The Insolvency and Bankruptcy Code was made operational in December 2016. Soon after, RBI identified 12 large NPAs with an outstanding debt of Rs 26 billion and directed the lenders to refer these to the National Company Law Tribunal (NCLT). The Code provides substantial power to NCLT and enforces a strict time-line for speedy implementation of revival plans. Most companies referred to NCLT are operating at significantly low capacities and require substantial infusion of funds to operate at full capacity. However, although nobody would want to acquire such a company at its full value, if an asset becomes an NPA, lenders would be willing to compromise.
This willingness on the part of lenders, coupled with reduced operating capacity and accumulated losses, allows acquirers to offer a discounted price and acquire plants. In addition to providing relief to lenders on stressed assets or NPAs, the Code offers hitherto unknown opportunities to existing players to acquire such assets at highly discounted valuations. The government and RBI seem determined to solve the problem of stressed assets plaguing PSU banks. This is expected to lead to similar opportunities becoming available in other sectors.
Although there seems to be a clear intention that the Resolution Plan is quickly implemented under the Code, several problems under tax and regulatory statutes have been encountered in implementing it. Now, issues are being settled through amendments to statutes. For instance, acquisition of more than 26% of the voting rights or control in a listed target company would have resulted in a public offer.
This issue has been resolved by an exemption being provided in the regulation. Similarly, in the case of a substantial change in the shareholding of a target, Section 79 of the Income-tax Act, 1961, became a hurdle, since losses were not allowed to be carried forward and set off. Section 79 was amended to provide that it would not apply to any such changes after the Resolution Plan was approved—provided the jurisdictional principal commissioner or commissioner was given a reasonable opportunity of being ‘heard’.
A major consideration in any revival plan is a reduction in the cost of its implementation—tax or stamp duty are major costs that need to be reduced. While the government is trying for a speedy revival of stressed assets and a smooth transition for acquirers, there are areas that need to be addressed.
A major hurdle faced by such companies is the Minimum Alternate Tax (MAT) payable on book profits. Any revival package involves cutbacks for all stakeholders, which results in a write-back in a company’s books. This profit is liable to MAT. Section 115JB provides exemption for the entire profit of a sick company until it is revived. It is expected that a similar exemption will be provided for the book profits of a company admitted under the Code.
The Finance Act, 2018, has amended Section 115JB to allow the total book loss, including depreciation, to be set off against the book profit, instead of book loss or depreciation, whichever is higher. But more amendments are needed, which are similar to the exemption available for sick companies. Apart from MAT, write-back is also liable to the normal tax implications under Section 41(1) of the I-T Act under certain circumstances.
Other major glitches have resulted due to the implementation of Sections 56(2)(x) and 50CA of the I-T Act—these were introduced to curb understatement of considerations. Section 56(2)(x) provides for taxation on the difference between the consideration and the deemed value in the hands of an acquirer and Section 50CA for taxation of the same difference in the hands of a seller. Under the Resolution Plan, such assets are acquired at a substantially discounted price that is approved by a committee of creditors and NCLT.
Since such a transaction is undertaken at a price approved by statutory authorities, there should be no question of understatement of consideration. Thus, an exemption should be made for transactions that are executed to give effect to the Resolution Plan—specifically on the applicability of Sections 56(2)(x) and 50CA. A similar exemption could be provided under Stamp Act, FEMA, etc.
The enactment of the Code for relieving banks of NPAs and reviving debt-laden industries has been implemented with a good intention. This may, however, not be fully achieved unless tax and regulatory relaxations are granted.
By Hiten Kotak & Falguni Shah
Hiten Kotak is leader and Falguni Shah is partner, M&A Tax, PwC India. Views are personal.
(Nidhi Mehta and Kshitij Jain contributed to this article)