Note for Reforms in Start-ups

Government- Focus Points for Startups
1. Level Playing Field for Domestic Funds to Increase Capital Infusion in Startups
a. SEBI to Take a More Practical Approach to AIF Regulations
• The current regulatory framework for AIFs places them on par with mutual
funds, which is impractical given their distinct investment nature.
• SEBI should engage in deeper consultations with industry participants before
introducing new regulations.
• The over-regulation of AIFs discourages new funds from setting up in India and
hampers the flow of domestic capital into startups.
b. AIF Overseas Investment Limits: Practical Reforms Needed
• The current restrictions by RBI and SEBI on AIFs investing overseas disrupt
portfolio construction and affect end investors.
• Proposed Reform: Allow existing AIFs to maintain their overseas investment
limits. If needed, restrictions can be applied only to new AIFs, without disrupting
existing portfolios.
c. Regulatory Stability for AIFs
• SEBI claims that AIFs operate under a "light touch" regulatory regime, but this
isn’t the reality.
• Example: At the 2023 Gatekeepers of Governance event in Mumbai, a SEBI
official stated that 167 circulars were issued in 12 months — almost one every
two days.
• Proposed Reform: The government should aim for regulatory stability to reduce
frequent rule changes that confuse investors.
d. Reduce Compliance Burden on AIFs
• AIFs are consumed by compliance requirements, needing two compliance

executives for every investment team member.
• Capital raised by AIFs has slowed drastically in 2024 compared to 2023 due to
overregulation.
• Proposed Reform: Simplify compliance processes to cut down the red tape and
bring back the red carpet for investors.
2. Simplifying ESOPs for Startups

Current ESOP Taxation Issues (for Startups other than DPIIT-recognized which avail the
ESOP tax deferment benefit)
• ESOPs are taxed twice:

1. At the time of exercise (when the employee buys shares):
§ Taxed as perquisite income under Section 17 of the Income Tax
Act.
§ The difference between the fair market value (FMV) of the shares
and the exercise price is taxed as salary income, with rates going
up to 42%.
2. At the time of sale (when the employee sells the shares):
§ The employee is taxed on capital gains.
§ Long-term capital gains tax is 12.5 % and short-term capital
gains tax is 20%.
Proposed Reforms:
• Extend the benefit to all start-ups

• Defer taxation to the point of sale, when the employee actually realizes cash
from selling the shares.
• Allow ESOPs to be issued to non-employees (e.g., consultants), similar to US-
based companies. This will help startups retain cash and attract top talent.
3. Simplification of Compliance and Regulations

Proposed Reforms:
• Single Window Clearance:

o Introduce a single platform for startups to manage all approvals (tax,
licenses, GST, etc.) to reduce administrative burdens.
• Reduce Frequent Reporting:
o Simplify GST filing requirements to quarterly filings instead of monthly.
• Decriminalization of Minor Offenses:
o Remove criminal penalties for minor compliance issues in business
laws.
• Do Away with Valuation Reports:
o Valuation reports should be made optional, especially since angel tax has
been removed. These reports add unnecessary costs without providing
any benefit.
• Relax Labour Law Compliance for the First 3 Years:
o Unify labour registrations and ease compliance requirements for
startups in their initial stages.
4. Streamlining the Process for Startup Closure

Current Issues:
1. Time-Consuming Liquidation Process:

o Closing a startup can take 12-24 months if it is insolvent or has liabilities.
o Founders must comply with Companies Act provisions and undergo
voluntary liquidation under IBC.
2. Multiple Approvals Required:
o Founders need clearances from multiple departments (MCA, GST, IT, PF,
banks), causing delays.
3. Pending Tax Filings:
o Even if a startup has no liabilities, past tax filings must be cleared before
exit.
4. High Costs and Complexity:
o Legal and administrative costs are prohibitively high, making it expensive
for founders to close down.
Proposed Reforms:
• Introduce a Fast-Track Exit Process:

o Allow startups with no liabilities to close within 30-45 days.
• Unified Digital Portal for Closure:
o Build a single portal for all required clearances.
• Simplify Tax Clearance Processes:
o Introduce automatic tax clearances for startups with no outstanding
liabilities.
5. Talent Development and Retention

Proposed Reforms:
• Launch Startup-Specific Skilling Programs:

o Focus on emerging technologies like AI, blockchain, IoT, and
cybersecurity.
• Simplify Visa Policies for Global Talent:
o Streamline visa processes for foreign talent, similar to Singapore’s Tech
Pass.
• Promote Entrepreneurship Programs in Universities:
o Collaborate with universities and colleges to promote entrepreneurship
as a viable career path.
6. Relaxing the Definition of Startups and Addressing Compliance Hurdles
The current definition of a startup and the associated eligibility criteria to avail
government benefits need to be relaxed. While initiatives like tax holidays, funding
support, and ease of doing business are in place, the real benefits remain inaccessible
due to complex compliance requirements. The regulatory frameworks, including
criteria for DPIIT recognition, turnover limits, and incorporation timelines, pose
significant hurdles, particularly for startups in sectors with long gestation periods, such
as deep-tech, hardware, and impact-driven ventures.
Startups should be allowed to avail benefits irrespective of turnover timelines or age
limits, provided they are creating significant innovation or employment. Moreover,
compliance requirements should be simplified to ensure that early-stage founders
focus on building products rather than navigating bureaucracy.
7. Digital Infrastructure and Tech Adoption to Help Startups

Proposed Reforms:
• Expand BharatNet Project:

o Ensure fiber-optic connectivity to rural areas and startup hubs.
• National AI and Blockchain Infrastructure:
o Establish government-backed AI compute cloud and blockchain
sandboxes for startups.
• Open Data Access:
o Provide startups with access to government datasets for sectors like
agriculture, healthcare, and logistics.
• Incentivize Cloud and SaaS Adoption:
o Offer subsidized cloud services and SaaS credits for startups to reduce
operational costs.
8. Dematerialization of Shares: Key Challenges & Recommended Reforms

Current Challenges:
• Delays and Inefficiencies at Depositories:

o CDSL and NSDL face delays in processing share dematerialization,
transfers, and pledges.
o Share transfers, exits, and fundraising transactions are often delayed due
to inefficient processes.
Proposed Reforms:
• Mandate Faster Processing Timelines:

o Ensure demat requests are processed within 48 hours.
• Digitize Pledge Creation and Release Processes:
o Implement end-to-end digital processes to reduce manual
intervention.
• Standardize Processes Across Depository Participants (DPs):
o Ensure uniform documentation and SLAs across all DPs to prevent
inconsistencies.
9. Strengthen Support for AI Startups through Funding, Policy Reforms,
Infrastructure, Talent Development, and Regulatory Measures
• Launch a National Deep Tech Startup Fund -The Indian government should create
a dedicated fund to provide both early-stage and growth capital to AI and deep tech
startups, fostering innovation and scaling opportunities.
• Establish AI Innovation Hubs in Tier-2 and Tier-3 Cities - To decentralize AI
innovation, the government should invest in setting up AI hubs across smaller cities,
promoting inclusive growth beyond metropolitan regions.
• Introduce a National AI Talent Development Program- To bridge the talent gap, a
structured national program is needed to upskill the workforce and prepare them to
meet the increasing demand for AI professionals across industries.
• Offer Tax Incentives for AI R&D - The government should introduce tax benefits for
startups investing in AI research and development, encouraging long-term innovation
and competitiveness in the AI ecosystem.

Note for Reforms in Start-ups

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Note for Reforms in Start-ups

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Government- Focus Points for Startups

b. AIF Overseas Investment Limits: Practical Reforms Needed

c. Regulatory Stability for AIFs

d. Reduce Compliance Burden on AIFs

• AIFs are consumed by compliance requirements, needing two compliance

2. Simplifying ESOPs for Startups

• ESOPs are taxed twice:

• Extend the benefit to all start-ups

3. Simplification of Compliance and Regulations

• Single Window Clearance:

4. Streamlining the Process for Startup Closure

1. Time-Consuming Liquidation Process:

• Introduce a Fast-Track Exit Process:

5. Talent Development and Retention

• Launch Startup-Specific Skilling Programs:

6. Relaxing the Definition of Startups and Addressing Compliance Hurdles

7. Digital Infrastructure and Tech Adoption to Help Startups

• Expand BharatNet Project:

8. Dematerialization of Shares: Key Challenges & Recommended Reforms

• Delays and Inefficiencies at Depositories:

• Mandate Faster Processing Timelines:

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