Section 56(2)(viib) angel tax in 2026: what survived the Budget and what changed

The Finance Act 2024 did something founders had been asking for since 2012. Section 56(2)(viib) — the so-called angel tax provision that taxed share premium received by a closely held company above fair market value as income — was abolished for all classes of investors with effect from AY 2025-26.

Every founder we spoke to in the weeks after the announcement asked the same question: does this mean the notices stop?

It does not. The abolition is prospective. Share issuances that happened in FY 2018-19, FY 2019-20, FY 2020-21, FY 2021-22, FY 2022-23 and FY 2023-24 remain assessable under the old regime. We have at least eleven active matters where the SCN was issued after the Budget announcement, on share issuances that pre-dated the abolition.

What the old regime actually said

Section 56(2)(viib), as it stood, taxed the difference between the issue price of unlisted shares and their fair market value as income in the hands of the issuing company. The FMV had to be computed under Rule 11UA — either the NAV method (book value adjusted) or the DCF method (with a merchant banker or chartered accountant report).

The friction point was rarely the formula. It was the assessing officer's freedom to reject the DCF assumptions. We have seen officers reject projections because actual revenue in year one was 40% lower than projected. We have seen them reject WACC computations because the comparables chosen were 'not in the same line of business'. We have seen them reject terminal growth rates of 4% as 'unrealistic for an early-stage business'.

The DPIIT-recognized startup carve-out, in place since 2019, gave a safe harbour: a DPIIT-recognized entity could exempt itself by filing Form 2 and meeting conditions in the CBDT notification dated 19 February 2019. The exemption was useful, but it did not cover share issuances to non-resident investors, and it required ongoing compliance.

What changed with effect from AY 2025-26

Section 56(2)(viib) ceases to apply to consideration received on or after 1 April 2024 from any person — resident or non-resident, individual or fund, recognized or unrecognized.

The implication is structural. A DPIIT registration is no longer a precondition for premium share issuance. A foreign VC investing at a $80 million post-money no longer needs Form 2. A domestic family office writing a ₹5 crore angel cheque no longer needs a Rule 11UA-compliant valuation report at all — at least not for 56(2)(viib) purposes.

What did not change

Three things continue to apply, and founders keep missing them.

Section 56(2)(x) on the investor side. If the investor receives shares for consideration less than FMV, the differential is taxable in the investor's hands as income from other sources. Sweat equity, ESOP cashless exercises, founder share buy-back-and-reissue arrangements all need to be checked through this lens. The abolition of (viib) did not touch (x).

Rule 11UA valuation for FEMA pricing. Inbound investment from a non-resident still has to comply with the RBI pricing guidelines — fair value determined by an internationally accepted method, certified by a SEBI-registered merchant banker or a chartered accountant. The Income-tax abolition does not change FEMA pricing. We have had two cases in the last six months where the founder assumed the valuation report was no longer needed and ran into an authorised dealer bank refusing to allot shares without it.

Open assessments. Notices issued under Section 143(2) for AY 2022-23 and AY 2023-24 are still being worked through. The abolition is not retrospective and the department is not closing these on a sympathetic reading. The assessment will proceed under the old law for the year in question.

What officers still scrutinise

Even for years where 56(2)(viib) is no longer applicable, we are seeing assessing officers in scrutiny continue to ask for the valuation report. The hook has shifted. They ask whether the issuance was at fair value because they want to test:

the cost of acquisition computation for future capital gains in the investor's hands;

whether the share issuance was a sham transaction routing unaccounted money (a Section 68 question on share premium credit);

whether the investor and the issuer are related parties triggering Section 56(2)(x) on the investor side.

The valuation report is now a defensive document rather than a compliance document. We tell clients to keep getting it, file it with the share allotment record, and produce it on demand. Cost: ₹40,000–₹1,50,000 depending on stage. Cost of not having it during a Section 68 challenge on a ₹20 crore share premium: substantially more.

What founders should do in 2026

Five things, in our standard handover note when a round closes.

First, get the Rule 11UA valuation regardless. The 56(2)(viib) exposure is gone but the FEMA pricing, Section 68 credit defence, and 56(2)(x) investor-side question remain. Belt and braces.

Second, document the negotiation. Term sheet, board minutes recording the valuation rationale, comparable company analysis if one was done by the lead investor. If the assessing officer later challenges valuation, this is the file.

Third, check the DPIIT recognition status separately. If you were relying on DPIIT for the (viib) carve-out, the abolition makes it less central — but DPIIT still gates Section 80-IAC tax holiday, loss carry-forward under Section 79 and other startup benefits. Do not let the recognition lapse.

Fourth, for foreign investor rounds, get the merchant banker valuation report co-signed with the chartered accountant report. Two valuations from two registered professionals using two methods give the bank and the department less to challenge.

Fifth, on legacy years still under scrutiny, prepare for the assessment proactively. Pull the original DCF, get the merchant banker to validate the assumptions retrospectively, and have the response file ready before the SCN deadline closes.

The abolition of angel tax is not a clean slate. It is a forward-dated repeal that leaves five assessment years of exposure on the table. The work in 2026 is finishing those defences, not celebrating.

What the assessment file should contain

For every share issuance pre-abolition where the file is still live, six documents need to be in the cabinet, organised and dated.

The Rule 11UA valuation report from a SEBI-registered merchant banker, with the underlying DCF model in Excel, not just the PDF certificate. The assessing officer will ask to see the model. If only the PDF is available, the AO will challenge the inputs and there is no way to defend.

The board resolution approving the issuance, recording the per-share price and the rationale for that price. If a competing valuation was considered (a strategic investor's term sheet at a different number, an internal NAV calculation), the rationale for choosing the issued price should be in the resolution.

The term sheet, share subscription agreement and share purchase agreement, in their final executed form. The pricing rationale should be consistent across documents.

The Form PAS-3 filed with the MCA, with the allotment date and share count matching the AO's records.

The Form 2 filed with DPIIT (where the carve-out was claimed), with the acknowledgement number.

The pre-money cap table and post-money cap table, signed off by the company secretary at the time.

If any of the six is missing, recreate it now. Memory fades, executives leave, founders forget. The file build is cheaper today than during an assessment hearing two years from now.

Where we end up

For new rounds closing today, the share issuance side of the tax file is meaningfully simpler than it was eighteen months ago. For founders still defending FY 2019 or FY 2020 issuances against an assessing officer who has not read the Finance Act 2024 carefully, the work continues. Both are real. The abolition headline does not match the assessment-file reality, and we are spending more time than we expected explaining the gap.

Six years from the date the file becomes silent is the safe horizon for keeping records. Section 148 reassessment notices can be issued within four years (extended to ten years where escaped income exceeds ₹50 lakh) from the end of the relevant assessment year. Most founders we work with destroy or archive records too early — three years feels like enough when it is not.