IBC auctions: Stressed unlisted firms may get tax incentives | Business Standard News

Transfer of shares of unlisted stressed companies at a price below its fair market value might soon be exempt from the tax net, according to the government’s plans. The move, if implemented, would bring down the cost of investment and benefit buyers. Fair market value is the company’s adjusted book value.
The government is also deliberating on allowing carry forward of losses if over 51 per cent shares of a stressed company change hands.
The tax on transfer of shares in unlisted companies was becoming an issue in insolvency cases. Under Section 56 of the Income-Tax (I-T) Act, a transfer of shares in an unlisted company at a price below the fair market value is considered income in the hands of the transferee, and is subject to tax under the head ‘other income’. This effectively translates into a tax at the rate of 30 per cent. This I-T provision was brought in as an anti-abuse provision to prevent tax evasion.
“In the case of asset-heavy businesses such as steel and cement, there could be several instances where the book value of the shares could be higher but the fair market value of the shares of a stressed company, which is discovered through an IBC (Insolvency and Bankruptcy Code) bid process, could turn out to be lower than the book value, resulting in the difference being taxable in the hands of the transferee as other income,” said Siddharth Shah, partner, Khaitan & Co.
According to Shah, if the price discovery has happened through a bid process and if the discovered price is lower than the book value, it should be deemed to be the fair market value and, hence, should not be considered imputed income in the hands of the purchaser of these shares. Secondly, Shah said that continuing to apply the book value to be the fair market value of the shares in a stressed company could hamper the free price discovery of the asset.
The government is also looking at proposals to allow carry forward of losses, which is not allowed at present.  Typically, more than 51 per cent of shares of a stressed company would be purchased by the acquirer in such transactions. This could, in some situations, cause lapse of past tax losses.

“The purpose of shareholding transfer in such cases is not for tax planning or tax evasion but it represents a genuine transfer of assets for business reconstruction. So, disallowance of carried forward losses is not called for in the first place,” said Riaz Thingna, director, Grant Thornton Advisory.
I-T laws provide that in case of any change in control of an entity or any carry forward of losses — which an entity is entitled to get — a set-off against profits of subsequent years will be lost. This was done with the idea of avoiding abuse in terms of trading of entities with accumulated losses to defer taxes.
Shah said: “In the given construct of distressed entities, this could mean a loss of tax shelter for the target and the buyer. Further, the change of control in case of IBC auctions is driven by the law and not a voluntary change in control and, hence, should not result in loss of these benefits to the company and its shareholders.”

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“In a resolution plan involving the merger of a stressed company with another profitable company, the benefit of transfer of tax losses should be extended even in situations where the stressed company does not carry out industrial activity and is not eligible to transfer tax losses,” said Vivek Gupta, partner and national head, M&A Tax, KPMG India.
From a procedural perspective, change in control can result in a situation where the acquirer is left with new personnel, limited documents related to the past and, so, may be unable to adequately defend past tax positions and produce all requisite supporting documents for the claims, said experts. “Immunity from penal consequences could be considered in such situations as well,” Gupta said.
Buyers in IBC auctions to benefit
  • Exemption of tax on transfer of shares of unlisted firms would bring down cost of investment and benefit buyers
  • Section 56(2)(x) proposed to tax difference between fair market value and consideration received for transfer of shares as capital gains in hands of the transferee
  • For asset-heavy businesses, the fair market value of shares can often be lower than book value
  • Experts feel change of control for insolvency auctions is not voluntary and say it should not result in loss of benefits to firms and shareholders

via IBC auctions: Stressed unlisted firms may get tax incentives | Business Standard News

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