Startups in India often face a tangled web of compliance and taxation, especially when it comes to raising funds from foreign investors. However, the Central Board of Direct Taxes (CBDT) has offered a much-needed relief to recognised startups. In a recent clarification, the CBDT confirmed that startups approved by the Department for Promotion of Industry and Internal Trade (DPIIT), and compliant with the necessary declarations, will not face scrutiny under Section 68 of the Income-tax Act, 1961, for foreign investments.
This clarification is a major development for India’s startup ecosystem, as Section 68 has often been a source of concern and confusion for entrepreneurs raising funds from overseas investors.
What is Section 68?
Section 68 of the Income-tax Act, 1961 deals with “unexplained cash credits.” If an assessee receives any amount in their books of accounts and fails to provide a satisfactory explanation about the nature and source of the funds, the income-tax department treats it as income and taxes it accordingly. In recent years, tax authorities have used this section to scrutinize foreign investments, especially when startups couldn’t provide detailed documentation about investors.
The CBDT’s Recent Clarification
The CBDT, through its official X (formerly Twitter) handle, stated that startups recognised by DPIIT and compliant with Notification No. G.S.R. 127(E) dated February 19, 2019, will not face scrutiny under Section 68. These startups must file the required declaration in Form-2 to qualify for exemptions.
“Recognised startups that fulfil the conditions laid down in Notification No. G.S.R. 127(E) of DPIIT dated February 19, 2019, and file declaration in Form-2, are eligible for various tax exemptions and deductions under the Income-tax Act, 1961. Investments made in such companies are eligible for benefits and are not subject to scrutiny,” said the CBDT.
This statement came in response to a post by tax lawyer Ajay Rotti, who had flagged concerns regarding tax notices served to startups for foreign funding routed via Singapore. In his podcast and online posts, Rotti referred to a Business Standard report that mentioned the income-tax department invoking Section 68 to demand documentation from investors for funding received over the past five years.
Why This Matters for Startups
Raising funds is essential for any startup to scale and grow. However, excessive scrutiny can discourage foreign investors and derail the fundraising process. Entrepreneurs have consistently raised concerns that applying Section 68 to legitimate foreign investments could increase litigation and delay crucial funding.
By clarifying that startups recognised by DPIIT and compliant with rules will not be targeted under Section 68, the government is assuring the ecosystem of a more stable and predictable tax environment. This move boosts confidence among entrepreneurs and investors alike.
However, this exemption only applies to startups that fulfil all the eligibility criteria. Any startup that fails to meet the conditions or does not submit the Form-2 declaration can still face examination under the risk management strategy of the tax department.
DPIIT Recognition and Form-2: What Startups Must Do
To qualify for the exemption, startups must:
- Be recognised by DPIIT under the guidelines issued by the government.
- Comply with Notification No. G.S.R. 127(E) dated February 19, 2019, which outlines the eligibility criteria.
- File Form-2 with the CBDT, declaring that the company complies with all necessary conditions.
Startups that follow this process will enjoy exemptions from scrutiny under Section 68 for foreign investments. These exemptions form part of the broader package of benefits that the government offers under the Startup India initiative.
Risk Remains for Non-Compliant Companies
The CBDT made it clear that companies not meeting the necessary conditions do not enjoy the same protection. The tax department can examine these cases based on its risk management strategy. In other words, while compliant startups get relief, others may still face questioning.
This means that startups must take compliance seriously. Recognised status and timely filing of Form-2 are not optional—they are essential for avoiding unnecessary trouble with tax authorities.
Industry Experts React
Tax professionals and startup founders welcomed the CBDT’s statement but urged the government to streamline the compliance process further. Several experts believe that past scrutiny of foreign investments under Section 68 created confusion and deterred genuine investors.
“While this is a welcome move, we need more consistent and proactive communication from tax authorities,” said a startup tax consultant. “Startups operate under immense pressure. Clear, forward-looking policies make a huge difference.”
Ajay Rotti, who initially raised the issue, acknowledged the clarification but also emphasized that enforcement must align with policy intent. “Just having rules on paper is not enough. Implementation matters. We need tax officers to follow this guidance on the ground.”
A Larger Signal of Policy Stability
The CBDT’s clarification sends a broader message. India wants to support its startup ecosystem and ensure that taxation does not become a barrier to growth. The government is actively working to reduce friction for entrepreneurs and investors.
In a broader policy context, this move aligns with the government’s objective to attract foreign capital, promote innovation, and position India as a global startup hub. By exempting compliant startups from burdensome scrutiny, the government is creating a more favourable investment environment.
Government Clarifies: No GST on UPI Transactions Over ₹2,000
In a separate but related financial development, the Ministry of Finance dispelled rumours about a supposed proposal to impose Goods and Services Tax (GST) on UPI transactions exceeding ₹2,000.
Several reports had circulated suggesting that the government planned to levy GST on high-value UPI payments. The ministry categorically denied these claims.
“The claims that the government is considering levying GST on UPI transactions over ₹2,000 are completely false, misleading and without any basis. Currently, there is no such proposal before the government,” the Ministry of Finance said in an official statement.
The ministry added that GST applies only to service fees such as the Merchant Discount Rate (MDR), which has been waived for person-to-merchant UPI transactions since January 2020. Since there is no MDR on these transactions, there is also no GST applicable.
Conclusion
India’s startup ecosystem received a significant boost with the CBDT’s clarification regarding foreign investment scrutiny. Startups recognised by DPIIT and compliant with the required declarations now have clarity that they won’t face questioning under Section 68 of the Income-tax Act.
This development reduces uncertainty for investors and sends a strong signal that the government stands behind its startup-friendly policies. At the same time, startups must ensure they meet all conditions to enjoy these benefits.
In parallel, the Finance Ministry’s clarification on UPI transactions reinforces the government’s commitment to supporting digital payments and avoiding additional burdens on consumers and merchants.
Together, these announcements underline the government’s intent to create a business environment that is transparent, growth-oriented, and investor-friendly.
Great news for India’s startup ecosystem! This move by CBDT is a much-needed relief and will go a long way in encouraging innovation and entrepreneurship. Recognizing DPIIT startups and shielding them from unnecessary scrutiny is the kind of clarity the ecosystem needed!