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Union Budget and Impact on VCs

Blogger Anindita ( check out her blog..she has a dew fresh writing style) posted a comment asking my thoughts on Chidambaram's tax proposals related to venture capital funds in the new union budget.

I feel VC is like any other business activity and should be taxed. In the US, they have a system of creating transparent entities for taxation purposes, which we don't yet have in India. One could argue that VCs should be given tax exemption because the industry is still in a nascent stage in India. In fact, a number of players in the industry seem to feel that way.

So, there is a confusion here. The FM has listed software and hardware, but not Internet :-) Some people interpret internet ventures as software plays. Definitely, if there is a Software-As-Service (SaaS) venture out there, they could request the pass thru benefit and should get it. But what about B2C plays (Naukri, Bharat Matrimony, 99 Acres and dozens of other such ventures) that have attracted VC funds? If the VC fund makes a killing thru exit or IPO, should it be taxed or not? I think it should be.

However, except for Internet plays, most other sectors still enjoy the tax exemption.But most of the funding seems to happen in the internet space :-)

So, if these proposals see a split in the VC firms - firms dividing themselves into separate entities- one to invest in sectors where there is a pass thru benefit, and the other to focus on taxable sectors, we could hopefully see more traction in sectors that are crying out for angel/seed investment - bio-technology, agri research, nano tech etc.,

However, to encourage micro-funding in all the sectors, Govt could/should allow pass thru benefits to small seed funds (less than $100 mil and no individual investment more than Rs.1 Cr) - this is purely my personal opinion.

Overall, these proposals could see more domestic funds moving to offshore locations like Mauritius.Already, Erasmic is setup there but run from Bangalore.

One thing I don't fully agree with is the proposal to treat ESOPs on par with employee perks and apply FBT (fringe benefit tax).

Here are a couple of posts that discuss this issue in a lot more detail:

Venture Intelligence - Tax proposal 173 in Budget '07-08: Impact on Indian Private Equity

VC Circle - How Budget Would Impact VC Funds: Tax Man's Perspective


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