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Guide to Buyback of Shares in India under Companies Act & Tax Considerations

Affluence Advisory , Last updated: 19 April 2024  
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INTRODUCTION

  • With the flourishing economic conditions in India and the government’s proactive measures to ensure that there is ease of doing business, various foreign institutional investors, foreign multinationals companies have been making investments in the country.
  • While making investments in India, these investors look for significant return on such investments. While trading of shares remains one way to exit from the investments made there are multiple other streams that are available with such investors.
  • Depending on the business strategy of the company, the company may want to repatriate cash. These are based on various working conditions of the country. At times where the company is doing well the ideally utilize the extra cash by paying off dividends or buying back of shares or capital reduction depending on what is ideally the best decision for the business.
  • In this article we have captured the conditions that is required to be met with by the company while considering buy-back of shares.
  • ‘Buy-back’ is an offer by a company to its shareholders to acquire a predetermined number of shares at a predetermined price. Pursuant to the buy-back, the shares bought back are cancelled.
  • There are two ways a company may buy back its shares, through a tender offer or through the open market.
Guide to Buyback of Shares in India under Companies Act and Tax Considerations

COMPANIES ACT CONSIDERATIONS

1. To carry out buyback of shares, following conditions under Companies Act, 2013 should be complied.

  1. Debt-equity ratio of Indian company post buyback should not exceed 2:1;
  2. In value, buyback cannot exceed 25% of total paid-up share capital and free reserves (including securities premium);
  3. More than one buyback is restricted within a period of 12 months from the closure of the preceding offer of buyback and buyback of equity shares cannot exceed 25% of the paid-up equity capital in any one year;
  4. Sum equal to nominal value of shares bought back needs to be transferred to Capital Redemption Reserve from free reserves.;
  5. All the shares or other specified securities for buy-back should be fully paid-up;
  6. Buyback up to 10% of paid-up equity share capital and reserves to be approved by the board of directors. Buyback exceeding 10% has to be approved by a special resolution passed at a general meeting of the company. Every buy-back shall be completed within a period of 1 year from the date of passing of the special resolution/approval of BOD;
  7. Buyback permitted out of free reserves or securities premium account or proceeds of issue of any shares or other specified securities. No buyback of any kind of shares or other specified securities shall be made out of proceeds of an earlier issue of the same kind of shares or same kind of other specified securities;
  8. Buyback must be authorized by articles of association.
  9. Refer Annexure for further conditions to be complied for buyback of shares.
  10. List of buy-back of shares can be accessed in https://www.sebi.gov.in/sebiweb/home/HomeAction.do?doListing=yes&sid=3&ssid=22&smid=17

2. Where the shareholders are non-residents, pricing guidelines under the exchange control regulations would be required to be adhered to determine the buy-back price which would be maximum/ cap price of the equity shares.

 

INCOME-TAX CONSIDERATIONS

  • Section 115QA of the Income-tax Act, 1961, governs the provisions for tax on distributed income to shareholders. It stated that any amount of distributed income by the company on buy-back of shares from a shareholder shall be charged to tax and such company shall be liable to pay additional income tax at the rate of twenty percent on the distributed income.
  • The amount received on issue of shares has to be determined as per Rule 40BB of the Income-tax Rules. Some of the methodologies relevant for determining amount received on issue of shares are as under:

Situation

Amount received on issue of shares

Shares issued by way of subscription

Amount actually received in respect of such share, including any amount actually received as securities premium.

Where any amount out of amount received on issue of shares has been returned to shareholders prior to buyback (for instance, any previous buyback, or reduction of share capital)

Amount received in respect of shares less sum so returned. However, no deduction is allowed in respect of dividend distribution tax paid u/s 115O.

Shares issued under employee stock option/sweat equity.

Fair market value of the share computed in accordance with sub-rule (8) of rule 3, to the extent credited to the share capital and securities premium account by the company.

Shares issued or allotted, without any consideration, on the basis of existing shareholding, i.e., Bonus shares

Consideration deemed to be Nil

Shares issued on conversion of preference shares/bonds/debenture/deposit certificate/warrants/any other security issued

Amount received by the company in respect of such instrument as so converted.

  • Buy‑back tax is levied on the Company at the effective rate being 23.296%, on the ‘distributed income’.
    • Distributed income = [Consideration paid by the Company on buy-back of its shares] Less: [amount received by the Company on issue of such shares computed in a prescribed manner]
  • Income received on buy-back is exempt from tax in the hands of the shareholders under section 10(34) of the IT Act.
  • The company shall be liable to pay the tax to the credit of the Central Government within fourteen days from the date of payment of any consideration to the shareholder on such buy-back.
    • Mandatory interest @ 1% per month on amount of buyback tax. The interest is required to be paid for period from 15th day following payment of consideration till the date when buyback tax is actually paid;
    • The principal officer of the company is treated as an assessee-in-default.
  • The tax on the distributed income by the company shall be treated as the final payment of tax in respect of the said income and no further credit therefor shall be claimed by the company or by any other person in respect of the amount of tax so paid.
  • No deduction under IT Act shall be allowed to the company or a shareholder in respect of the income which has been charged to tax on such buy-back

OUR COMMENTS

There could be several reasons for buy-back, such as the stock price might be undervalued or excess cash available with the company or strengthen the promoter holding in the company.  While at the time of buyback there is a tax leakage for the company but most of these buy-back is done with certain objective. Strengthening the promoters holding and rewarding the shareholders are the more commons reasons among others.

It would be prudent for the companies to note that due to provisions of the Companies Act, only 25% shares can be bought back, hence in order to buy-back the entire shares from the shareholders, the process may take up to 5 years.

 

Overview of conditions for buyback as per Companies Act, 2013

Following conditions are prescribed for a buyback under the Companies Act, 2013:           

  1. A fresh issue of shares/securities of the same kind within a period of 6 months cannot be made including allotment of new shares by way of rights issue except by way of a bonus issue or in the discharge of subsisting obligations such as conversion of warrants, stock option schemes, sweat equity or conversion of preference shares or debentures into equity shares.
  2. More than one buyback is restricted within a period of 12 months from the closure of the preceding offer of buyback
  3. Buyback in respect of unlisted shares or other specified securities should be in accordance with Rule 17 of the Companies (Share Capital and Debentures) Rules, 2014 viz. specifying objective of buyback, method to be adopted for buyback, price and basis of arriving at price, confirmation regarding no default in repayment of deposits and interest thereon etc.
  4. Note:  No company shall, directly or indirectly, purchase its own shares or other specified securities:
    1. through any subsidiary company including its own subsidiary companies;
    2. through any investment company or group of investment companies;
    3. In case of non-compliance with the provisions of sections 92 (annual return), 123 (declaration of dividend), 127 (Punishment for failure to distribute dividends) and section 129 (financial statement) of the Companies Act, 2013;
    4. If a default in the repayment of deposits, interest payment thereon, redemption of debentures or preference shares or payment of dividend to any shareholder, or repayment of any term loan or interest payable thereon to any financial institution or banking company unless the default is remedied and a period of 3 years has lapsed after such default ceased to subsist.
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Affluence Advisory
(corporates )
Category Income Tax   Report

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