India: Startups.v2 – DIPP Relaxes The Definition And Process For Recognition As A Startup

Introduction

In January 2016, the government rolled out the 'Startup India Action Plan' towards its ambitious 'Startup India-Stand Up India' manifesto. It laid out several incentives and benefits to encourage entrepreneurship within the country. Consequently, the Department of Industrial Promotion and Policy (DIPP) vide its notification dated 17 February 2016 (2016 Notification) defined 'startups' for the first time, laid down the eligibility criteria for an entity to qualify as a startup including for availing tax benefits, and the process for recognition or registration of startups to avail the incentives provided by the government.

However, in spite of several such initiatives, the startup ecosystem in India has not taken-off as expected. This was largely due to excessive regulatory and bureaucratic intervention, with innovation being the primary criteria for qualifying as a startup, the lack of clarity on whether the innovation criteria was to be tested on a domestic or on a global platform. These shortcomings led the government to re-assess and re-consider the 2016 Notification. Accordingly, in supersession of the 2016 Notification, the government released a notification dated 23 May 2017 (2017 Notification), which has re-defined startups, relaxed the eligibility criteria and the recognition process for startups.

A brief comparative table below outlines the changes.

Heads Startup – 2016 Notification Startup – 2017 Notification
Definition An entity will be considered as a 'startup':
  1. that is not more than 5 years old;
  2. the annual turnover (as defined in the Companies Act, 2013) of which has not exceeded INR 25 crores in any previous financial year;
  3. is working towards innovation, development, deployment or commercialization of new products, processes or services driven by technology or intellectual property;
An entity will be considered as a 'startup':
  1. that is not more than 7 years old from the date of its incorporation/ registration.

    An exception has been introduced specifically for startups in the biotechnology sector, in which case the period shall be up to 10 years from the date of its incorporation/ registration;
  2. No change in annual turnover.
  3. 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.
Yardstick for innovation for tax benefits A business will be covered under the definition of 'startup' only if it aims to develop and commercialize new products, services, or processes, or significantly improve existing products, services, or processes, resulting in creation or addition of value for the customers or the workflow. The mere act of developing products, services, or processes which: (a) do not have the potential for commercialisation; (b) are undifferentiated; or (c) have no or limited incremental value for customers or workflow, would not be covered under the definition of 'startup'. The criteria (a) to (c) of 2016 Notification remains the same.

In addition, it is provided that innovativeness shall be considered from a domestic standpoint.
Entity structure Private limited company, registered partnership firm, or limited liability partnership. Private limited company or limited liability partnership provided such entity is incorporated on or after the 1 April 2016 but before the 1 April 2019.
Structuring An entity formed as a result of splitting up or reconstruction of an existing business will not be recognised as a startup. No change
Process for recognition A startup was required to apply for recognition through the mobile app/ portal of the DIPP with any of the following documents:
  1. a recommendation from an incubator established in a post-graduate college in India, with regard to the innovative nature of its business;
  2. a recommendation / support letter from an incubator recognized / funded by the Government, with regard to the innovative nature of its business;
  3. a letter of funding of at least 20% equity by an incubation fund, angel fund, private equity fund, accelerator, or angel network duly registered with the Securities and Exchange Board of India (SEBI), and which endorses the innovative nature of such startup's business;
  4. a patent filed and published in the Indian Patent Office in connection with its business; or
  5. a letter of funding by the Government as part of any specified scheme to promote innovation.
The process of recognition as a 'Startup' will be through an online application made over the mobile app/ portal set up by the DIPP.

The recommendation / support letters as required under 2016 Notification have been done away with. These were infact seen as major hurdles and excessive regulatory intervention.

The process has been fairly simplified now and self-certification has been introduced. Entities will now be required to submit the online application along with the certificate of incorporation/ registration and other relevant details as may be sought.

Further, startups also have to submit a write-up 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.
Tax Benefits Eligibility Startups will be eligible for various tax benefits only upon obtaining a certification from the Inter-Ministerial Board (IMB) to be set up by the DIPP. No change
Penalty / Revocation If the recognition was found to be obtained without uploading the documents / forged documents, the concerned applicant was liable to a fine of 50% of paid up capital of the startup which shall not be less than INR 25,000. The prescribed monetary penalty has been abolished. However, DIPP reserves the right to revoke the recognition certificate and certificate of an eligible business for tax benefits immediately without any prior notice or reason in such cases.

Comment

As per DIPP's recently released progress report, until 15 May 2017 the DIPP gave recognition to around 1,006 start-ups. However, until date, only 23 startups have been recognized for tax benefits by the IMB. With the relaxed definition of a startup, innovativeness to be considered within India only and the self-certification regime for recognition, it is expected that more start-ups would be recognized for tax benefits. However, there are some concerns regarding the 2017 Notification. The emphasis on job and wealth creation may not really help tech-startups since most of them have lean structures and cost constraints in the initial years of business. Further, not all startups would be able to provide a future plan in terms of people to be hired in the long run. While the enhanced time limit of 7 years to qualify as a start-up is encouraging, however, the relaxation could have been extended to certain other sectors with a long gestation period, in addition to biotech start-ups. While the government's intent and efforts towards job creation and economic and technological growth are definitely reassuring for the entrepreneur ecosystem in the country, more needs to be done on the ground level to get this initiative moving.

The content of this document do not necessarily reflect the views/position of Khaitan & Co but remain solely those of the author(s). For any further queries or follow up please contact Khaitan & Co at legalalerts@khaitanco.com

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