Important Keyword: Buyback Shares, Income from Capital Gains, Income Tax, Section 115QA.
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Section 115QA: Tax on Buyback of Shares
Share buybacks are strategic maneuvers employed by companies to repurchase their own shares from the market. This move serves multiple purposes, such as enhancing shareholder value, demonstrating confidence in the company’s future prospects, or utilizing excess cash reserves efficiently. However, both companies and investors must navigate the intricate terrain of taxation associated with share buybacks. Understanding the tax implications empowers stakeholders to make well-informed decisions regarding their participation in share buyback initiatives.
Buyback of Shares: Meaning
A share buyback is a strategic move made by a company to repurchase its own shares from its existing shareholders. Typically, these shares are bought back at market value or at a premium. This approach allows the company to return cash to its shareholders while also regaining ownership of the shares. In India, the tax implications of share buybacks are regulated by Section 115QA of the Income Tax Act, 1961. Understanding these tax implications is crucial for both companies and shareholders to make informed decisions regarding their participation in such buyback programs.
Why do Companies Buyback shares?
Recent trends indicate a growing preference among Indian companies for utilizing buybacks as a strategy for capital restructuring. Companies undertake buybacks with various objectives in mind:
- Enhancing EPS: By reducing the number of outstanding shares, buybacks can lead to an increase in Earnings per Share (EPS) over time, benefiting shareholders.
- Addressing Undervaluation: Management may perceive that the market has undervalued the company’s stock price. A buyback can help in achieving a fairer valuation of the company’s shares.
- Improving Financial Ratios: Buybacks can contribute to improving key financial ratios such as Return on Net Worth and Return on Assets over the long term.
- Signaling Confidence: Undertaking a buyback can serve as a positive signal to investors, demonstrating the management’s confidence in the company’s prospects and financial health.
- Providing Exit Opportunities: During periods of market volatility, buybacks offer existing shareholders an opportunity to exit their investments if they so desire, providing them with liquidity.
Tax on Buyback of Shares
Prior to 2012, investors and shareholders were subject to taxes on the profits earned from share buybacks by companies. To circumvent these taxes, companies increasingly turned to share buybacks as an appealing method to distribute surplus income among stakeholders. In response to this trend, the government introduced Section 115QA under the Income Tax Act through the Finance Act of 2013 as an anti-tax avoidance measure.
Originally, Section 115QA applied exclusively to unlisted companies. However, the Union Budget of 2019 expanded the scope of this section to include listed companies as well. This amendment became effective for all buybacks conducted after July 5, 2019, as per the provisions of the Finance Act (No.2) of 2019.
| Provisions | Listed Company | Unlisted Company |
| Buyback Tax | Applicable to all listed companies engaging in the share buyback after 5 July 2019. | Applicable since the Finance Act 2013 |
| Capital Gains Tax | No longer applicable to the investor | Not applicable to the investor since the Finance Act 2013 |
Tax for Company
Both listed and unlisted companies are required to pay income tax on the distributed income from the buyback of shares from shareholders. This tax, applicable to the buyback amount, is payable by the company, even if it is not otherwise liable to pay income tax.
The tax rate on distributed income, or buyback, is set at 20%, with an additional surcharge of 12%, along with applicable cess. The company is obligated to settle this tax within 14 days from the date of payment to the shareholders for the buyback.
Tax for Shareholder
Under Section 10(34A) of the Income Tax Act, any income derived by shareholders from the buyback of shares by the company is exempt from taxation.
When reporting gains from buybacks, shareholders should list them as exempt income under Schedule EI of the Income Tax Return (ITR).
Illustration
Bajaj Auto Limited, a prominent multinational automobile manufacturer headquartered in Pune, India, initiated a share buyback program aimed at raising up to ₹4,000 crore. The buyback offer commenced on March 6, 2024, and concluded on March 13, 2024.
Regarding taxation, the responsibility for the Buyback Tax lies at the company level, meaning that Bajaj Auto is obligated to pay taxes on the buyback amount.
However, for shareholders of Bajaj Auto, any capital gains resulting from the sale of their shares back to the company through the buyback process are deemed exempt from taxation under Section 10(34A) of the Income Tax Act.
Implications to individual shareholders
Previously, companies with distributable surplus had two primary methods of returning cash to shareholders: declaring dividends or conducting share buybacks. Dividends were subject to Dividend Distribution Tax (DDT) at the company level, while the amount distributed through share buybacks incurred taxation at the shareholder level.
The rationale behind the introduction of Section 115QA was to prevent companies from avoiding Dividend Distribution Tax by resorting to share buybacks. However, in the Budget 2020, the finance minister abolished DDT, shifting the tax burden from the company to the shareholder. Now, shareholders are required to pay tax on dividends at applicable slab rates, making income from buybacks more tax-efficient than dividends from the shareholder’s perspective.
Read More: Income Tax on Demat Account
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Official Income Tax Return filing website: https://incometaxindia.gov.in/
