Indian Merchants’ Chamber Amendments proposed in Finance Bill, 2013 Buyback of Shares

1. Indian Merchants’ Chamber Amendments proposed in Finance Bill, 2013 Buyback of Shares S. Gayathri

2. Buybackof shares – the purpose, the regulations • Budget speech, 2013 – Some tax avoidance arrangements come to notice, loopholes proposed to be plugged. Some unlisted companies avoiding dividend distribution tax by arrangements involving buyback. A final withholding tax @ 20% proposed on profits distributed by unlisted companies through buyback. • Buyback per se being tax avoidant • Avoidance noticed in some cases, anti avoidance rule applicable to all cases • Various objectives of buy back, universally applicable, beyond tax avoidance • Increase promoter holdings, enabling exit where buyers not avoidable • Rationalize capital structure – achieve or maintain a target structure • Support share value during temporary weakness maintain share price (SEBI’s new proposals relevant) • Thwart take-over bid • Increase Earning Per Share • Return surplus cash to shareholders • Take advantage of undervaluation • Enabling buy back provisions consciously introduced • Highly regulated event under Companies Act, SEBI, Income-tax

3. Buybackof shares – the purpose, the regulations • Re-characterizing the tax avoidance • A GAAR event promoted to SAAR event • Moved from General to Special in coverage, but specific to general in approach • Anti-avoidance measure advanced by three years • Effective dilution of relief sought to be given • Measure punitive and deterrent in nature– since it was seen as an alternative to dividend distribution, the levy should have been equated to DDT - 15%

4. Buybackof shares – gist of income- tax provisions • Per Section 115 QA – • Any amount of distributed income on buy-back of shares (not listed in a recognized stock exchange) in accordance with section 77A of the Companies Act, 1956 from a shareholder • shall be charged additional income-tax @ 20% • on the consideration paid by the company on buyback of shares as reduced by the amount which was received by the company for issue of such shares. • Payment to be made within 14 days of payment to the shareholder and the tax shall be the final payment of tax on the income. • No credit shall be available in respect of the tax paid, no deduction allowed in respect of the distributed income or tax thereon to the company or the shareholder • Per 115QB - interest @ 1% pm for delay in paying the tax • Per 115QC – Non payment in accordance with the provisions will make the Principal officer or the company will be regarded as assessee in default • 10(34A) - income arising to a shareholder, on account of such buy back of shares shall not be included in his taxable income

5. Buybackof shares – gist of income- tax provisions Earlier provisions relating to buyback not amended Per Section 2(22)(iv) - payment by a company on purchase of its own shares from a shareholder in accordance with the provisions of section 77A of the Companies Act, 1956 excluded from the definition of deemed dividend Per Section 46A - Capital gains on purchase by company of its own shares/other specified securities (as referred to in Section 77A of the Cos Act) on the difference between the cost of acquisition and the value of consideration to arise to such shareholder/holder In terms of section 2 (47), a buyback would continue to remain a transfer The overall implications from a tax perspective: A buy back in terms of section 77A is a transfer, but not taxable under ‘capital gains’ It is meant to address non- distribution of dividend, but is not a deemed dividend The levy is referred to as withholding tax in the budget speech, but is a tax on distributed income, according to the provisions

6. Case 1 – Various forms of acquisition and implications thereof • X Ltd decides to do a buy back in accordance with various regulations with the object of supporting share price during a difficult period • Issues • A Ltd -Where shares are held in demat form, would the amount received for issue of shares be Rs.10? Rs. 30? Or average? • A would be deprived of the hedge against foreign exchange fluctuation provided in the case of capital gains • B Ltd - Where it is a case of conversion, would it be Nil? Rs.10? Or Rs.20? • C Ltd- Where shares had been purchased from a third party, would it be Nil? Or Rs. 10? Or Rs. 25? • D Ltd, Z Ltd - Where shares constitute stock in trade, or it is a short term asset, are shareholders intended beneficiaries? • Y Ltd - Would effect of indexation be given to Y? Should Y be deprived of this merely because the purchaser is X Ltd as against a third party? Shareholding pattern of X Ltd ,an Indian unlisted company Par value of shares Rs. 10 B Ltd Original holding was debentures issued at Rs.20. Converted to equity shares at Rs. 10 A Ltd C Ltd Shares issued in two tranches At par At Rs. 30 Purchased shares from third party at Rs. 25 X Ltd India Shares held as stock in trade Shares held for 3 years Shares held for 3 months D Ltd Y Ltd Z Ltd

7. Case 1 – Various forms of acquisition and implications thereof Shareholding pattern of X Ltd ,an Indian unlisted company Par value of shares Rs. 10 • X Ltd decides to do a buy back in accordance with various regulations with the object of supporting share price during a difficult period • Is it intended that a shareholder virtually gives up the benefit of a possible set off against capital losses it may have? • Is X Ltd expected to consider and interpret such aspects while paying its tax? • Would X Ltd or the shareholder effectively get no relief in respect of any expenses it may have incurred in connection with the buy-back? • Would Transfer Pricing provisions alter the distributed income in X’s hands? • If not in X’s hands, could Transfer Pricing adjustments give rise to further taxable income in the shareholder’s hands? B Ltd Original holding was debentures issued at Rs.20. Converted to equity shares at Rs. 10 A Ltd C Ltd Shares issued in two tranches At par At Rs. 30 Purchased shares from third party at Rs. 25 X Ltd India Shares held as stock in trade Shares held for 3 years Shares held for 3 months D Ltd Y Ltd Z Ltd

8. Case 2 –Investments from different jurisdictions Shareholding pattern of X Ltd ,an Indian unlisted company Par value of shares Rs. 10 • P, the promoter and Y an initial investor invested in X in 2010 • X distributed dividends in 2012 • In terms of the shareholder agreement promoter shareholdings to be increased to 75%. • Y Ltd is located in a country that has a friendly treaty with India re capital gains • X Ltd decides to do a buy back in accordance with the various regulations at the current market price of Rs. 20 per share A P Y 30% 3000 shares at par 70% 7000 shares at par India X Ltd

9. Case 2 –Investments from different jurisdictions • Issues • Notwithstanding a commercial purpose and bonafides, Y ltd would now suffer a dent in its valuations owing to a levy that is not grandfathered • Is this levy, which nullifies the benefit of a beneficial treaty another instance of a treaty override • Would this levy deprive tax credit in the case of treaty countries as • this is not a tax on capital gains, relevant where capital gains is taxable in the residence and source countries • the levy cannot be regarded as relating to dividend distribution, so as to allow underlying tax credit at least in some cases • In a case where Y does a buyback of shares in accordance with the rules of its country, would there be an indirect transfer in India? If yes, would it covered under the new regime or under section 46A? Shareholding pattern of X Ltd ,an Indian unlisted company. Par value of shares Rs. 10 A P Y 30% 3000 shares at par 70% 7000 shares at par India X Ltd