[Analysis] Capital Restructuring Tax Impact on Company and Shareholders

Capital Restructuring refers to a significant modification in a company's capital structure, which typically involves altering the composition or balance between its debt and equity. This process can include actions such as issuing new shares, buying back existing shares, converting debt into equity, or restructuring existing debts through renegotiation of terms or refinancing. The goal is typically to create a more stable and financially efficient corporate entity that can achieve long-term growth and investor confidence.

By Advocate Anil Chachra

Table of Contents

1. Capital Restructuring Plan – Under Law
2. Capital Restructuring Options Under Merger/Amalgamation, Demerger & Slump Sale
3. Capital Restructuring Options Under – Capital Reduction/Buyback of Shares
4. Capital Restructuring Options Under – Issuance of New Shares/Bonus Shares
5. Restructuring Options Under – Redemption/Conversion
6. Restructuring Options Under – Waiver/Conversion of Loan into Equity
7. Restructuring Options Under – IBC

1. Capital Restructuring Plan – Under Law

2. Capital Restructuring Options Under Merger/Amalgamation, Demerger & Slump Sale

2.1 Capital Restructuring Options Under – Merger/Amalgamation

Amalgamation/Merger – As per Company Law

As per section 230-232 of the Company Act – Overview

Through NCLT Approval

• Section 230 – defines the procedure for compromise or make arrangements with creditors and members
• Section 231 – Power of Tribunal to enforce compromise or arrangement
• Section 232 – Merger and amalgamation of companies
• Section 233-235 – Merger for certain companies

2.1.1 Impact on Company

Amalgamation/Merger – As per Income Tax

• Section 47 (vi) – Any transfer, in a scheme of amalgamation of capital asset by the amalgamating company to the amalgamated company if the amalgamated company is an Indian Company – will not be transfer – Tax Neutral merger
• Section 49(1) – Cost of acquisition of property in the amalgamated company shall be deemed to be the cost for which the previous owner of the property acquired it
• Section 2(42A) – Period of holding shall include the period for which the capital assets in the amalgamating company were held by the assessee
• Section 55(2)(b) – FMV option is available if the property become the previous owner before 1-4-2001

Amalgamation as per Section 2(IB)

• Amalgamation in relation to companies means……..the merger of one or more companies with another company or the merger of two or more companies to form one company…..

1. 1. All the property of the amalgamating company….
   2. all the liabilities of the amalgamating company….
   3. Shareholders holding not less than 3/4th in value of the shares………. [Relevant Extract]

Capital Assets

• Section 2(14) – Capital assets means “ property of any kind held by an assessee……. [Relevant Extract]

Transfer

• Section 2(47) – Transfer in relation to capital asset, includes
  1. sale, exchange or relinquishment of the asset; or
  2. the extinguishment of any rights therein; or ……. [Relevant Extract]

2.1.2 Impact on Shareholders

Amalgamation/Merger – As per Income Tax

Section 47 (vii) – Any transfer, by shareholder, in a scheme of amalgamation of capital asset  being shares held by him in the amalgamated company if

• the transfer is made in consideration of the allotment to him of any share or shares in the [amalgamated company except where the shareholder itself is the amalgamated company, and
• the amalgamated company is an India company; [Will not be treated as transfer]

Transfer of shares in Amalgamation is an extinguishment of right – will be transfer as held in CIT vs. Grace Collis [2001] 115 Taxman 326/248 ITR 323 (SC) – the expression does include the extinguishment of rights in a capital asset independent and of otherwise than on account of transfer- overturned the Vania Silk Mills (P.) Ltd. v. CIT [1991] 59 Taxman 3/191 ITR 647 (SC)

• Deemed Dividend – Section 2(22)(C) – any distribution made to the shareholders of a company on its liquidation………[Relevant Extract]
• Q – What would be the implication of dividend in the merger in the hands of shareholders?
• As per circular no 5 (LXXVI-63) of 1967 – dated 9-10-67 The provision is attracted only in a case where a company goes into liquidation and not where it merges with another company in a scheme of amalgamation without going into liquidation. The Board are, therefore, of the view that the provisions of sub-clause (a) or (c) of section 2(22) are not attracted in a case where a company merges with another company in a scheme of amalgamation.
• Section 49(2) – Cost of acquisition of shares in the amalgamated company – the cost of acquisition of shares shall be deemed to be cost of acquisition to him of share or shares in the amalgamating company
• Section 2(42A)(c) – Period of holding- shall be included the period for which the shares in the amalgamating company were held by the assessee

2.2 Restructuring Options Under – Demerger

2.2.1 Impact on Company

Demerger – As per Income Tax

• Section 47 (vib) – Any transfer, in a demerger of capital asset by the demerged company to the resulting company, if the resulting company is an Indian Company – will not be transfer – Tax Neutral demerger
• Section 49(1) – Cost of acquisition of property of the in the resulting company- shall be deemed to be the cost for which the previous owner of the property acquired it.
• Section 2(42A) – Period of holding- shall be included the period for which the capital assets in the demerged company were held by the assessee.
• Section 55(2)(b) – FMV option is available if the property become the previous owner before 1-4-2001

Demerger as per Section 2(I9AA)

Demerger in relation to companies means……..the transfer pursuant to a scheme of arrangements u/s 230-232 of Companies Act, 2013 by a demerged company of its one or more undertakings to any resulting company

1. All the property of the undertaking………
2. all the liabilities of the undertaking…..
3. Shareholders holding not less than 3/4th in value of the shares………. [Relevant Extract]

Capital Assets

• Section 2(14) – Capital assets means “property of any kind held by an assessee……. [Relevant Extract]

Transfer

• Section 2(47) – Transfer in relation to capital asset, includes

1. sale, exchange or relinquishment of the asset; or
2. the extinguishment of any rights therein; or ……. [Relevant Extract]

2.2.2 Impact on Shareholders

Demerger – As per Income Tax

Section 47 (vid) – Any transfer, or issue of shares by the resulting company, in a scheme of demerger to the shareholders of the demerged company if the transfer or issue is made in consideration of demerger of the undertaking [Will not be treated as transfer].

Transfer of shares in Demerger is an extinguishment of right – will be transfer as held in CIT v. Grace Collis [2001] 115 Taxman 326/248 ITR 323 [SC] – the expression does include the extinguishment of rights in a capital asset independent and of otherwise than on account of transfer- overturned the Vania Silk Mills (P.) Ltd. v. CIT [1991] 59 Taxman 3/191 ITR 647 (SC).

• Q – What would be the implication of dividend in the demerger of the in the hands of shareholders?
• As per clause (v) of exemptions clause of section 2(22).
• Any distribution of shares pursuant to a demerger by the resulting company to the shareholders of the demerged company (whether or not there is a reduction of capital in the demerged company dividend will not be applicable.
• Section 49(2D) – Cost of acquisition of shares in the resulting company – shall be the amount which bears to the cost of acquisition of shares held by the assessee in the demerged company the same proportion as the net book value of the assets transferred in a demerged bears to the net worth of the demerged company immediately before such demerger.
• Section 2(42A)(g) – Period of holding shall include the period for which the shares in the demerged company were held by the assessee.

2.3 Restructuring Options Under – Applicability of GAAR

2.3.1 Impact on Shareholders and Company

Restructuring – As per Income Tax

• Will the GAAR will be invoked if arrangement is sanctioned by an authority such as court, NCLT or is in accordance with judicial precedents etc.?
• As per Circular no 7 of 2017 dated 27 January, 2017
• While the court has explicitly and adequately considered the tax implication while sanctioning the arrangement, GAAR will not apply to such arrangement”

Panasonic India (P.) Ltd., In re [2022] 138 taxmann.com 570 [NCLT-Chd] – At the time of approval of scheme GAAR will not be invoked. At the time of assessment the department is at liberty to invoke GAAR

2.3.2 Important Judicial Pronouncements

• Marshall Sons and Co. (India) Ltd. v. ITO [1996] 89 Taxman 619/[1997] 223 ITR 809 [SC] – Appointed day for amalgamation
• CIT vs. Raskiklal Maneklal (HUF) – Amalgamation is not transfer
• CIT vs. Grace Collis [2001] 115 Taxman 326/248 ITR 323 [SC] – Amalgamation is an extinguishment of right
• McDowell & Co Ltd. vs. CTO [1985] 22 Taxman 11/154 ITR 148 [SC] – Tax Planning vs. colourable device
• CIT vs. Gautam Sarabhai Trust No. 31 [1988] 40 Taxman 178/173 ITR 216 [Guj.] – Received other than shares are taxable
• Principal CIT v. Maruti Suzuki India Ltd. [2019] 107 taxmann.com 375/265 Taxman 515/416 ITR 613 [SC] – Amalgamating company ceased to exist
• Indo Rama Textile Ltd., In re [2012] 23 taxmann.com 390/[2013] 212 Taxmann 462 (Delhi) – Meaning of undertaking in case of demerger

2.4 Restructuring Options Under – Slump Sale

2.4.1 Impact on Company

Slump Sale – As per Income Tax

Prior to 1-4-2021: Section 2 (42C – slump sale means the transfer of one or more undertaking as result of ‘sale’ [Relevant Extract]

CIT vs. Bharat Bijlee Ltd. [2014] 46 taxmann.com 257/365 ITR 258 [Bom.] – Sale means monetary consideration. Transfer by way of issue of shares will not part of slump sale.

w.e.f 1-4-2021: Slump sale means the transfer of one or more undertaking, by any means for lump sum consideration without values being assigned to the individual assets and liabilities in such transfer’. [Relevant Extract]

3. Capital Restructuring Options Under – Capital Reduction/Buyback of Shares

As per Company Law

As per section 66 of Company Act – Reduction of Share Capital – Through NCLT Approval

(a) Extinguish or reduce the liability on any of its shares in respect of the share capital not paid-up; or

(b) Either with or without extinguishing or reducing liability on any of its shares-

(i) Cancel any paid-up share capital which is lost or is unrepresented by available assets; or

(ii) Pay off any paid-up share capital which is in excess of the wants of the company.

As per section 68 – Buy back of shares – ‘Without NCLT Approval’

(a) From the existing shareholders or security holders on a proportionate basis;

(b) From the open market

(c) By purchasing the securities issued to employees of the company pursuant to a scheme of stock option or sweat equity

3.1 Restructuring Options Under – Capital Reduction

3.1.1 Impact on Company

Capital Reduction – As per Income Tax

Cancel – paid-up share capital: Book entry by way of adjustment in the books – no specific tax treatment

Pay-off share capital: Book entry by way of adjustment in the books – no specific tax treatment

3.1.2 Impact on Shareholders

Capital Reduction – As per Income Tax

Impact on Shareholders – By paying off the paid-up capital

• Deemed Dividend Implications u/s 2(22)(d) – Any distribution to its shareholders by a company on the reduction of its capital, to the extent to which the company possesses accumulated profits. Whether such accumulated profits have been capitalized or not.
• W.e.f. 01-04-2020 – Dividend is taxable in the hands of shareholders.
• Capital Reduction is a transfer?
• The Hon’ble SC in Kartikeya V. Sarabhai v. CIT [1997] 94 Taxman 164/228 ITR 163 (SC) – has held that capital reduction is a transfer.
• CIT vs. G. Narasimhan [1999] 102 Taxman 66/236 ITR 327 (SC) – Capital reduction – is a transfer and liable to capital gain tax

Impact on Shareholders – By canceling the share capital

• No distribution of assets – Cancel the share capital will be the capital loss in the hands Shareholders.
• Recently Mumbai Tribunal in TATA Sons Ltd. vs. CIT [2024] 158 taxmann.com 601 (Mum.-Trib.) relying on Gujrat HC in CIT vs. Jay Krishna Harivallabhdas [1998] 231 ITR 108 (Guj.) has held that:
  • Reduction of capital is the extinguishment of right on the shares and amounts to transfer
  • Loss on the reduction of shares is a capital loss and not notional loss
  • When the assessee has not received any consideration on reduction of capital but its investment was reduced to loss resulting into capital loss – and it will be allowed, [Yes Allowed]

3.2 Restructuring Options Under – Buyback of Shares

3.2.1 Impact on Company

Buyback of Shares – As per Income Tax

• Section 115QA – Tax on distributed income to shareholders- In case of buyback of shares [listed or unlisted] – domestic company shall be liable to pay additional income tax at the rate of 20 per cent on the distributed income.
• Buyback means the purchase by a company on its own shares in accordance with the provisions of section 77A [section 68] of the Companies Act.
• W.e.f. 1-6-2016- section 77A [68] has been replaced with any law for the time being in force relating to companies

Rationale for change in law – 115QA

The Bombay High Court in SEBI vs. Sterilite Industries (India) Ltd. [2003] 45 SCL 475 (Bom.) and in Capgemini India Private Limited held that it is not mandatory for a company to buy back it shares only by following the procedure prescribed u/s 77A [68]of the Act. Company can follow the procedure u/s 100-104 of the erstwhile act.

Judicial Pronouncements

• Recently the Mumbai Tribunal in ACIT vs. Meriton Infotech (P.) Ltd. [2024] 159 taxmann.com 181 (Mum.-Trib.) has held that buyback through capital reduction scheme u/s 100-104 before 1-4-2016 will not be chargeable u/s 115QA.

Now every buyback under any scheme will be chargeable to distribution tax u/s 115QA

3.2.1 Impact on Shareholders

Buyback of Shares – As per Income Tax

• Section 56(2)(X) any implication?
• Held that the provisions of section 56(2)(x) of the Act are applicable only in the cases where the purchased shares became property in the hands of the buyer company and, if the shares are of any other company. However, in the case under consideration the assessee purchased its own shares under buyback scheme the same has been extinguished by reducing the paid up capital of the assessee company. Not applicable as held in
• Vora Financial Services (P.) Ltd. vs. Asstt. CIT [2018] 96 taxmann.com 88/171 ITD 646 (Mum.-Trib.) and followed in VITP (P.) Ltd. vs. Dy. CIT [2022] 143 taxmann.com 304/197 ITD 395 (Hyd.- Trib.)
• Dy. CIT vs. Globe Capital Market Ltd. [2023] 156 taxmann.com 620/203 ITD 758 (Delhi-Trib.)
• Section 10(34A) – Any income arising to an assessee being a shareholder, on account of the buyback of shares by the company u/s 115QA is exempt from tax
• Section 46A [Capital Gain on Buy Back of Shares] – is still applicable?
• Post the implementation of section 115QA – the section 46A – has no relevance

4. Capital Restructuring Options Under – Issuance of New Shares/Bonus Shares

4.1 Issuance of New Shares

4.1.1 Impact on Company

• Section 56 (2)(viib) – ‘Angel Tax’
• Where a company not being a company in which the public are substantially interested, received in any previous year from any person being a resident any consideration for issue of shares that exceeds the face value of such shares, the aggregate consideration received for such shares as exceeds the fair market value of such shares shall be treated as other income.
• W.e.f- 01-4-2024; now every person [Resident or Non–Resident] will be included
• Exceptions for Start-up Companies and Venture Capital Undertaking.
• FMV shall be determined u/r 11U and 11UA
• Section 56 (2)(viib) vs. Section 68 Interplay
• As held in Sunrise Academy of Medical Specialties (India) (P.) Ltd. vs. ITO [2018] 96 taxmann.com 43/257 Taxman 373/409 ITR 109 (Ker)
• This provision is not controlled by Section 68 which provides that when a resident investor is not able to explain the nature and source for credit seen in the books of account of company or explanation offered is not satisfactory, then entire credit would be charged to income tax for that previous year. However, if an explanation is offered and it is satisfactory in the case of closely-held company, then charge to tax will only be to that portion exceeding fair market value determined, in which public is not substantially interested, which anyway has to occur u/s 56(2)(viib)
• Section 79 – ‘’- Carry forward and set off of losses
• Fifty one percent voting power who beneficially held the shares should be same on the last day of the year in which loss was incurred. [In case of a start-up company all the shareholders should remain same]

4.1.2 Judicial Pronouncements

• In CIT vs. Amco Power Systems Ltd. [2015] 62 taxmann.com 350/235 Taxman 521/379 ITR 375 [Kar.] followed in CLP Power India (P.) Ltd. vs. Dy. CIT [2018] 93 taxmann.com 326/170 ITD 744 (Ahm.-Trib.] held that
  • If Ultimate control by same holding company by transferring its shares to another subsidiary company section 79 is not applicable.
• In Yum Restaurants (India) (P.) Ltd vs. ITO [2016] 66 taxmann.com 47/237 Taxman 652/380 ITR 637 (Delhi). It was held that shareholding are not the same Section 79 is applicable
• Conversion of Cumulative Convertible Debentures into equity – Impact on section 56(viib)

Kol-Tribunal in Milk Mantra Diary (P.) Ltd. VS. Dy. CIT [2022] 140 taxmann.com 163/196 ITD 333 [Kol.-Trib.] has held that

The term consideration“, is a term of wider import when compared with words “amounts” or “money”. Receipt of money is one of the several modes for having a consideration in a transaction. Consideration can partake many forms viz. tangible or intangible, pecuniary or non-pecuniary, direct or indirect. Section 56(2)(viib) contains the words “receives any consideration” which encompasses consideration in all forms and not limited to only receipt of money. In this backdrop what the assessee receives as consideration on the conversion of a debt security of CCDs into equity shares which subsequently forms part of the capital base of the assessee. Thus, when looked from these aspects, section 56(2)(viib) envisages a much wider outlook to the “receipt of any consideration” which cannot be limited to the receipt of money only. The conversion of CCDs into equity shares in assessment year 2013-14 entails receipt of consideration by the assessee which is translated into the total issue price including share premium.

• Rejections of DCF method without finding fault in the valuation report and substitution of net asset method not allowed. As per Rule 11UA assessee has option to select the method of valuation of shares as held in:

1. 1. CIT vs. Vibhu Talwar [2011] 11 taxmann.com 419/200 Taxman 67 (Delhi) (Mag.)
   2. Vodafone M-Pesa Ltd. vs. Principal CIT [2018] 92 taxmann.com 73/256 Taxman 240 (Bom.)
   3. Innoviti Payments Solutions (P.) Ltd. vs. ITO [2019] 102 taxmann.com 59/175 ITD 10 (Bang.)
   4. Dy. CIT vs. Hometrail Buildtech (P.) Ltd. [2023] 155 taxmann.com 578/[2024] 204 ITD 154 (Delhi – Trib.)

• On the valuation date, the valuation can be based only on estimated future projections and actual figures available subsequently cannot be replaced.

1. 1. DQ (Internatinational) Ltd. vs. Asstt. CIT [2016] 72 taxmann.com 142 (Hyd.-Trib.)
   2. Cinestaan Entertainment (P) ltd. vs. ITO [2019] 106 taxmann.com 300/177 ITD 809 (Delhi – Trib.)
   3. Flutura Business Solutions (P.) Ltd. vs. ITO [2020] 117 taxmann.com 567/183 ITD 446 (Bang.-Trib.)
   4. Vodafone M-pesa Ltd. vs. Dy. CIT [2020] 114 taxmann.com 323/181 ITD 242 (Mum. – Trib.)

4.1.3 Impact on Shareholders

• Cost of acquisition of new shares – actual amount paid – section 55(2)(aa)(i)
• Cost of acquisition of bonus shares – Cost of acquisition will be nil
• Period of holding Section 2(42A) – Calculated from the date of allotment
• At the time of sale – Capital gain provisions will get apply – subject to the provisions of section 50CA special procedure for full value of consideration of unquoted shares

4.2 Issuance of Bonus Shares

4.2.1 Impact on Company

No Impact on the company

4.2.2 Impact on Shareholders

• Deemed Dividend Implications u/s 2(22)(a)
• The distribution does not take the form of payment of accumulated profits in cash to the shareholders and does not therefore, entail release of any assets of the company so as to fall within the second condition of section 2(22)(a). As held in
• CIT vs. Dalmia Investment Co. Ltd. [1964] 52 ITR 567 (SC) Shashibala Navnitlal vs. CIT [1964] 54 ITR 478 (Guj.)
• Section 56(2)(X)/56(2)(viia) Implications
• Recently as held by Delhi Tribunal in DCIT vs. Smt. Aruna Chandok that section 56 is not applicable for bonus shares

5. Restructuring Options Under – Redemption/Conversion

5.1 Redemption/Conversion of Preference Shares – Impact on Company

• Redemption of preference shares. No Impact on company
• Conversion of preference shares into equity Section 56(2)(viib) may get invoke as per Kolkata Tribunal in
• Milk Mantra Diary (P.) Ltd. vs. Dy. CIT [2022] 140 taxmann.com 163/196 ITD 333 (Kol.- Trib.)

5.2 Redemption of Preference Shares – Impact on Shareholders

• Redemption of Preference Shares is a transfer?
• As held in Anarkali Sarabhai vs. CIT [1997] 90 Taxman 509/224 ITR 422 (SC) that Such a transaction is nothing but sale of the preference shares by the shareholder to the company will be treated as transfer and any amount received excess over the face value will be chargeable to capital gain.
• Accordingly, Capital loss will be allowed as held in Parle Biscuits Pvt. Ltd. [TS-477-ITAT- Mum]
• In Enzen Global Solutions (P.) Ltd. vs. ITO [2022] 144 taxmann.com 2 (Bang.-Trib.) held that Liability to tax premium on redemption of preference shares arose when the sum was actually received. Capital gains are not as from other sources.

5.3 Conversion of Preference Shares – Impact on Shareholders

• Conversion of preference shares/bonds into equity will be treated as transfer?
• As per section 47(x)/(xb) any transfer by way of conversion of preference shares/bonds of company into equity shares of that company – will not be treated as transfer.
• At the time of sale – Capital Gains
• Holding period as per section 2(42A) will be included from the original date
• Cost of acquisition of the equity as per section 49 (1)(2A) will be the cost of preference/bonds

6. Restructuring Options Under – Waiver/Conversion of Loan into Equity

6.1 Conversion of Loan into Equity

6.1.1 Impact on Company

• Section 269T mandates that loan/deposit have to be re-paid by account payee cheque or electronic clearing system/electronic mode system.
• The issue which arises for determination is whether conversion of loan into equity can be said to be in contravention of provisions of section 269T of the Act.

Judicial Pronouncements

• In case of Arkit Vincom Private Limited vs. ACIT (ITA no 2397-Kol-Tri) held that the transaction with respect to the conversion of loan into equity carried out by the taxpayer through book entries without any physical outflow of funds cannot be considered to the violation of provisions of section 269T. Therefore levy of penalty u/s 271E is to be deleted. Further held in CIT vs.Triumph International Finance (I) Ltd. [2012] 22 taxmann.com 138/345 ITR 270/208 Taxman 299 (Bom.)

6.2 Waiver/Remission of Loan

6.2.1 Impact on Company

Tax Implications on waiver of loans and other liabilities:

Tax implications on waive of loans can be bifurcated based on type of loan & end user as under:

• Tax Implications on waiver of loans and other liabilities: Dependent on its utilization e.g, capital purpose and working capital loan.
• Potential tax implication under section 41(1), 28(iv) and 194R
• Analysis of section 41 [Relevant Extract]

Where an allowance or deduction has been made in the assessment for any year in respect of loss, expenditure or trading liability incurred by the assessee and subsequently during any previous year……

The first mentioned person has obtained, whether in cash or in any other manner whatsoever, any amount in respect of such loss or expenditure or some benefit in respect of such liability by way of remission or cessation thereof, the amount obtained by such person or the value of benefit accruing to him shall be deemed to be profits and gains of the business………

• Q – Whether the waiver or write of loans will be taxable u/s 41?

6.2.2 Erstwhile Law

Tax Implications on waiver of loans and other liabilities: Dependent on its utilization e.g, capital purpose and working capital loan.

Analysis of section 28(iv)

“Erstwhile section” – [Pre-amendment to Finance Act, 2023]

The value of any benefit or perquisite, whether convertible into money or not, arising from business or the exercise of a profession. There are three ingredients:

1. Benefit or Perquisite should arise to the recipient;
2. Should arise from business or exercise of a profession;
3. Whether convertible into money or not

1. Term “benefit or perquisite” – Not defined in the act. To be referred in dictionary and judicial definitions

• Benefit – [Black’s Law Dictionary] defines benefit-advantage, fruit; profit; privilege

CIT vs. Smt. Kamalini Gautam Sarabhai [1994] 208 ITR 139 (Guj.) – rendered in context of 2(24)(iv)

The word “benefit” implies an element of advantage, profit or gain. The word “benefit” occurring in clause (iv) of section 2(24) would mean any advantage, gain or improvement in condition

• Perquisite – Section 17(2) of the Act defines “Perquisite” inclusively – however, this applies to salary income and not“ PGBP”;

[Black’s Law Dictionary] – defines “Perquisite” – A privilege or benefit given in addition to one’s salary or regular wages – often shortened to perk.

2. Arising from business and profession

Arising from business and profession ”The “benefit” or “perquisite” should have a connection with business or profession of the recipient and not with the business or profession of the person providing the perquisite of benefit.

• CIT vs. Bhavnagar Bone, & Fertiliser Co. Ltd. [1987] 32 Taxman 180 (Guj.) and CIT vs. General Electrodes & Equipments Ltd. [1985] 20 Taxman 205/155 ITR 78 (Bom.) This amount had no connection or nexus with the business of the assessee. It did not represent value of any benefit or perquisite arising from the business of the assessee. This amount, therefore, would not partake of the character of the income.
• ITO vs. Undavalli Constructions [2021] 131 taxmann.com 204/191 ITD 749 (Visakh.-Trib.) it is necessary to show and prove the proximate cause or nexus between the alleged benefit or perquisite and the business actually carried on by the assessee. The nexus or the proximate cause must be real, immediate and not illusionary or imaginary. The benefit or perquisite contemplated by sec. 28(iv) must necessarily have a live connection with the business carried on by the assessee and the benefit must accrue or arise in the course of carrying on of such business.
• Gujarat HC – CIT v. Chetan Chemicals (P.), Ltd. [2004] 139 Taxman 301 (Guj.) and further in CIT vs. Gujarat State Fertilizers & Chemicals Ltd. [2013] 36 taxmann.com 230/217 Taxman 229/358 ITR 323 (Guj.). It cannot be said that the assessee-company was carrying on business of obtaining loans and that the remission of such loans by the creditors of the company was a benefit arising from such business.

3. Whether Convertible in to money or not

• Commissioner v. Mahindra and Mahindra Ltd. [2018] 93 taxmann.com 32/255 Taxman 305 (SC). Amount received as cash receipt due to the waiver of loan very first condition of Section 28 (iv) of the Act which says any benefit or perquisite arising from the business shall be in the form of benefit or perquisite other than in the shape of money, is not satisfied.
• Gujarat HC – CIT v. Chetan Chemicals(P.) Ltd. [2004] 139 Taxman 301 (Guj.) and further in CIT vs. Gujarat State Fertilizers & Chemicals Ltd. [2013] 36 taxmann.com 230/217 Taxman 229/358 ITR 323 (Guj.) – It cannot be said that the assessee-company was carrying on business of obtaining loans and that the remission of such loans by the creditors of the company was a benefit arising from such business.
• CIT v. Alchemic (P.) Ltd. [1981] 5 Taxman 55 (Guj.) – The phrase “whether convertible into money or not“ would normally mean something else than money. Section 28(iv) would not apply when the amount received is cash or is considered in terms of money.

4. Purpose of Loan – Capital or Revenue

• CIT v. T.V. Sundaram Iyengar & Sons Ltd. [1996] 88 Taxman 429 (SC) – Taxpayer received certain deposits from customers. Such deposits were not claimed by the customers and hence, taxpayer transferred it to P&L a/c. Although it was treated as deposit and was of capital nature at the point of time it was received, by influx of time the money had become the assessee’s own money. It became a definite trade surplus.
• Logitronics (P.) Ltd vs. CIT [2011] 9 taxmann.com 302 (Delhi) – Where loan was taken for acquiring capital asset, waiver thereof would not be taxable; If loan was taken for trading purpose, waiver thereof would result in income, more so when it was transferred to P&L.
• CIT vs Ramaniyam Homes (P.) Ltd. [2016] 68 taxmann.com 289 (Mad.) – Amount representing principal loan waived by bank under one time settlement scheme would constitute income falling under section 28 (iv)
• Over ruled by SC in Mahendra & Mahendra

6.2.3 Amended Law

Amended Provision of section 28(iv) – w.e.f 1-4-2023

The value of any benefit or perquisite arising from business or the exercise of profession, whether:

(a) Convertible into money or not

(b) In cash or in kind or party in cash or in kind

Comments in the Memorandum for the Amendment

• The intention of legislature while introducing this provision was also to include benefit or perquisite whether in cash or in kind. However, courts have interpreted that if the benefit or perquisite are in cash, it is not covered within the scope of this clause of section 28 of the Act.
• In order to align the provision with the intention of legislature, it is proposed to amend clause (iv) of section 28 of the Act to clarify that provisions of the said clause also applies to cases where benefit or prerequisite provided is in cash or in kind or partly in cash and partly in kind.

Amended section 28(iv)

Four Limbs of amended section 28(iv)

• Benefit or perquisite should arise to the recipient
• Should arise from business or exercise or exercise of a profession
• Whether convertible into money or not
• In cash or in kind or partly in cash and partly in kind

Waiver of Loan – Post amendment – Section 28 (iv)

• The Hon’ble Supreme Court in Mahendra & Mahendra has settled a law that waiver of loan is the benefit in cash and will not be part of section 28(iv).
• Post amendment – all benefits whether convertible into money or not or in cash will be part of section 28(iv)
• Question – Waiver of loans in restructuring would be taxable u/s 28(iv)?
• Question – Whether waiver of such loan can be considered as “arising from” business or exercise of profession? Refer Chetan Chemicals (P.) case decided by the Hon’ble Gujarat High Court

6.2.4 Section 194R

Waiver of Loan – Section 194R Implication – Circular no 12/2022 and Circular 18/2022

• Prior to amendment in section 28(iv) – monetary benefits were not covered within the ambit of section 28(iv) – Mahendra & Mahendra (SC)
• One time loan settlement with the borrowers or waiver of loan granted on reaching settlement with the borrowers by specified institutions [Banks and Public financial institutions] would not be subjected to deduction of tax at source under section 194R.
• Waiver of loan apart from the specified borrower – Applicability of section 194R?
• Write of Bad Debts – Applicability of section 194R?
• The treatment of such settlement/waiver in the hands of the person who benefits from such waiver would not be impacted by this clarification. The taxability of such settlement/waiver in the hands of the beneficiary will be governed by the relevant provisions of the Act.

6.3 Waiver/Remission of Interest

Waiver of Interest – Implication under Income Tax Act

• Interest Expenses is allowed as deduction u/s 36(1)(iii) under Income Tax Act – subject to section 43B
• Waiver of interest amount would constitute income and be taxable under section 41(1) of the Act
• If the interest was claimed and disallowed u/s 43B in earlier years, the same is not taxable under section 41(1)
• It was also held that waiver cannot be taxable under section 28(iv)
• Waiver of interest – Taxable u/s 41(1) if deduction claimed in earlier years

6.4 Waiver/Remission of Loan – Accounting Treatment

Waiver of Loan – Implication under Accounting Standards

• Capital receipt(s) arising out of transaction(s) on capital account, like, profit on sale of capital asset, write back of principal amount of loan etc., not arising in the ordinary course of business, forms part of capital reserve.
• A Transaction on capital account (not arising out of ordinary business activities, is not be regarded as giving rise income which can be credited to profit an loss account.

Waiver of Loan – Implication under Indian Accounting Standards “Ind AS”

• Ind AS 109 states that upon waiver of loan , the difference between the carrying amount of loan and the consideration actually paid towards such waiver would be routed through profit and loss account
• Therefore, if a financial liability (Loan) is extinguished without paying any consideration, the entire extinguished liability would be treated as part of income in the profit and loss statement of the debtor

7. Restructuring Options Under – IBC

7.1 Resolution Plan

Section 5(26) Resolution plan means a plan proposed by resolution applicant for insolvency resolution of the corporate debtor as a going concern in accordance with Part II

Explanation. – For removal of doubts, it is hereby clarified that a resolution plan may include provisions for the restructuring of the corporate debtor, including by way of merger/amalgamation and demerger.

Section 31 – If the Adjudicating Authority is satisfied that the resolution plan as approved by the committee of creditors under sub-section (4) of section 30 meets the requirements as referred to in sub-section (2) of section 30, it shall by order approve the resolution plan

The resolution plan shall be binding on the corporate debtor and its employees, members, creditors, including the Central Government, any State Government or any local authority to whom a debt in respect of the payment of dues arising under any law for the time being in force, such as authorities to whom statutory dues are owed, guarantors and other stakeholders involved in the resolution plan [Q – Whether the Resolution plan will binding to the tax authorities?]

7.2 Distribution of Assets Under IBC – Section 53

Proceeds from the sale of liquidation assets shall be distributed: Section 53

(a) the insolvency resolution process costs and the liquidation costs paid in full;

(b) the following debts which shall rank equally between and among the following:

(i) workmen’s dues for the period of twenty-four months preceding the liquidation commencement date; and

(ii) debts owed to a secured creditor in the event such secured creditor has relinquished security in the manner set out in section 52

(c) wages and any unpaid dues owed to employees other than workmen for the period of twelve months preceding the liquidation commencement date

(d) financial debts owed to unsecured creditors;

(e) The following dues shall rank equally between and among the following: –

(i) any amount due to the Central Government and the State Government including the amount to be received on account of the Consolidated Fund of India and the Consolidated Fund of a State, if any, in respect of the whole or
any part of the period of two years preceding the liquidation commencement date; [Meaning thereby that the income tax liability will be part of due to central govt further will not be treated as secured creditors]

(ii) debts owed to a secured creditor for any amount unpaid following the enforcement of security interest;

(f) any remaining debts and dues;

(g) preference shareholders, if any; and

(h) equity shareholders or partners, as the case may be

7.3 Nature of Income Tax Liability Under IBC

Ghanashyam Mishra Case

• Position as operation creditors – Claims up to initiation of CIRP-income tax liability are part of due to govt. authorities as held by Supreme Court in Ghanashyam Mishra and sons (P.) Ltd. vs. Edelweiss Asset Reconstruction Co. Ltd. [2021] 126 taxmann.com 132 (SC).

That once a resolution plan is duly approved by the Adjudicating Authority under sub section (1) of Section 31, the claims as provided in the resolution plan shall stand frozen and will be binding on the Corporate Debtor and its employees, members, creditors, including the Central Government, any State Government or any local authority, guarantors and other stakeholders. On the date of approval of resolution plan by the Adjudicating Authority, all such claims, which are not a part of resolution plan, shall stand extinguished and no person will be entitled to initiate or continue any proceedings in respect to a claim, which is not part of the resolution plan.

Rainbow Paper Case – Latest

• Position as Secured Creditors – State is a secured creditors under GVAT Act and are to be treated at par with first priority u/s 53 of IBC as held by Supreme Court that State Tax Officer (I) vs. Rainbow Papers Ltd. [2022] 142 taxmann.com 157 (SC)
• As the SC judgment is land of law and statutory authorities need to abide by it
• Tax Authorities are now following the Rainbow Paper case judgment, wherein the Income tax liability is considered as secured creditors.
• Secured creditor means a creditor in favour of whom security interest is created.

7.4 MAT Section 115 JB

Applicability to MAT provisions to IBC

• No specific exemption is available for IBC Companies
• Loan and interest waiver is credited in the Profit and loss account. It will be subject to MAT
• Loan and interest waiver is credited in Capital Reserve will not be subject to MAT
• AO has no power to recast the audited profit and loss account for the books profit as held by SC in Apollo Tyre Judgement

MAT will not applicable even if credited in Profit and loss account

• As waiver of loan is considered as Capital receipt and MAT will not be applicable as held in:
  • JSW Steel Ltd. v Asstt. CIT [2017] 82 taxmann.com 210 (Mum.-Trib.);
  • Shivalik Venture (P.) Ltd. vs. Dy. CIT [2015] 60 taxmann.com 314 (Mum.- Trib.);
  • Shree Cement Ltd. vs. Addl. CIT [2014] 49 taxmann.com 274/[2015] 152 ITD 561 (J.P- Trib.)

MAT will be applicable even if credited in Profit and loss account – Loan Waiver

• However, contrary rulings are also present which state that if an amount is credited to Profit and Loss account – MAT is applicable:
  • B&B Infotech Ltd. vs. ITO [2015] 63 taxmann.com 122/155 ITD 1040 (Bang.- Trib.)
  • Duke Offshore Ltd. Vs. Dy. CIT [2011] 9 taxmann.com 214/45 SOT 399 (Mum.-Trib.)
  • Based on accounting principles, if loan and interest waiver is not credited to profit and loss a/c, MAT may not apply to such wavier

Brought forward loss and depreciation under MAT

• While computing the book profits tax, the brought forward loss or depreciation whichever is less as per books of the company, is allowed to be deducted for computing book profits.
• In case of CIRP cases, as the company would have done for restructuring, the carried forward loss/depreciation would have been wiped out from the books. Consequently there may be a tax on the write back of liabilities.
• To avoid this, Finance Act 2018 allowed aggregate deduction of tax loss/brought forward depreciation in CIRP cases.
• As per amendment made in section 115JB by Finance Act 2018, for companies which have been admitted by NCLT under IBC, total of brought forward losses and unabsorbed depreciation as per books of accounts has to be reduced.
• Hence, as against lower of brought forward losses or unabsorbed depreciation for rest of the companies, substantial relaxation is provided for companies under IBC.

7.5 Change in Shareholding u/s 79

• Section 79 provides that if there is change in shareholding by more than 51% in a company (in which public is not substantially interested), losses would not be carried forward.
• In case of companies referred to in IBC, there would be change in shareholding resulting into lapses of losses as per tax provisions.
• Hence, specific exemption provided under section 79 to IBC companies by Finance Act, 2018 if the resolution plan is approved by IBC and after affording a reasonable opportunity of being heard is provided to the jurisdictional/Principal Commissioner.

7.6 Amalgamation

Income tax implications in case of Merger/Amalgamation

• There are no specific provisions under IT Act dealing particularly with tax implications in case of corporate structuring pursuant to IBC provisions
• Amalgamation need to be complied the conditions as per section 2(IB) of IT, Act
• Tax neutrality for company – No Capital gain implication [Section 47(vi); depreciation shifts to the amalgamated company
• Tax neutrality for shareholders section 47(vii)
• Carried forward of losses and depreciation [Section 72A, Rule 9C]

Carried forward of losses of Merger/Amalgamation

• For Carried forward of losses all conditions as per section 72A (2)(a)(b) must be fulfilled. Compliance of Industrial Undertaking conditions
• On fulfilling the conditions accumulated losses will be allowed to carried forward for fresh period of 8 years as held in (Supreme Industries Ltd. vs. Dy. CIT [2008] 115 ITD 225/[2007 17 SOT 476 (Mum.-Trib.)
• Unabsorbed depreciation can be carried forward indefinitely
• If the conditions as per Section 72A(2) has not been fulfilled, the set off loss or allowance of depreciation will be deemed income of the amalgamated company
• Carried forward and set off Minimum Alternate Tax (MAT) is available to the amalgamated company – As held in Ambuja Cements Ltd. vs. Dy. CIT – [2019] 111 taxmann.com 10/179 ITD 436 (Mum.-Trib.)

7.7 Demerger

Income tax implication of Demerger

• Resolution plan as per section 5 (26) to be on going concern basis and it includes provisions of restructuring of corporate debtor, including by way of merger and demerger.
• Demerger under Income Tax Act is governed by section 2(19AA) which also specifies that the demerger of the undertaking should be on going concern basis.
• Question – Whether the demerger of IBC companies which are already in stress stage will be the ongoing concern basis as per IT Act?

7.8 Conversion of Loan into Equity

• Section 269T mandates that loan/deposit have to be re-paid by account payee cheque or electronic clearing system/electronic mode system.
• The issue which arises for determination is whether conversion of loan into equity can be said to be in contravention of provisions of section 269T of the Act.
• Judiciary in case of Arkit Vincom Private Limited vs. ACIT (ITA no 2397-Kol-Tri) held that the transaction with respect to the conversion of loan into equity carried out by the taxpayer through book entries without any physical outflow of funds cannot be considered to the violation of provisions of section 269T. Therefore levy of penalty u/s 271E is to be deleted.
• Further held in CIT vs. Triumph International Finance (I) Ltd. [2012] 22 taxmann.com 138 (Bom.)

7.9 Deeming Provisions

Deeming provisions Section, 50CA, 56(2)(x)

• No specific exemption provided for IBC Companies
• Section 50CA and 56(2)(x) refers to the fair market value of shares to be determined as per Rule 11UA
• Section 50CA – Where the consideration received or accruing as a result of the transfer by an assessee of a capital asset, being shares of a company other than quoted shares.
• In case of IBC companies, possible that real fair market value of equity shares is much lower than FMV computed as per rule 11UA
• Possibility of tax litigation cannot be ruled out

7.10 Overriding Effect

IBC has overriding effect over provisions of Income Tax [Section 238]

Where there is a conflict between provisions of the Code and those of the Income tax Act, the Code will prevail over the Act

The Hon’ble Supreme Court in the case of Pr. CIT v. Monnet Ispat & Energy Ltd. [2019] 107 taxmann.com 481 (SC), dated 10-8-2018] has upheld overriding nature and supremacy of the provisions of the IBC over any other enactment in case of conflicting provisions, by virtue of a non obstante clause contained in section 238 of the Code

The Apex Court in case of Alchemist Asset Reconstruction Co. Ltd. v. Hotel Gaudavan (P.) Ltd. [2017] 88 taxmann.com 202 (SC) has also held that even arbitration proceedings cannot be initiated after imposition of the moratorium u/s 14 (1) (a) has come into effect and it is non est in law and could not have been allowed to continue.

IBC has overriding effect over provisions of Income Tax

U/s 178(6) of the IT Act, as amended w.e.f. 01.11.2016, the Code shall have overriding effect. The provisions of section 14 of the Code institution of suits or continuation of pending suits or proceedings against the corporate debtor including execution of any judgement, decree or order in any court of law, tribunal, arbitration panel or other authority shall be prohibited during the moratorium period under Insolvency and
Bankruptcy Code.

ITAT Delhi in JCIT, Circle-22(2), New Delhi vs SR Foils & Tissue P. Ltd.

“….in view of the provision of section 238 of CIRP code, the proceedings before Ld. NCLT would have overriding effect

ITAT Delhi in ACIT vs. ABW Infrastructure Ltd.

“It is well settled now that, IBC has overriding affect on all the acts including Income Tax Act which has been specifically provided u/s 178 (6) of the I.T. Act as amended w.e.f. 01.11.2016

7.11 Nature of Income Tax Liability Under IBC – Modification of Notices

Modification and revision of notice in certain cases – Section 156A

It has been noted that in the cases of business reorganization, instances have been found where the Court or Tribunal or an Adjudicating Authority, as defined in clause (1) of section (5) of the Insolvency and Bankruptcy Code, 2016, as the case may be, as a part of the restructuring process, recast the entire liability to ensure future viability of such sick entities and in the process, modify the demand created vide various proceedings in the past, by the Income Tax department as well, amongst other things.

No procedure or mechanism provided in the Act to reduce such demands from the outstanding demand register. Hence, in order to remove this anomaly, it is proposed to insert a new section 156A

“Where any tax, interest, penalty , fine or any other sum in respect of which a notice of demand has been issued under section 156, is reduced as a result of an order of the Adjudicating Authority as define in clause (1) of section 5 of IBC, 2016, the AO shall modify the demand payable inconformity with such order and shall thereafter serve on the assessee a notice of demand specifying the sum payable if any, and such notice of demand shall be deemed to a notice under section 156 and the provisions of this Act shall accordingly, apply in relation to such notice.

Where the order referred to in sub-section (1) is modified by the National Company Law Appellate Tribunal or the Supreme Court, as the case may be the modified notice of demand as referred to in sub-section (1), issued by the AO shall be revised accordingly.”

7.12 Treatment of Tax Proceedings

Tax Proceedings and claims during and after resolution

Moratorium under section 14 of the Insolvency and Bankruptcy Code,2016 (IBC) will also apply to appeals being made by the Income Tax Department against the orders of Income Tax Appellate Tribunal, in respect of tax liability of a debtor under CIRP. Pr. CIT v. Monnet Ispat & Energy Ltd. [2019] 107 taxmann.com 481 (SC) [SC upholding Delhi HC ruling]

In Kitply Industries Ltd .vs Asstt. CIT [2019] 102 taxmann.com 116 (NCLT – Guwahati) as held that Proceeding before the Income-tax Department which has resulted in freezing of the bank accounts is a proceeding of quasi-judicial nature and continuation of such a proceeding during moratorium period is illegal in view of the prohibitions under section 14(1)(a) of the Code.

7.13 Filing of Return of Income

Carried forward of losses and filing of return of income

• Section 80 specifies that loss would be carried forward only if return of income is filed before the due date. No specific amendment for companies and hence, it may be possible that due to ongoing CIRP proceedings, return of income may be filed beyond due date resulting in to losses being lapsed.
• The assessee can approach to CBDT u/s 119(2)(b) of the Act for filing of delay return in case of genuine hardship.
• Section 140 The Income tax return shall be verified by the insolvency professional appointed by such adjudicating authority.

7.14 Income Tax Implication Under IBC – Miscellaneous

NOC from Income Tax Department u/s 281

• Section 281 states that Income Tax Department has the right to recover outstanding tax dues by treating the transfer of assets (including securities) as void
• Exceptions to provision:

1. 1. buyer is a bonafide purchaser without notice; or
   2. where a no-objection is obtained from the Income Tax Department

• Obtaining NOC is a time-consuming process

Stamp duty on transfer of property under IBC

• No specific exemptions on payment of stamp duty upon transfer of property under IBC

Applicability of GAAR

• An arrangement under IBC may have the risk of being considered as an impermissible avoidance agreement and tax consequences may arise if the arrangement leads to significant tax benefits.
• As per a CBDT circular, GAAR will not apply to such an arrangement where a Court or NCLT has explicitly and adequately considered the tax implication, while sanctioning an arrangement.

Deductibility of insolvency resolution process costs

• Section 5(13) of IBC defines “insolvency resolution process costs ”as costs of interim finance, fees of RP, costs incurred by RP in running day-to-day business, and costs incurred to facilitate resolution process.
• As per Section 35DD, costs incurred on amalgamation or demerger are allowed as deduction over five years.
• No clarifications issued by CBDT till date as to whether it should be accounted as a revenue expenditure or a capital expenditure.

Issuance of notice to Corporate Debtor u/s 148

• IT Department cannot raise claims against the Corporate Debtor once the resolution plan is approved.
• The Hon’ble Bombay High Court in Murli Industries Limited vs. Assistant Commissioner of Income Tax & ors. [W.P. No. 2948 of 2021 and W.P. No. 2965 of 2021 dated December 23, 2021] held that the IT Department is not entitled to issue notice against the Corporate Debtor for unpaid tax claims after the approval of the resolution plan by the adjudicating authority.