii Under Taxation.|
What is a Start-up?
A Start-up is a young company founded by one or more entrepreneurs to develop a unique product or service and bring it to market. By its nature, it is beginning to develop and grow, is in the first stages of operation, and is usually financed by an individual or small group of individuals.
An entity shall be considered as a Startup:
- Up to a period of ten years from the date of incorporation/ registration as private limited company or Partnership firm or as Limited Liability Partnership.
- Turnover of the entity for any of the financial years since incorporation / registration has not exceeded 100 crore rupees.
- Entity is working towards innovation, development or improvement of products or processes or services, or if it is a scalable business model with a high potential of employment generation or wealth creation.
Provided that an entity formed by splitting up or reconstruction of an existing business shall not
be considered a ‘Startup’.
Startup India Scheme:
Startup India Scheme is an initiative by the Government of India for generation of employment and wealth creation. The goal of Startup India is the development and innovation of products and services and increasing the employment rate in India. Under this scheme eligible companies can get recognized as Startups by DPIIT, in order to access a host of tax benefits, easier compliance, IPR fast-tracking & more.
Recognised Start-up: Any start-up which is recognised as a start-up by Department for Promotion of Industry and Internal Trade (DPIIT).
Department for Promotion of Industry and Internal Trade (DPIIT):
DPIIT is the nodal Department in Government of India for coordinating and implementing programmes with the United Nations Industrial Development Organization (UNIDO) in India. Herein referred as Board.
Procedure to get status as recognised start-up:
- The process starts with registration on the website - https://www.startupindia.gov.in with details which are Entity Name, Email ID and mobile number. It is preferred to give permanent email id and mobile number as the process to change the email id or mobile is tedious and time consuming. It involves submission of application similar to startup registration application and time it takes is equal to the time taken for startup registration.
- A detailed profile of the Company shall be created on the abovementioned website giving requisite details of the entity, entity logo, nature of entity, industry, category to be selected from drag drop menu.
- A Startup shall make an online application over the mobile app or portal set up by the Department for Promotion of Industry and Internal Trade (DPIIT) post updating of profile on the website.
- The application shall be accompanied by
- a copy of Certificate of Incorporation or Registration, as the case may be, and
- a detailed note about the nature of business highlighting how it is working towards innovation, development or improvement of products or processes or services, or its scalability in terms of employment generation or wealth creation.
- The DPIIT may, after calling for such documents or information and making such enquires, as it may deem fit, recognize the eligible entity as Startup or reject the application by providing reasons.
1.2 REGULATORY APPROVALS
Following regulatory approvals are required:
- In order to get status as recognised start-up, application should be made to Department for Promotion of Industry and Internal Trade
- In order to avail tax incentives under section 56 (2) (vii b) or under section 80IAC of Income Tax Act, 1961 application should be made in prescribed form.
1.3 STAGES OF START-UP
No matter how an entrepreneur decides to conduct their business, the ultimate goal remains the same i.e., to make the company big. But this does not happen overnight. It has to undergo various phases.
Ideation is all about generating ideas coupled with mindset of good visionary. A great visionary can foresee the future and grab the opportunities. No business can thrive without the discovery of a great idea. Idea needs to undergo proper development to transform into a successful business venture.
It means building a Minimum Viable Product (MVP). This is the stage where you begin to get the word out about your product and gain your first customers. Here you find out whether or not your company is truly viable.
c. Early Traction:
Traction means having a measurable set of customers or users that serves to prove to a potential investor. Most entrepreneurs mistake traction for growth. your startup will attract more investors if it has greater evidence of traction. With more investors, your company will get more funds and a bigger network, both of which will help your startup grow.
This is also called growing stage. Entrepreneurs have to optimize marketing strategies to efficiently pull in customers and generate sustainable profits.
2. FUNDING OF START-UPS
Every start-up, irrespective of the nature and size of operations, requires funds to convert its innovative ideas into reality. Most of the Start-ups generally fail because of their inability to raise sufficient funds. Finance is one of the most important media to keep your business going at every stage.
For taking your start-up to the next level, you should know which stage of funding you want to go for and for what purpose. Such decisions made at the right time can be boon for your business.
2.1 FUNDING OPTIONS AT DIFFERENT STAGES
It is an ideal plan of action in the initial stage when it is hard to convince investors of your business idea. Initial round of Bootstrap/self-funding allows you to prove the feasibility of your idea and build confidence to the investors for a further round of funding. This stage involves fewer complexities and documentation, and even your friends and family maybe ready to lend at a cheaper rate. Self-funding or bootstrapping is apt if your start-up requires a little investment earlier.
It means more than one investor is involved and they offer a fixed amount of money based on your business idea, plan of action, and plans of making a profit. All you need to have is people who truly believe in your business idea.
Venture capitalists offer you professionally managed funds who are looking for start-ups that have success potential. The best part about venture capitalists is that they bring in expertise and monitoring system.
There are individuals with surplus cash looking for investment opportunities in promising startups and earn their share once it grows to its potential. They can either work alone or collectively in a network to screen start-ups with huge potential. This funding option has business minds looking to earn interest out of your success and they may expect high equity.
IPO (Initial Public offer):
An IPO can be a great strategy for a business to grow but should be done at right time. IPO is commonly related to ‘going public’ as the general public now wants to invest in your company by buying shares. So before going to IPO, Start-up should assess its sales, marketing potential, proper business plan with growth orientation. IPO basically helps you grow and diversify in areas of choice. There are risks associated as well if not assessed properly.
2.2 INSTRUMENTS TO RAISE FUNDS
Every promoter of start-up should be clear of why he wants to raise funds and in what stage the start-up is. He should have a detailed financial and business plan before he approaches investors. For example, funding is required for product development, website/app development, Licenses and certifications, Team hiring etc.
Types of Instruments:
a) Direct Equity/Warrants: - Direct equity investing is all about long term growth. When one buys stocks, he/she becomes part-owners in that company. This way one becomes eligible to share both profit & loss made by company. Investors prefer equity because no other investment option promises long term growth as high as equity.
If the promoter is confident about valuation of companies, projected revenue, then he can go for direct equity or issue of warrants. There is risk of dilution of ownership in the company.
b) Convertible Notes: - An investor gives money to a start-up in its first round of funding and instead of acquiring shares upfront, he takes convertible shares, which can either be cashed out or converted to equity at a later date (basis some pre-agreed terms). If promoter is not sure of valuation of the company or projected revenue since the Company is at an early stage, then they can issue convertible notes by negotiating terms regarding valuation cap and discount cap.
Structure and form of convertible Notes:
These are debt instruments that are convertible into equity at the option of the holder or upon specific trigger events, most typically the company’s next equity fund-raising round.
Unlike other FDI instruments, like Equity Shares or CCPS, pricing guidelines need not to be complied with at the time of issue. However, the conversion of the convertible note into equity as well as the transfer from a non-resident to a resident investor must be in accordance with the pricing guidelines. The price of shares issued upon conversion must be at or above fair market value, determined by a certified chartered accountant or merchant banker.
R.B.I January, 2017 Notification:
In one of many steps being taken for Ease of Doing Business (EODB) and promote F.D.I in start-ups, the R.B.I has permitted “recognized startups” to raise funding through the convertible note route. The RBI has amended the Foreign Exchange (Transfer or Issue of Security by a Person Resident outside India) Regulations, 2000, w.e.f January 10, 2017, to allow “recognized startups” to issue convertible notes to foreign investors.
c) SAFE Notes:
A SAFE note is a convertible security that, like an option or warrant, allows the investor to buy shares in a future priced round. It addresses many of the drawbacks and challenges posed by convertible notes and can be an equitable option for investors and founders. Startups may prefer SAFE notes because, unlike convertible notes, they are not debt and therefore do not accrue interest (though for legal compliance purposes, iSAFE note carry a non-cumulative dividend @ 0.0001%).
Legality of SAFE notes in India:
SAFE notes are popularly known as iSAFEs (Indian Simple Agreement for Future Equity). To comply with applicable Indian law, iSAFE note takes the legal form of compulsorily convertible preference shares (CCPS) which is convertible on occurrence of specified events.
2.3 AGREEMENTS TO BE ENTERED INTO BY START-UPS
It’s essential for every business to enter into agreements irrespective of whether it’s a Start-up or an established business. Agreements are required for smooth flow of business and to protect the interest in the business. Since Start-ups are in budding stage, to have well executed agreements will avoid future adverse consequences which effects the business. Few crucial agreements to be entered are as follows:
a) Term sheet:
A Term Sheet is a non-binding document that outlines the offered terms and conditions under which an investment will be made by an “Angel” or a Venture capital investor. It lays out the terms of financing and collateral.
b) Shareholders and share subscription agreement:
It is a contract between the Company’s initial shareholders that goes beyond the matters addressed in the company’s Articles and set out their agreement on other issues that have the potential of leading to conflicts down the road.
c) Employment agreement for key employees:
This agreement is recommended to govern the relationship between the entity and their employees who are important and involved in core operations of the entity.
It is advised for Start-ups to engage professionals like Company Secretaries or legal professionals for drafting these agreements to avoid vagueness.
3. BENEFITS OF BEING A START-UP
Basically, Startup India Scheme is started with a view to give following:
- Registration Benefits
- Income tax Benefits.
- Huge Networking Opportunities.
- Government tenders.
- Monetary Benefits.
3.1 PROMOTION SCHEMES
Government of India has launched many schemes to boost the start-ups in India. For example
- Start-up India Seed Fund
- ATAL Innovation Mission
- Multiplier Grants Scheme (MGS)
- Single Point Registration Scheme etc.,
3.2 TAX BENEFITS
a) Under section 80 IAC of Income Tax Act, 1961:
Post getting recognition, a Startup may apply for Tax exemption under Section 80IAC of the Income Tax Act, 1961. On getting approval for Tax exemption the Startup can avail tax holiday for 3 consecutive financial years out of its first ten years since incorporation which means the Start-up gets deduction equal to one hundred percent on profits and gains derived from such business for three consecutive assessment years.
Eligibility Criteria for applying to Income Tax exemption (80IAC):
- The entity should be a recognized Startup.
- Only Private limited Company or a Limited Liability Partnership is eligible for Tax exemption.
- The Startup should have been incorporated after 1st April, 2016 but before the 1st day of April, 2022. (Amended by Finance Act, 2021).
Once the eligibility criteria is met, make an application in Form-1 along with documents specified therein to the CBDT (“Board”) through DPIIT portal and the Board may, after calling for such documents or information and making such enquires, as it may deem fit grant the certificate.
Following documents needs to be attached along with the application:
- Annual Accounts for the last three financial years
- Copies of income-tax returns for the last three financial years
b) Under Section 56 (2) (vii b) of Income Tax Act, 1961: (Which deals with the taxability of share premium) As per clause (vii b) of sub-section (2) of section 56, any consideration received by issuing Company (in which the public are not substantially interested) with respect of shares in excess of the Fair Market Value (FMV), to the extent it exceeds the face value of such shares shall be liable to tax.
*Exemption is given to recognized start-up by CBDT vide notification no. 13/2019. *
Startups in order to avail exemptions under section 80 IAC and Under Section 56 (2) (viib) of Income Tax Act, 1961 they have to apply separately after fulfilling the requisite conditions.
Eligibility Criteria for Tax Exemption under Section 56 of the Income Tax Act:
1. The entity should be a DPIIT recognized Startup. (Refer explanations below)
2. Aggregate amount of paid-up share capital and share premium of the Startup after the proposed issue of share, if any, should not exceed INR 25 Crores.
Provided that in computing the aggregate amount of paid-up share capital, the amount of paid-up share capital and share premium of twenty-five crore rupees in respect of shares issued to any of the following persons shall not be included (a) a non-resident; or (b) a venture capital company or a venture capital fund.
3. It has not invested in any of the following assets:
(a) Building or land appurtenant thereto, being a residential house, other than that used by the Startup for the purposes of renting or held by it as stock-in-trade, in the ordinary course of business;
(b) Land or building, or both, not being a residential house, other than that occupied by the Startup for its business or used by it for purposes of renting or held by it as stock-in trade, in the ordinary course of business;
(c) Loans and advances, other than loans or advances extended in the ordinary course of business by the Startup where the lending of money is a substantial part of its business;
(d) Capital contribution made to any other entity;
(e) Shares and securities;
(f) a motor vehicle, aircraft, yacht or any other mode of transport, the actual cost of which exceeds ten lakh rupees, other than that held by the Startup for the purpose of plying, hiring, leasing or as stock-in-trade, in the ordinary course of business;
(g) Jewellery other than that held by the Startup as stock-in-trade in the ordinary course of business;
(h) Any other asset, whether in the nature of capital asset or otherwise, of the nature specified in sub-clauses (iv) to (ix) of clause (d) of Explanation to clause (vii) of sub-section (2) of section 56 of the Act.
Provided the Startup shall not invest in any of the assets specified in sub-clauses (a) to (h) for the period of seven years from the end of the latest financial year in which shares are issued at premium.
After fulfilling above conditions Start-up shall file duly signed declaration in Form-2 to DIPP that if it fulfills the conditions. On receipt of application DPIIT shall forward the same to the CBDT.
Constitution of Startup cell: In order to redress the grievances and to address various tax related issues in the case of Startups, a Startup Cell at the level of CBDT has been constituted on 30th August, 2019. This Startup cell has been given wide publicity and is placed at the public forum so that it remains easily accessible to all kinds of queries from the Startups.”
c) Section 54 EE of Income Tax Act, 1961:
A new section 54 EE has been inserted in the Income Tax Act for the eligible startups to exempt their tax on a long-term capital gain if such a long-term capital gain or a part thereof is invested in a fund notified by Central Government within a period of six months from the date of transfer of the asset. The maximum amount that can be invested in the long-term specified asset is Rs 50 lakh. Such amount shall remain invested in the specified fund for a period of 3 years. If withdrawn before 3 years, then exemption will be revoked in the year in which money is withdrawn.
d) Set-off carry forward losses and capital gains allowed in case of a change in Shareholding pattern:
The carryforward losses in respect of eligible start-ups are allowed if all the shareholders of such company who held shares carrying voting power on the last day of the year in which the loss was incurred, continue to hold shares on the last day of previous year in which such loss is to be carried forward. The restriction of holding of 51 per cent of voting rights to be remaining unchanged u/s 79 has been relaxed in case of eligible startups.
e) Tax exemption to Individual/HUF on investment of long-term capital gain in equity shares of Eligible Startups u/s 54GB:
The existing provisions u/s 54GB allows the exemption from tax on long-term capital gains on the sale of a residential property if such gains are invested in the small or medium enterprises as defined under the Micro, Small and Medium Enterprises Act, 2006. But now this section has been amended to include exemption on capital gains invested in eligible start-ups also.
Thus, if an individual or HUF sells a residential property and invests the capital gains to subscribe the 50% or more equity shares of the eligible startups, then tax on long term capital will be exempt;
Provided such shares are not sold or transferred within five (5) years from the date of its acquisition. The startups shall also use the amount invested to purchase assets and should not transfer asset purchased within five (5) years from the date of its purchase.
3.3 INCENTIVES AND SELF CERTIFICATION UNDER VARIOUS ACTS
a) Relaxations under Companies Act, 2013:
As Startup is initially a private company it can get all the exemptions available to Private Company under Companies Act, 2013. Besides above relaxations there are few other relaxations to specifically given to Startups under the Companies Act, 2013 which are as follows:
Cash flow statement: Startups will no longer be required to include their cash flow statements as part of their financial statements.
Section 73 (Prohibition on acceptances of Deposits): MCA vide notification dated June 13, 2017 has exempted start-up to avail limitless loans (deposits) from its members up to 5 years from the date of incorporation.
Section 92 (Annual Return): In case of startups, the annual return can be signed by the director of the company in case the firm does not have a company secretary.
Section 173 (Board Meetings): Startups will now be exempt from holding quarterly board meetings every year. The MCA now allows startups to hold two board meetings in a calendar year, that is, once in six months. The gap between two consecutive board meetings must be at least 90 days.
b) FAST TRACK SETTLEMENT UNDER IBC:
Faster Exit: Ministry of Corporate Affairs has notified Startups as “Fast track firms”. This enables them to wind up operations within 90 days as against 180 days for other companies.
Sections 55 to 58 of the Bankruptcy Code that deal with the fast tracking of corporate insolvency have come into force from June 14, 2017. Pursuant to this, startups that are legally identified as corporate debtors can avail of the fast-track corporate insolvency process.
c) SELF CERTIFICATION UNDER LABOUR AND ENVIRONMENTAL LAWS:
Startups shall be allowed to self-certify compliance with nine labour and environment laws. In the case of labour legislation, no inspections will be conducted for three years. Startups may be inspected on receipt of a credible and verifiable complaint of a violation, filed in writing and approved by at least one level senior to the inspecting officer.
In the case of environment laws, Startups which fall under the ‘white category’ (as defined by the Central Pollution Control Board (CPCB)) would be able to self-certify compliance, and only random checks would be carried out in such cases.
Following are labour Laws where self-certification is allowed:
- The Contract Labour (Regulation and Abolition) Act, 1970.
- The Employees’ State Insurance Act, 1948.
- The Employees’ Provident Funds and Miscellaneous Provisions Act, 1952.
- The Payment of Gratuity Act, 1972.
- The Inter-State Migrant Workmen (Regulation of Employment & Conditions of Service) Act, 1979.
- Building and Other Constructions Workers’ (Regulation of Employment & Conditions of Service) Act, 1996.
Start-ups under this scheme will have to file a self-certified return for the second and third year to continue with the exemption.
d) External Commercial Borrowings (ECB):
RBI vide circular RBI/2016-17/103 A.P. (DIR Series) Circular No. 13 is permitting Startup enterprises to access loans under ECB framework with few conditions. Startups can also raise funds in the forms of loans or non-convertible, optionally convertible or partially convertible preference shares under this framework.
Provisions on leverage ratio and ECB liability to Equity ratio will not be applicable to the start-up.
3.4 GOVERNMENT TENDERS
Everyone seeks to acquire Government tenders because of high payments and large projects. But it is not easy to acquire the government tenders. Under this scheme, the startups get priority in getting government tenders. Also, they are not required to have any prior experience.
3.5 MONETARY BENEFITS
Fast-tracking Patent Examination at Lower Costs:
Most of the startups are patent based. It means they produce or provide unique goods or services. In order to register their patents, they have to incur a heavy cost which is known as the Patent Cost. Under this scheme Startups are eligible for 80% rebate in patent filing fees and 50% rebate in trademark filing fees. Additionally, Startups are also considered for expedited examination of patent applications to reduce time taken in granting patents.
4. ANNUAL COMPLIANCES
Since Start-ups are initially private limited companies all the compliances applicable to the small private companies are applicable to Start-ups. (* In case of company)
4.1 ANNUAL COMPLIANCES UNDER COMPANIES ACT, 2013
i) First Board meeting should be held within 30days of Incorporation.
ii) Minimum two meetings. At least one meeting in each half of calendar year
|Minimum gap between two meetings should be 90 days.|
Annual general meeting should be conducted every year.
|Gap between two AGMs should not be more than 15 months.|
|2||Director’s disclosures||Form MBP-1:
Every Director needs to disclose his interest in other entities in Form MBP-1 in the first Board meeting of every financial year
|Fresh MBP-1 needs to be filed with company, whenever there is change in his interest during the year.|
Every Director of the Company needs to give to the Company declaration that he is not disqualified as per section 164(2) in every financial year.
|It should also be filed at the time of appointment and re-appointment.|
|3||Appointment of Auditor||i) First Auditor should be appointed within 30 days of incorporation in first Board meeting.
ii) Subsequent Auditor is appointed by shareholders in AGM for a period of 5 years.
|Form ADT-1 should be filed within 15 days of appointment.|
|4.||Annual Filings||Directors’ report:
Should disclose all the information required to be disclosed by the small company under Section 134.
|It should be signed by the Chairperson if authorized by Board or it should be signed by at least two Directors.|
Filing of balance sheet along with statement of profit and loss and Directors’ Report with ROC.
|Should be filed within 30 days of holding AGM or due date of holding AGM.|
Annual return should be filed.
|Should be filed within 60 days of holding AGM or due date of holding AGM.|
|5||Return of Deposits||A Return of Deposits has to be filed on a yearly basis with the particulars of deposits and/or outstanding receipt of loan or money other than deposits as per rule 2 (1) (c) of the Companies (Acceptance of Deposit) Rules, 2014||Should file Form DPT-3 on or before 30th June after the end of financial year.|
Apart from the above compliances minutes books of meetings, statutory registers, book of accounts have to be maintained as per the Companies Act, 2013 and rules made there under.
4.2 COMPLIANCES UNDER TAX LAWS
|1||Assessment and periodic payment of advance tax|
|2||Filing of Income tax returns before due date.|
|3||Filing Tax Audit report|
|4||Periodic payment of GST, TDS & TCS|
|5||Filing of GST Returns (Monthly or Quarterly).|
|6||Filings of TDS returns Quarterly|
The entire contents of this document have been developed based on relevant information and are purely for private circulation. Though the authors have made utmost efforts to provide authentic information, however, the authors expressly disclaim all and any liability to any person who has read this document, or otherwise, in respect of anything, and consequences of anything done or omitted to be done by any such person in reliance upon the contents of this document.
Please reach out to [email protected] for any support that you may need on Start-up registration.