The upcoming budget is a great opportunity for the Government of India (GoI) to provide a booster shot to an economy that is recovering from the travails of the demonetisation exercise.
While the GoI may attempt to soothe the general public by offering sops and tax cuts, it needs to consider offering a better tax environment for long term investments in India.
Often the focus has been to ensure that investors in listed securities are not impacted given the immediate impact on currency flows and stock market levels. But, GoI needs to re-evaluate the importance of investor capital into unlisted companies and businesses.
Long term investment in unlisted operating businesses in manufacturing and services sector promote capital asset formation and creation of jobs in the economy. A large source of this capital is from venture funds, private equity funds and other such long term investors.
Unfortunately, the tax treatment offered to such growth capital is step motherly at best. While long term capital gains (LTCG) for sale of securities on the stock exchange are exempt, the rate of tax levied on sale of shares of unlisted companies is 20% (subject to indexation benefit).
There is sufficient merit to warrant a limited tax exemption for long term capital gains on investments in securities of certain classes of smaller companies.
As with any major business economy small businesses in India employ a significant portion of the working population. With the help of growth capital if these businesses can increase their scale and operations, there would be a corresponding increase in the GDP.
Some thresholds that could be considered for providing the LTCG exemption are; investments in securities of operating businesses, below a certain turnover (for e.g. INR 100 crore), gross block assets etc., should be exempt from long term capital gains tax provided the investment has been held for a continuous period of 4-5 years. The LTCG exemption should be available to the investor irrespective of the turnover or size of the company at the time of exit by such investor.
Most of the investment that is deployed in such growth companies usually has an investment duration in excess of 4 years. The exemption should be available to all investors irrespective of their country of origin.
An exemption of this nature would allow businesses with a need for growth capital to attract long term investment. It will allow start-ups to easily source angel investments, venture capital, private equity and all other forms of growth capital needed by them to grow exponentially.
The rapid pace at which private capital can assist domestic companies in scaling up and increasing value would have manifold gains for the Indian economy. A move of this nature, will also provide a boost to the 'make in India' initiative of the GoI.
The existing small manufacturing businesses would be able to attract investor capital to significantly build up their operations. The GoI has shown its resolve to take radical enforcement measures by embarking on the demonetisation exercise; it is high time the GoI demonstrates its ability to undertake radical liberalisation measures as well.
Ajay Joseph - Partner, Lakshmikumaran & Sridharan (views expressed by the author are personal and do not reflect views of the firm or any of its other members.)