Income Tax on Buyback of Shares

Buyback of shares refers to a company repurchasing its shares from the existing shareholders. This way, the company can increase its ownership by paying fair market value to its shareholders.In this blog, you will learn about the buyback of shares, the reason, benefits, and thetax on the buyback of shares in the hands of the company and shareholders.

• Some companies buy back their shares from the shareholders at a fair market value.
• They need to pay tax on the buyback of shares according to the Finance Act of 2013.
• Shareholders are exempted from tax on the buyback of shares.
• Buyback of shares is more tedious than dividends for companies.

Companies distribute their shares to raise capital for operational and capex (capital expenditure) purposes. A share buyback may seem contradictory, giving the impression that the company has limited growth and profitability opportunities. However, there can be other reasons for share buyback, like:

• Increase the proportion of shares owned by the company’s investors/promoters.
• To positively affect its share price by infusing the company’s profits under regular market conditions.
• To prevent other shareholders from taking a controlling stake.
• To boost the proportion of earnings allocated per share, making the company’s financials more attractive when it is bullish on its current operations.
• To award their employees and management with stock rewards and options.
• To provide investors with a return if the share is undervalued. This also allows the company to make price corrections.
• To replace dividends and avail lower taxation.

Before understanding the tax on the buyback of shares , you must understand the process of share buyback. It differs for listed and unlisted companies.

Listed Company

A listed company, or a public limited company, issues shares traded on the stock exchange, wherein shares are purchased and sold through the open market. The buyback for a listed company is carried out in 2 different ways:1. Tender route, where the company offers shareholders an opportunity to surrender the company’s shares held by them in exchange for the current market price (CMP) or a higher market price.2. Open Market route, where the company announces and buys its shares in the open market at a particular price.

Unlisted Company

An unlisted company or a privately owned company, is not listed on the stock exchange. Since shares of an unlisted company are traded over the counter, buyback is processed in the same way by placing the offer in front of the shareholders and re-purchasing shares from them.Are you interested in investing in shares but confused about where to start? Click here to visit Aditya Birla Capital and learn all about stock market investment. Also Read: Link Income Tax Slabs For FY 2023-24 & AY 2024-25 (New & Old Regime Tax Rates)

Section 115 QA of the Finance Act, 2013 governs income tax on the buyback of shares. The act covered unlisted companies from 2013 and listed companies from 2019 as an anti-tax avoidance measure.

Section 115QA of the Income Tax Act provides for a tax on share buybacks, also known as buyback distribution tax (BDT).It states that if a company does the buyback, it is liable to pay tax at a flat rate of 23.296% [where the rate of tax is 20% (a surcharge at 12% and a Health and education cess of 4%) on distributed income].

Both listed and unlisted companies pay income tax on the buyback of shares (distributed) income, which is calculated as:Distributed Income = Consideration paid by the company on account of buyback ; the amount received by the company for the issue of such shares Please note: If a buyback is through the open market, the shares trade through many hands. Therefore, the company cannot determine the purchase price at which individual investors would have bought shares. In such cases, the company is taxed on the price difference between the buyback and the company-issued price, irrespective of the market price at which the buyer would have bought it.

Here's an understanding regarding tax on the buyback of shares with an example:A tyre company named “XYZ” announced a buyback of 100 shares at a CMP of ₹500. The issue price of the shares 5 years back was ₹100.Buyback of shares income tax liability on the company can be calculated as: Distributed income= (100x500) - (100x100)=₹40,000 Tax on buyback of shares=23.296% of 40,000=₹9,318.40 Note that 23.296% is the flat tax rate levied according to Section 115QA of the Income Tax Act.

Under Section 10(34A), shareholders are exempt from the tax on buyback of shares to avoid double taxation. However, you should consider the implications of Section 14A for the buyback ofshares in income tax.

The buyback of shares in income tax is payable within 14 days from the date of payment of any amount to the shareholders on the buyback of shares as per section 115QA(3) of the IT Act.Suppose the company does not pay the tax on the buyback of sharesby the due date. In that case, it shall be liable to pay simple interest at the rate of 1% per month or part thereof on the amount of such tax for the period beginning on the date immediately after the last date on which such tax was payable as per section 115QB of the IT Act. Also Read : Income Tax Return - ITR Filing, Types, Process and Forms

With Section 115 QA of the Finance Act 2013 amendment, the company is liable to pay tax on the buyback of shares. This relief for you as a shareholder from paying tax on income you receive on account of buyback is significant.Are you looking for sustainable tax planning methods? Visit Aditya Birla Capital and plan your taxes efficiently with their multiple tax-saving products under one roof.