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RBI lends a hand for Start-up India

Finsec Law Advisors

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In line with the government’s Start-up India initiative, RBI, on February 2, 2016, announced various regulatory relaxations proposed to be made, in consultation with the government, to ease doing business and contribute to an ecosystem that facilitates growth of start-ups. The focus has been on relaxing norms for overseas investors in order to make it easier for them to transfer their holdings in Indian start-ups. Easier exit norms are intended to encourage other foreign investors to invest in Indian start-ups. The two key changes are as follows:

  • Foreign venture capital investment: Start-ups would be allowed to receive foreign venture capital investment irrespective of the sector they are in; Foreign Venture Capital Investors (FVCIs) would be explicitly allowed to transfer shares to residents or non-residents. Currently, only Venture Capital Funds and Indian Venture Capital Undertakings are eligible to raise foreign venture capital investments and automatic approval is available to FVCIs to invest only in 9 specific sectors.
  • Transfer of Ownership of Start-ups: It would be permissible to receive the consideration amount on a deferred basis, and have escrow or indemnity arrangements up to 18 months

Additional proposals are being considered in order to (i) permit start-ups to access rupee loans under the External Commercial Borrowing framework with relaxations in respect of eligible lenders; and (ii) facilitate the issuance of innovative FDI instruments like convertible notes by start-ups. Clarifications have also been issued by RBI regarding issuance of sweat equity. Indian companies are permitted to issue equity shares against funds payable by an investee company (e.g. payments for import of goods, consultancy fees), which can be remitted without prior permission of the government or RBI, subject to the FDI policy and applicable tax laws.

These measures are intended to create an enabling framework whereby start-ups can raise capital at low cost and without excess dilution of equity, have access to foreign loans, structure deals in a flexible manner, and improve investor participation. Although these changes have been welcomed by entrepreneurs as well as investors, certain changes such as relaxations in capital gains tax on start-up investments may be a huge booster. The changes proposed by RBI definitely address some of the issues faced by Indian start-ups; however, these alone would not be sufficient to bring the disruptive change that one would like to see.