Important Keyword: Corporate Action, Income Tax.
Table of Contents
Corporate Action: Meaning & Taxation
Corporate actions encompass a range of activities undertaken by companies that can significantly impact their shareholders. These actions may involve changes in stock ownership, organizational structure, or distribution of profits. Examples include issuing dividends, offering bonus shares, granting rights to purchase additional shares, and executing stock splits or consolidations. For individuals holding stocks in such companies, understanding the tax implications during the filing of Income Tax Returns (ITR) becomes crucial.
Each corporate action carries its own set of implications for shareholders, potentially influencing the value of their shares, their ownership stake in the company, and the tax treatment of their investments. Consequently, shareholders must be aware of these implications to ensure accurate reporting and compliance with tax regulations when filing their ITR.
What is a Corporate Action?
A corporate action serves as a pivotal event that instigates significant changes within an organization, impacting its stakeholders, particularly shareholders. Typically initiated by the board of directors and ratified by shareholders, these actions ensure that crucial decisions about the company’s trajectory and structure are made with input and consent from its owners. Here are some key corporate actions and their tax implications:
Buyback of Shares:
A buyback involves a company repurchasing its own shares from investors, thereby reducing the total number of outstanding shares available for trading. This strategic move enables the company to invest in itself and offers existing shareholders the option to sell their shares back to the company at a predetermined price. According to section 10(34A) of the Income Tax Act, the consideration received from the buyback of shares is exempt from taxation, relieving taxpayers of any tax liabilities on the amounts received.
Example:
Suppose Bajaj Auto Limited repurchases 4,000,000 shares at INR 10,000 per share in March 2024. Mr. Rohan, a shareholder holding 500 shares, receives 50 lakhs as buyback consideration from the company. In this scenario, Mr. Rohan is not subject to tax on the received amount, while the company is responsible for paying buyback taxes at a rate of 20%, along with any applicable surcharge and cess.
Dividend on Equity and Preference Shares:
Companies distribute their profits to shareholders through dividends, which can be in the form of cash or stock, typically issued at regular intervals. Both equity and preference shareholders may receive dividends, which are reported under the head “income from other sources” by taxpayers. Dividends received from domestic companies are taxable at the applicable slab rates, while dividends from foreign companies are subject to taxation at a rate of 20%.
Example:
Mrs. Shreya receives a dividend of INR 500 from MRF Limited and INR 7,500 from Reliance Limited. She must report this dividend income under the head “income from other sources” and pay taxes at the slab rate on a total dividend of INR 8,000. Additionally, Reliance Limited will deduct TDS at a rate of 10% on the dividend exceeding INR 5,000, amounting to INR 750.
Mergers and Acquisitions
Mergers and acquisitions represent significant corporate maneuvers that reshape the landscape of businesses. Let’s delve into each:
Merger:
A merger marks the union of two or more companies to form a single entity. During this process, companies consolidate their assets, liabilities, and management structures. Shareholders of the merging companies receive shares in the new entity based on predetermined ratios. Mergers are strategic moves that aim to unlock synergies, streamline operations, and bolster market presence, benefiting both merging entities.
Acquisition:
An acquisition occurs when one company acquires a majority or all of another company’s shares, assets, or ownership stake, thereby gaining control over the acquired entity. Acquisitions can take various forms, including direct share purchases, mergers, or stock exchanges. Through acquisitions, the acquiring company stands to enhance its revenue and market share by expanding its operations, while the value of shares in the acquired company may increase as a result of the transaction.
Taxation on mergers and acquisitions involves careful consideration of capital gains on the sale of shares. Here’s how it works:
- Sale of Shares of New Company:
- Long-Term Capital Gains (LTCG) exceeding INR 1 lakh are taxable at 10% under Sec 112A.
- Short-Term Capital Gains (STCG) are taxable at 15% under Sec 111A.
- The cost of acquisition is calculated as the original purchase price multiplied by the quantity of shares.
- Sale of Shares of Old Company:
- LTCG exceeding INR 1 lakh are taxable at 10% under Section 112A.
- STCG are taxable at 15% under Section 111A.
- The grandfathering rule under Section 112A applies if the new shares were allotted before 31st January 2018.
Note: The holding period for shares is calculated from the date of acquisition of shares in the original company until the date of sale.
Example:
- IDFC Bank and Capital First merged to form IDFC First Bank in December 2018, with a swap ratio of 139:10.
- If Akash purchased shares on 01/01/2011 at INR 10,00,000 and sold the shares of the new company on 02/02/2022 at INR 25,00,000.
- Capital Gains = Sales consideration – Cost of Acquisition = INR 25,00,000 – INR 10,00,000 = INR 15,00,000.
- As the shares were held for over 12 months, any capital gains are long-term and taxable at 10% on amounts exceeding INR 1 lakh. Therefore, the tax due will be INR 1,40,000.
- However, if the shares were bought on 02/07/2018 and sold on 25/02/2019, the gains of INR 15,00,000 would be short-term capital gains, with a tax liability of INR 2,25,000.
Bonus Issue
Bonus shares are a form of reward that companies offer to existing shareholders without any additional cost. These shares are generated from the company’s retained earnings or reserves and do not impact its overall market value. However, they do increase the number of outstanding shares, thus diluting the ownership percentage of existing shareholders.
Taxation on Bonus Shares:
- On Issue of Bonus Shares:
- Bonus shares are not subject to taxation at the time of issuance.
- On Sale of Bonus Shares:
- Long-Term Capital Gains (LTCG) exceeding INR 1 lakh are taxable at 10%, and Short-Term Capital Gains (STCG) are taxable at 15%.
Taxpayers need to calculate the holding period separately for original shares and bonus shares. Additionally, they must compute capital gains separately for both types of shares.
The Cost of Acquisition for bonus shares is considered as NIL, and the holding period for bonus shares begins from the date of acquisition until the date of sale.
Example:
Bharti acquired 1500 shares of Astral Limited on 15/10/2022 at INR 200 per share. Later, on 14/03/2023, the company issued a bonus in the ratio of 1:3, granting Bharti 500 bonus shares.
On 07/07/2023, Bharti sold 2000 shares for INR 350 per share. As both the original and bonus shares were held for less than 12 months, the capital gains are considered short-term. The capital gains tax will be calculated separately for the original and bonus shares.
| Particulars | For the original 1500 shares | For the bonus of 500 shares |
| Sales Consideration | 5,25,000 (1500 shares * 350 per share) | 1,75,000 (500 shares * 350 per share) |
| Cost of Acquisition | 3,00,000 (1500 shares * 200 per share) | Nil |
| Short-term capital gains | 2,25,000 | 1,75,000 |
Right Issue
A rights issue serves as a method for companies to secure funds by offering new shares to existing shareholders at a discounted rate. This enables shareholders to decide whether to purchase additional shares or sell their rights to others. Such an approach allows shareholders to uphold their proportionate ownership in the company and participate in its potential expansion.
Taxation on the Right Issue:
- On Issue of Right Shares:
- The issuance of right shares does not incur taxation.
- On Sale of Right Shares:
- Long-Term Capital Gains (LTCG) exceeding INR 1 lakh are taxable at 10%, and Short-Term Capital Gains (STCG) are taxable at 15%.
Taxpayers are required to calculate the holding duration separately for original shares and right shares. Additionally, they must compute capital gains individually for both types of shares.
The Cost of Acquisition for right shares comprises the price paid to acquire them. Taxpayers can include the amount paid to obtain the rights entitlement in the purchase value to determine the total cost of acquisition for capital gains calculation purposes.
Example:
Mr. Swapnil procured 2000 shares of Indiabulls Housing Finance Limited at INR 200 per share on 12/12/2023. Subsequently, on 15/02/2024, the company announced a rights issue on a ratio of 1:2 for existing shareholders, priced at INR 150 per share. He opted to exercise this option and acquired 1000 shares at INR 150 each.
On 21/03/2024, he sold 3000 shares at INR 350 per share. Since the shares were sold within 12 months, the capital gains will be regarded as short-term. Furthermore, the gains calculation will be conducted separately for the original shares and the right shares.
| Particulars | For 2000 original shares | For 1000 right issue |
| Sales consideration | 7,00,000 (2000 shares * 350 per share) | 3,50,000 (1000 shares * 350 per share) |
| Cost of Acquisition | 4,00,000 (2000 shares * 200 per share) | 1,50,000 (1000 shares * 150 per share) |
| Short-Term capital gains | 3,00,000 | 2,00,000 |
| Tax at the rate of 15% | 45,000 | 30,000 |
Spin-Off
A spinoff marks the separation of a subsidiary from its parent company, leading to the creation of a new, independent entity. During a spinoff, a distinct portion of the parent company is detached, forming a smaller, standalone organization. The spun-off entity gains autonomy and operates independently from its parent, giving rise to its own distinct identity. Shareholders of the parent company receive shares of the spinoff company as special dividends.
Tax Implications of Spinoff:
Spinoff Distribution: When shareholders receive new shares of the spun-off company, there are no immediate tax implications. Sale of Shares: Long-Term Capital Gains (LTCG) exceeding INR 1 lakh are taxable at 10%, and Short-Term Capital Gains (STCG) are taxable at 15%. For Capital Gains computation, the holding period for new shares is the same as that of the original shares.
Example:
In April 2023, Rahul purchased 500 shares of Reliance Industries Limited (RIL). In July 2023, RIL announced the spinoff of its financial services division, establishing a new entity named Jio Financial Services Limited (JFSL). For each RIL share held, Rahul received one share of JFSL. Subsequently, in October 2023, Rahul sold 300 shares of JFSL at INR 700 per share. As the holding period for these shares was less than 12 months, the resulting capital gain will be classified as short-term capital gains.
| Particulars | Amounts |
| Sales Consideration | 2,10,000 (300 shares * 700 per share) |
| Cost of Acquisition | 1,00,000 (500 shares * 200 per share) |
| Short-term capital gains | 1,10,000 |
| Tax at rate 15% | 16,500 |
Stock Split
A stock split is a strategic move by a company to increase the number of its outstanding shares while proportionately decreasing the price per share. This maneuver doesn’t alter the overall market value of the company but aims to make its shares more accessible to investors and potentially enhance market liquidity.
Tax Implications of Stock Split:
Stock Split: The process of a stock split itself doesn’t trigger any tax liabilities. Sale of Shares: Long-Term Capital Gains (LTCG) exceeding INR 1 lakh are taxable at 10%, and Short-Term Capital Gains (STCG) are taxable at 15%. When calculating capital gains, the acquisition date of the split shares remains the same as that of the original shares. Additionally, the cost of acquisition is proportionately allocated between the original and split shares to determine capital gains.
Example:
Arjun acquired 10 shares of Amazon at INR 1500 per share in September 2021. In March 2022, Amazon announced a stock split at a ratio of 20:1, resulting in Arjun owning a total of 200 shares.
Subsequently, in February 2024, Arjun sold all his shares at INR 2500 per share. Adjusting for the stock split, the cost of acquisition is recalculated proportionately, ensuring accurate capital gains assessment.
| Particulars | Amounts |
| Sales consideration | 5,00,000 (200 shares * 2500 per share) |
| Cost of Acquisition | 15,000 (200 shares * 75 per share) |
| Short-Term capital gains | 4,85,000 |
| Tax at the rate of 15% | 72,750 |
Read More: Income Tax on Foreign Shares
Web Stories: Income Tax on Foreign Shares
Official Income Tax Return filing website: https://incometaxindia.gov.in/
