How new share buyback tax rules affect shareholders, corporates

Shareholders’ tax liability on buybacks will now be higher.  Under the new rules, proceeds from share buybacks will be taxed as deemed dividends in the hands of shareholders, subject to their respective income tax slab rates. This is significantly higher than the previous 23.296 percent buyback tax that companies paid. For high-income individuals, the tax rate could exceed 30 percent, reducing the attractiveness of buyback proceeds.

Since the buyback amount is now taxed at potentially higher individual rates, the post-tax return for shareholders is reduced. This makes buybacks less beneficial as a method of returning capital compared to earlier when the tax burden was borne by the company​.

Shift in preference towards dividends

With the Budget shifting buyback tax liabilities to the shareholders, shareholders might favour dividends, as they provide regular income and can be more predictable than buybacks, which are often ad hoc. For shareholders who have relied on buybacks as a tax-efficient way of receiving returns, the new rules may lead to a shift in their investment strategy, favouring companies that provide consistent dividends​.

Corporates to see enhanced capital efficiency

With the tax on buybacks now falling on shareholders, companies can reallocate funds that would have been spent on the tax on buyback. This promotes for more efficient use of capital and investments in growth opportunities, such as expansion, acquisitions, or new product development.

Companies that choose to reinvest their excess cash rather than distribute it through buybacks can potentially strengthen their balance sheets, improving credit ratings and financial ratios. A stronger financial position can also lead to lower borrowing costs, benefiting the company in the long run.

Focus on retained earnings and investments

As buybacks become less attractive for shareholders, companies may retain earnings and channel them into more productive avenues, such as R&D, technology upgrades, or debt repayment. This shift from short-term shareholder rewards to long-term growth can enhance overall company performance and financial stability.