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Funding in startups in India is the best way to convert black money to white, 5 ways it affects Indian Economy

Funding in startups in India is the best way to convert black money to white, 5 ways it affects Indian Economy

Black Money Scenario in the startup world


India is the home of grassroots, cultural, and inexpensive innovation. This intriguing area for entrepreneurs to establish repeatable and scalable business models is due to its population of over one billion people. The beauty of startups is that they give their employees flexibility, allowing them to invent and explore rather than simply doing menial tasks. Within this burgeoning startup economy, there is dark money.

 

Introduction to Black Money in Startups

“The Indian startup ecosystem is estimated to be the world’s third-largest, with over 1,300 tech businesses launched in 2019. By 2025, the number of Indian unicorns will probably reach 95-105 “Debjani Ghosh, head of Nasscom, states
With the world’s largest e-commerce partnership between Walmart and Flipkart, 31 unicorns and counting, and lots of new prospects, it’s no wonder that India has produced some of the world’s most successful startups.


Indian entrepreneurs have achieved success in several industries over the years, with enterprise tech, e-commerce, and travel tech businesses attracting international notice. However, there has been a dark cloud looming over the burgeoning startup business in recent years, one that we are all familiar with: black money.


“It is so much a part of our white economy, a tumor in the brain’s center — attempt to remove it, and you kill the patient,” Canadian-Indian writer Rohinton Mistry says. According to a 2015 FICCI research, India’s black money accounts for up to 75% of GDP.”


It’s difficult to explain how, in today’s environment, a social aberration probably develop in the realm of young talent, propelling the next generation to unprecedented heights of fame and wealth.


This peculiarity boosts the need for illicit money in new business and startups. This case study aims to look at how black money enters the sector, the reasons that drive it, how it is whitewashed, and the impact it has on our economy.


Shell companies are businesses that only exist on paper. There is a distinction between organizations that exist only on paper and are primarily employed to transit money and legal businesses.

Current Scenario and Analysis of Black Money in Startup World

Consider the situation of a well-known startup lawyer in the capital (let’s call him ‘A’) who has worked with several startups, including two prominent hotel room aggregators, a financed media Venture, and a few e-commerce companies.

He’s working on partnerships with a well-known real estate firm in the nation, attempting to get into the internet startup world. “Some expatriate business people are exploiting startup investing like a vehicle to smuggle illegal money into India,” he says, shockingly.


Consider the following scenario: you have $10 million in cash stashed in Mauritius. You hunt for tech companies in which you may gain a majority stake or form a company that can provide a website, an app, and a small crew.


You form the business in name of a private limited company and establish an overseas subsidiary in addition. You begin sending offshore money into that technological business once a legal framework is in place.

european startups have raised over $60 billion | pymnts.com
The seed stage – a fundraising round – is where the routing can occur. Now, to steal the cash, you can buy an excellent automobile and other assets with the startup money and pay yourself and your relative’s large sums in positions of directors.


You operate the corporation for two years or more until all of the money has been channeled to India. After that, you may simply liquidate that Venture, declaring it bankrupt and paying creditors and shareholders, some of which may be your own businesses.


Even if the money has not been moved outside, engaging in startups by forming mentorship businesses has become a glam and straightforward way to employ it lawfully.


“I’m not suggesting all of these businesses are leveraging startups to change dirty money into white money, but this glamorous way has started to be exploited in India,” says A, a managing partner at the legal company who asked to remain anonymous.


How is Whitewashing of Black Money Done?


Another lawyer ratifies it (let’s call him lawyer B) brokering transactions for a Gurgaon-based fashion app and a modest hotel room aggregator. His firm, which specializes in transaction advising for Internet companies, claims that dishonest businesses may launder money in several ways.


A shady investor appoints his relatives to the startup’s board of directors.
Other entities in the same group function like suppliers for the company, providing absurdly low costs for the service or product.

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These investors want excessive shares and influence over the company (often over 70 percent ). They want to keep their family members on board.
They keep the money in a trust-friendly jurisdiction like Switzerland before moving it to a tax-efficient country like Cyprus, where taxes are either low or non-existent.

After there, it is channeled via a tax-friendly country like Mauritius before arriving in India. Mauritius and India have a Double Taxation Avoidance Treaty (DTAA).
Trade mispricing, a tactic used to drain money out of India, plays a key role in bringing money back into the country. A company can under-invoice and export machinery or software instead of inflating invoices. A firm that sells bags or a restaurant can be started.


Even if the firm fails to take off, the proprietor can still report daily cash transactions of Rs 1 lakh to Rs 2 lakh. Slowly but steadily, all money would become legal tender!

On May 19, 2010, one of India’s leading engineering and construction entities paid a tiny sum to a Kolkata-based firm – roughly Rs 1.38 crore. The money was supposed to be remuneration for a contract that the Kolkata business had completed. The money was less than the engineering entity’s typical hourly income throughout the year.


However, Income tax investigators eventually learned, the way money traveled to, through, and out of the Kolkata organization afforded an all-too-rare glimpse into a corporation that had traditionally operated in the shadows.

It’s a firm that caters to the demands of India’s largest and most well-known corporations, and it’s crucial to the functioning of Corporate India in many ways. It was an unorganized trade for decades until it became an organized company in Kolkata in the 1980s.


The fact that the Indian economy has a kind of dual personality split it into the ‘white’ and the ‘black’ sector, with cash transactions (albeit not always of an unlawful origin) dominating the latter, is at the core of this company and what insured its survival and expansion.

These economies, however, do not exist in isolation. The fuel and feed each other, and money flows from one to the other, depending on the economic cycle and entrepreneurs ‘animal spirits.

india's black money economy estimated at 79% of gdp during 2009-11
Like hundreds of others around the country, the Kolkata enterprise exists at the crossroads of white and black. They fulfill a critical function: they turn or launder black money into white money.


They in addition do the opposite, transforming white money into black. Like how a stockbroker connects buyers and sellers of a stock and ‘makes’ markets, such businesses and the individuals who run them connect buyers and sellers of another, highly sought-after item.


According to investigators, when the infrastructure business mentioned before submitted a check to the Kolkata company — call it LNP Ltd (not its name) — it received its money back in cash. According to an income tax officer, “many infrastructure or construction enterprises in our nation operate in an atmosphere where they have to make cash payments to numerous stakeholders.”


Paying off everyone from a local politician or bureaucrat opposing a project to a local Naxalite commander requires such financial transfers.
However, a entity that generates Official accounts that are audited and scrutinized by investors, it must account for such money, even if it is insignificant. The infrastructure company’s check was reported as a commission payment in its accounts.


This was the first transaction in a sequence that entailed the change of white, accounted-for money into black. The infrastructure business is no longer in the picture, having accomplished what it set out to do while also satisfying any future too eager auditors.


It can also claim the ‘expenditure’ in its tax return due to the procedure. It’s worth noting that LNP Ltd’s profit and loss statement for 2009-10 showed a total income of Rs 190 crore on an asset value of Rs 37 crore on the eve of the transaction.


Through another intermediate firm, LNP Ltd ‘invested’ the money it made from the transaction into a group of four other companies. Such firms accounted for such investments as share capital. It’s worth emphasizing that they are just paper transactions with no real cash flow or assets to back them up.


On the other hand, the operator has injected funds into a group of enterprises that are now ready for a new set of owners.
Such businesses will be marketed to anybody wishing to launder money by transforming cash into an asset that is backed by paperwork and can be examined by anyone who chooses to look.

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A buyer begins by purchasing shares in such a corporation at a significant discount to the company’s ‘paper’ worth. He could pay one rupee for a stake worth fifty rupees on paper.


This is the white money portion of the deal, and it is essentially the operator’s commission (in this case, the commission is 2 percent ). The only thing left is to bring in the dark money. What causes this to happen?


The tried-and-true method was summarized in a document published by the Gujarat income tax department for its officials, which devoted a whole chapter to such businesses: “The technique comprises huge dividing sums of money into smaller, less suspicious quantities.”

In India, this lower sum must be less than Rs 50,000, as cash deposits under this amount do not require depositors to provide their PAN. The money is then placed into one or more bank accounts over a period of time, either by numerous persons or by a single person.

Also, even greater sums are placed in banks using the PAN numbers of illiterate persons who work for these…operators for a modest wage or commission. The funds are then transferred.


The money is subsequently funneled through these operators’ control over paper firms.”
These paper businesses invest this money as share capital in the target company. Money has been laundered.

And while the final stage appears to be labor-intensive, it may be sped up and expenses reduced if bank employees are willing to cooperate (a recent investigation by Cobrapost revealed the role banks had to play in money laundering).

And it will be the operators that complete this final step for their clients. In a nutshell, here is how the procedure works. At the beginning and finish of the process, there are’ customers’ who have competing goals. The operator sits between them, bringing the two together.


On February 14, 2008, 18 entities from Delhi, Mumbai, Guwahati, and Kolkata, with a focus on Kolkata, invested Rs 10 crore in Ganga Builders.
Ganga Builders was founded in 1982 and registered at the same location as some corporations that invested in it. Between 1982 and 2007, nothing is known about the company’s operations.

everything you need to about black money in startup world
On the same day with this transaction, another much larger one occurred, which drew the attention of a number of investigating organizations, including the Central Bureau of Investigation (CBI) and the Internal Revenue Service (IRS). Jagan Mohan Reddy, the son of former Andhra Pradesh chief minister YSR Reddy, was at the center of the probe.

Seventeen corporations, many of which are part of well-known industrial conglomerates, invested Rs 121.24 crore in Jagathi Publications, Jagan Reddy’s main media Venture.
According to press sources, the CBI would eventually look into a total of Rs 1,100 crore in investments made into Jagathi over years.

A smaller group of Kolkata and Mumbai-based enterprises were included in the Valentine’s Day investors in Jagathi in 2008, and this is where their paths meet with Ganga Builders. Many of the investors in Ganga and many of the investors in Jagathi were familiar with them.


Ganga subsequently proceeded to purchase Jagathi’s shares in 2008-09. However, the precise sum invested probably not have exceeded a few crores. All of Ganga’s shares are now owned by a slew of other ‘paper’ businesses. More than the acquisition, Ganga and its sibling entities reflected the traditional characteristics of such businesses.


Ganga’s address, located in an office building in a commercial location in the center of Kolkata, was visited by income tax inspectors. The firm shared the location with a few other paper companies that had invested in Ganga. They discovered a solitary office with a peon who acknowledged that the entities did indeed function from there but couldn’t provide any other information about the proprietors.


It discovered the office was locked at the last place. The trail went cold when it tried to reach the company’s new address in Budge. It couldn’t find the parcel of land where the entities claimed to be located in the industrial area, and workers at other units in the complex couldn’t even refer this reporter to the location listed in the company’s regulatory filings.


According to a top IT official, “often the directors of such organizations are chefs, drivers, or peons of the guy who truly controls the show.” These directors, who can be nominated to dozens of such corporations, have no idea what these corporations are employed for. There isn’t much else about these businesses that are real.

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‘ Addresses are either false or serve just as ‘postboxes’ for receiving mail. Financial Accounts are mostly made up, and they’re rarely backed up by real assets or cash flow.
These businesses are formed by following all requirements, like registering with the RoC [registrar of companies], but they merely have postal addresses and no physical Offices or staff.


According to the income tax guideline, “the directors of such entities are typically uneducated or semiliterate persons who work for the…operators for tiny salary or commission.”

Impact of Whitewashing Black Money on the Economy


Black money has social ramifications in addition to economic ones. The following are a few of them:-

the effects of black money on economy - assignment point
1.Government income loss and the operation of a parallel economy in the country – The rise and spread of black money constitutes a severe economic danger since it reduces government revenues. If merely a portion of the black money in circulation in the economy could have been paid towards taxes to the government, the Indian economy would have benefited greatly.


As a result of black money and corruption, a vicious loop has formed in which black money has exacerbated corruption through illicit activities used to conceal black money, government officials, and so on. This creates a vicious cycle that will never be broken unless the government takes decisive action.


2.Effects on national income and real capita income– Black money is the outcome of people not disclosing their low income to the government while paying taxes, resulting in a low national income. If the quantity of black money in circulation is backed up to the country’s national economy, the country’s national GDP will skyrocket. This will improve the country’s overall quality of life.


3.Higher taxes and inflation – The primary aim of taxation is to generate money to cover the government’s expenses in order to maintain a balanced budget. As a result, it is self-evident that if the amount of black money that people are hiding from the government is revealed and included in the government’s budget, the tax rate will undoubtedly decrease because the revenues that the government seeks from the people by imposing high taxes will already be with the government.

As a result, the number of products and services available in the market according to the account money experiences a price increase, resulting in inflation.


4.Monetary and fiscal policy formulation is difficult –This has a clear impact since the government, when formulating these policies, is unable to tally the exact national revenue due to concealed black money, rendering such programs unworkable.


5.Increased criminal activity in society– Black money often leads to a variety of illicit actions in society, including corruption. During the election, there was a lot of evidence of the unlawful usage of black money. Various terrorist actions have the support of black money hoarders, who are even destructive to the entire country. Black money is usually used to purchase illicit weapons with diverse groupings of unsocial people.


Black Money in Startups – The issue of black money should be addressed in a practical and sensible way.

First and first, the issue must be addressed morally. The morality of society’s citizens must be improved.


1.The tax system should be based on reality.
2.The authority in charge of collecting taxes should be trustworthy and free of corruption.
3.Several incentives should be provided to encourage people to willingly reveal they’re true earnings.
4.The Economic Intelligence Unit (EIU) must be well-maintained and protected.
5.Corruption in government must be eradicated at all levels.
6.Individuals who beg for more credit in the firm should be avoided by startups.
7.Only a small amount of familiar engagement should be permitted.
8.The team, not the angel investors, should be in charge of the accounting.


The government alone will not be able to eradicate this problem from society. Creating various policies, regulations, actions, and legislation will not suffice. Every person must participate in the execution of these laws and regulations.

People should understand why paying taxes is necessary, and they should cease hiding their earnings in order to avoid creating black income. Every person should make a financial contribution to the country’s progress by paying taxes. This will significantly reduce the amount of black money in the economy, and startups will no longer require it to function.

edited and proofread by nikita sharma

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