The major advantage of the buyback is that no tax equivalent to dividend distribution tax is applicable to companies.
By: Yogesh Shah and Kinjesh Thakkar
Buyback of shares has been resorted to by many listed companies in the past, on account of the tax efficiency it provides, as against tax on the distribution of dividend. The major advantage of the buyback is that no tax equivalent to dividend distribution tax is applicable on companies; rather taxes on such buyback is payable by the taxpayer as capital gains, which before Finance Bill 2018, was exempt. However, last year by introduction of section 112A, such gains were taxed at the rate of 10 percent (plus surcharge and cess as applicable) for gains arising post 31 January 2018, i.e. gains up to 31 January 2018, for long term equity shares was grandfathered considering highest
price on stock exchange as on 31 st January 2018 cost of equity shares for the purpose of capital gains. Moreover, it is important to note that such capital gains was taxable if the amount of gains exceeds Rs 1 lakh.
However, Budget 2019 presented on 5 July 2019, has proposed to amend provisions relating to buy back of shares covering listed companies and thus effectively introduced tax at the rate of 20 per cent (plus surcharge and cess) on buy-back of shares by listed companies on or after 5 July 2019. No clarification has been provided for companies
already in process of buyback.
Further, as companies now cannot reverse the process, it apparently seems that the burden of such tax has to be borne by such companies which could not have been factored earlier while making such decision. By making the proposed amendment applicable from the date of Budget itself, puts the company into a fix with no option but
to pay buy back tax applying specific provisions from the day of the Budget itself. As the same is proposed amendment, ideally necessary changes should be made for such companies who have started buyback process to provide relief.
Further, tax on such buyback will be applicable on gains computed as the difference between buyback priceless issue price. Here, it is important to note that amendment similar to last year, relating to deduction of highest price on the stock exchange as on 31 st January 2018 to be taken as cost, is not provided which otherwise would have been available to investors before the proposed amendment.
Also, it is important to note that listed shares are freely transferable on the stock exchange and there are persons having same at may be a higher price than the issue price. In such a scenario, if tax is levied on the difference between buyback price and issue price, there is a possibility of double taxation.
Moreover, no exemption is provided for small taxpayers having income from such buyback being less than Rs. 1 lakh, which otherwise was provided in section 112A which puts such small income earners at a disadvantageous position than earlier.
Over and above, there can be issues for the non-resident taxpayer as a charge of tax has been shifted from investor to domestic listed company on an event of buyback which triggers the question on the application of tax treaty as taxes are payable by the domestic company and not the non-resident investor.
Moreover, typically Double Tax Avoidance Agreements (DTAAs) address issue for juridical double taxation i.e. taxes paid by the same person in the source country and resident country both. In the current case of shifting of charge of tax to a domestic company for gains arising on shares bought back, an important question that needs to be answered is whether the investor can claim credit of such taxes paid in the resident country considering that though it is a tax on income arising to the investor, the charge for payment of same is shifted to a domestic company which is a different person in the eyes of law.
Thus, though the government has tried to plug a loophole, it has rather proposed the application of taxes on income which earlier was consider exempt/grandfathered. Hence, it is prospective in form but retrospective in effect. It is expected that the government may consider the above concerns for providing relaxation. However, the flip side is that with such provisions being introduced for curbing abuse, chances of providing relief could be thin.
- Yogesh Shah is Partner and Kinjesh Thakkar is Manager of Deloitte Haskins & Sells LLP.