September 2023 / India

The Central Board Of Direct Taxes (CBDT) has issued a notification amending the valuation rules (rule 11UA of the Income Tax Rules, 1962) for investment in equity shares of a closely held company for the purpose of section 56(2)(viib) of the Income Tax Act, 1961 (the Act). This section provides that if the consideration for the issue of shares in a closely held company exceeds the fair market value (FMV) of the shares, the excess will be taxable (also known as "angel tax").

Specifically, the notification provides that where an investment is made by an Indian tax resident, unquoted equity shares may be valued as per the different methods provided below, at the option of the taxpayer:

• net asset value (NAV) method;
• discounted cash flow (DCF) method;
• FMV of the equity shares to the extent it does not exceed the aggregate investment received, in the case of investments made by a venture capital fund (VCF) or a venture capital company (VCC) or a specified fund in unquoted equity shares of the venture capital undertaking (VCU), provided the consideration is received within 90 days before or after the date of issue of shares; and
• FMV of the equity shares to the extent it does not exceed the aggregate investment received, in the case of investments made by an entity notified by the CBDT, provided the consideration is received within 90 days before or after the date of issue of shares.

Further, the notification provides that where an investment is made by a non-resident taxpayer, unquoted equity shares may be valued as per the different methods provided below, at the option of the taxpayer:

• all methods applicable to a resident taxpayer; and
• FMV determined by a merchant banker under any of the following methods: (i) comparable company multiple method; (ii) probability weighted expected return method; (iii) option pricing method; (iv) milestone analysis method; (v) replacement cost methods.

Compulsorily convertible preference shares (CCPS) issued by a company may be valued as per any of the aforesaid methods other than NAV method.

For the purpose of valuation, the taxpayer may consider the valuation date as per the valuation report of the merchant banker provided it is dated not more than 90 days prior to the date of issue of shares.

Finally, the notification provides for safe harbour rules whereby the issue price of shares will be considered as FMV if the consideration received does not exceed 10% of the value of shares arrived as per:

• NAV, DCF methods for a resident taxpayer; and
• NAV, DCF, merchant banker valuation methods for a non-resident taxpayer.