Union Budget 2019: With increasing number of companies undergoing the IBC process, the lack of synchronization between IBC and other allied laws, especially the taxation laws, have been a matter of concern.
- By- SR Patnaik and Bipluv Jhingan
In the past few years, the Indian banking and financial systems have been under immense pressure arising from the problems of the profligacy of non-performing assets (NPAs). In order to remedy this, the Insolvency and Bankruptcy Code, 2016 (“IBC”) was enacted with the intention to consolidate and amend all laws relating to reorganisation and insolvency resolution of businesses, in a manner that interest of all stakeholders is addressed in an equitable manner. However, with the increasing number of companies undergoing the IBC process, the lack of synchronization between IBC and other allied laws, especially the taxation laws, have been a matter of concern. This lack of synchronization between IBC and taxation laws has been increasing with every passing day and may become an impediment to the success of the IBC proceeding. This could lead us to a strange situation where the resolution passed under the IBC instead of facilitating the revival of debt-laden, financially distressed companies, could itself result in additional taxes for such companies.
In view of wide-ranging implications, even if the Government desires to implement a new direct tax code and accordingly, may want to bring about minimalistic changes in the upcoming Budget, there is a wide expectation among the various stakeholders that the Government would address the discord between IBC and tax laws.
We have seen that in most IBC proceedings, the lenders often waive a certain portion of the outstanding loan and interest amount which triggers their treatment under the Income-tax Act, 1961. The Supreme Court, in its recent ruling in the case of Mahindra and Mahindra, has clarified that if the proceeds of loan being written off were used for acquiring capital assets, then such write off would not result in taxable income in the hands of the company. Even though such income arising from waiver of loans may be exempt from tax under the normal provisions of the Income-tax Act, the applicable accounting standards may require such income to be routed through the profit and loss account of the company, which may give rise to minimum alternate tax implications in respect of such writebacks.
The efficacy of the IBC, which was introduced to provide the requisite interested parties to come up with unique option with an objective to revive financially distressed companies, has suffered as the prospective investors are dissuaded from investing in such companies due to such unwanted tax liabilities.
Another major issue which arises during the restructuring exercise under the IBC, involving transfer of shares, is on account of the certain anti-avoidance provision introduced under the Income-tax Act. These provisions stipulate that if a ‘property’, including shares and securities, are received for consideration which is less than the fair market value of such share, then the difference between such fair market value and the consideration so received would be bought to tax in the hands of the recipient under the head of ‘other incomes’. On the other hand, such notional fair market value would be considered to be the full value of consideration received by the transferor for the purpose of computing capital gains. The fair market value, for the purposes of these provisions, is computed in accordance with a prescribed formula, which takes into consideration the fair market value of certain assets such land, building,
shares etc., while other assets are considered at their respective book values. Such valuation may lead to a fair market value which is higher than the value which the potential investors are willing to pay owing to the weak financial position of such entity. This could result in a huge tax potential burden on the concerned parties. A similar problem also arises when there is a requirement to transfer an immovable property which requires transacting parties to take into account the stamp duty value and not undertake any transaction less than such value or else, they will have to account adverse tax implications.
The contradiction between the IBC and taxation laws are not limited to the aforementioned scenarios,
other contradictions may arise owing to various compliance requirements, accounting treatments etc.
The stakeholders are sincerely hoping that the upcoming Budget introduces special exceptions for the
companies under the IBC resolution process.
- SR Patnaik is Partner & Head – Taxation and Bipluv Jhingan is Associate at Cyril Amarchand Mangaldas. Views are the authors’ own.