Receipt of buy-back of shares

Current provision: 

Receipt on buyback of shares is subject to tax under the head Profits & Gains of Business or Profession or Capital Gains.

Propose Amendment: 

It is proposed to provide that any income arising to a shareholder, on account of buyback of shares of an unlisted company on which tax is paid under section 115QA, would be exempt.

Applicability: 

Amendment applies from 1-4-2014

Implication: 

As per new Chapter XII-DA – Special Provision Relating to Tax on Distributed Income of Domestic Company for Buy-back of Shares, income arising out of buyback of shares of unlisted company is subject to special rate of tax under section 115QA on similar lines as dividend distribution tax. In order to avoid double taxation, it is provided that no tax would be paid by recipient when such income is subject to distribution tax. However, proposed provisions try to nullify treaty benefits on account of capital gains. Authority of Advance Ruling in Armstrong World Industries Mauritius Multiconsult Ltd., In re[1], considering the provision of India-Mauritius DTAA, has held that capital gain from buy-back of shares is not taxable in India.

Authority of Advance Ruling in RST In re[2], held that if a shareholder receives any consideration from any company for purchase of its own shares, Section 46A, special provisions would be applicable and it would prevail over the general provision of section 45 of the Act. It also held that provisions of section 47 overrides section 45 and not 46A. however no consequential amendment has been proposed under section 46A.

Income on buy back would be exempt only if buy back is subject to compliance of Section 77A of the Companies Act, 1956. In case provision of Section 77A are not complied, distribution on buyback would not be subject to tax under section 115QA and consequently not exempt under new provisions. However in case a scenario issue may arise whether such proceed would be treated as dividend and provisions of Section 115-O triggered? If so, whether, company would be liable to pay DDT @ 16.995% instead of 22.6600% and income in the hands of shareholders would be exempt under section 10(34)?

New exemption would also create various other issues. Investors would not be allowed deduction of any expenditure incurred or cost of improvement with respect to shares. In case of loss is incurred by the investor, loss may not be allowed for set off or carry forward. Issue may also arise whether credit of the tax so paid would be allowed to the non-resident in his country as per the provisions of DTAA?  Further moot question may be raised whether such distribution of income can be subject to charge under Income-tax Act, 1961?

(Extracts from the article published in the Chambers Journal March 2013)

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[1] [2012] 24 taxmann.com 213 (AAR - New Delhi)

[2] [2012] 19 taxmann.com 215 (AAR – New Delhi)