Five questions about PM Modi's big startup splash

It is euphoria all over about the Prime Minister Narendra Modi’s Start-up India action plan announced on Saturday and there are reasons to be so. There hasn’t been a better package for those individuals who would want to take the plunge into the world of entrepreneurship. The Modi government’s offers aren’t easy to refuse – a three-year break from paying income tax on profits, exemption from capital gains tax, no inspection for first three years, provision for easier self-certification, patent registration and easier exit policies. [caption id=“attachment_2588576” align=“alignleft” width=“380”]  This isn’t the first time the government is announcing a corpus for start-ups[/caption] All this, besides a Rs 10,000 crore startup fund and Rs 500 crore per year credit guarantee mechanism. Arguably, this is the biggest set of start-up initiatives so far by any government in India and, surely, reasons enough for a fledgling businessman to get goose bumps. But, there are a few questions worth pondering: For one, is the regulatory structure to ensure the definition for start-ups isn’t misused put in place? The government’s start-up India plan has defined these firms as entities “incorporated or registered in India not prior to five years, with annual turnover not exceeding Rs 25 crore in any preceding financial year, working towards innovation, development, deployment or commercialization of new products, processes or services driven by technology or intellectual property…provided that such entity is not formed by splitting up, or reconstruction, of a business already in existence.” In the absence of closer monitoring crooks and cronies, who are averse to taxes, could misuse this window by taking start-up avatars afresh through benami-route and seeking three year-tax exemption, inspection provisions. Without a strong regulatory monitoring mechanism, it will be difficult for the government to tackle crooks as the doors are now open to all and rejections without sufficient reasons could send wrong signals to the industry. The question is does the government have the mechanism ready to ensure the provisions aren’t misused with instituting strong regulatory mechanism. Probably, it calls for a regulatory set-up for start-ups. Second, what about the existing small and medium enterprises (SMEs), once described as the backbone of Indian economy? Theoretically, these firms are no different from start-ups (many of them are still start-ups by size). India has thousands of small SMEs, which are struggling to stay afloat on account of prolonged economic slowdown in the domestic and global markets. The stress in the large corporate sector has had cascading effects on SMEs too since these firms typically get outsourced work from larger companies. Life has become even more difficult for these companies with banks choking funding channels as non-performing assets (NPAs) have piled up from this segment. Don’t these SMEs too deserve tax benefits and easier regime to operate as has been now promised to new companies? Third, which will be the authority to see to the actual implementation on disbursal of the proposed Rs 10,000 crore fund? This isn’t the first time the government is announcing a corpus for start-ups and there have been questions on their implementation. In the NDA government’s interim budget 2014, finance minister Arun Jaitley announced the creation of a Rs 10,000 crore dedicated startup fund, which promised a lifeline to cash-starved small firms by attracting private capital by providing equity, quasi-equity, soft loans and other risk capital for startups. The industry has questioned the implementation of the scheme as it has been poor on the ground. Announcements are one thing but the implementation is the most critical part. Hence, it is key for the Modi-government to ensure the implementation this time. Fourth, the provision for no-inspection for first three years could prove to be a recipe to risk the money invested in these firms. If one goes by the past trend, majority of the start-ups tend to fail. In a report, rating agency Care has pointed out the reasons for this, citing the experience in the US. “Historically it has been noticed that almost 90 per cent of all start-ups fail. In terms of money foregone just 1 percent of total start-up funding comes from VCs with balance from self-funding and friends and family. A problem has been extravagance in the form of wild parties and lavish offices. This reduces the chance of success and abusing the trust of investors,” the report says. One of the reasons why banks have been avoiding lending to small firms is their high-risk nature. Given that a substantial chunk of funds is designed to flow in (with an initial corpus of Rs 2,500 crore and a total corpus of Rs 10,000 crore over four years), where the government’s traditional milch-cow, LIC too would be tapped, doesn’t inspection-free three years sound too risky? Fifth, start-ups typically do not make profits in initial 4-5 years so the tax exemption on income tax/ capital gains in first three years does not mean much for them. This is something the industry has pointed out. “Most of the startups do not start making profits for initial few years so income tax exemption might not help them as much as would be exemption or deferred timeline for various compliances,” according to StoreHippo.com Founder Rajiv Kumar. Having said these, there isn’t an iota of doubt on how important is to encourage new entrepreneurship in an emerging economy like India, where generation of fresh employment is still a big challenge and birth of new companies could significantly contribute to job creation. According to a NASSCOM report, India has grown to secure the third position in the world in terms of the number of start-ups and there are 4,200 startups expected by the end of 2015 with growth of 40 percent. About 80,000 to 85000 people have got jobs in start-ups. The point is there is a need to tread with caution.