Union Budget could look at tax implications for smooth insolvency resolutions

Manoj Kumar

The Insolvency and Bankruptcy Code (IBC) stands out among the series of reforms the present government has brought about as the Indian banking system juggles with the huge pile of  non-performing assets (NPAs) of over Rs 8 lakh crore.

However, as in the case of any new law, the IBC too has certain loopholes and implementation-related issues, which came to the fore as the process progressed.

Even as the government and the Insolvency & Bankruptcy Board of India (IBBI) are being proactive in aiding resolution of NPAs, according to my understanding, there are certain major issues relating to income tax law in the insolvency resolution process that should be addressed in Budget

• The implication of deemed income under section 56(2)(x) of the Income Tax Act
  This sub-section provides that when shares are acquired at a price lower than the fair value of such shares the difference between the price paid by the acquirer and such fair value would be taxable in the acquirer’s hands as notional income. Since last financial year, this provision is applicable to the acquisition of shares of a listed company and now any discount to the ruling market price would attract tax to the acquirer. As many big stressed companies are listed but their acquisition price could be at significant discount to the market price, this could bring in an immediate tax burden on the acquirer. Hence, the Government should exempt transactions relating to transfer of shares of a listed companies under insolvency resolution plans.


• Section 50CA of the I-T Act This is another similar tax provisions which pegs the value of shares of an unlisted company at a notional level (fair value). According to this, any transaction of unquoted shares below the fair value, would be ignored for determining the capital gain tax and seller would have to pay the capital gains tax on the difference between the notional fair value and the original cost of acquisition subject to necessary indexation, if applicable.


• Minimum Alternate Tax and taxation on write-off of interest or principal amount of lenders and operational creditors Another pertinent issue concerns MAT and tax liability on the insolvent companies. Haircut of liabilities and amount due to operational creditors will be the foundation of any resolution plan. The taxability of waiver of loans has always been a highly controversial issue. Taxing financially stressed companies on the “notional” profit arising on loan waiver would create huge negative financial impact and liquidity issue.


• Carry forward of tax losses
  Any stressed company is likely to have significant tax losses. If the resolution plan provides for a merger of the stressed company with the acquirer’s healthy company, the availability of losses would be bound by other strict riders which would put an additional burden on the acquirer. Even if the resolution plan envisages a business sale, while the acquirer may potentially be ring fenced from several of the stressed company’s past liabilities, it would also mean the latter’s losses would not be available to the acquirer.

Tax should be outcome of doing business and for any acquirer, commercial logic of business would outweigh tax implications of the transactions. However, it may not be prudent to knowingly step into something which could have severe tax implications even before he has reaped any benefits of the business, especially when he is venturing into a highly stressed business with so many inherent difficulties and which would take a long time to resolve. Thus, it is imperative for the Government to make the necessary changes in tax laws and make the process of insolvency resolution tax efficient and attractive for investors.

(The writer is Partner & Head – M&A and Transactions | Corporate Professionals, a legal and corporate consultant firm. The views expressed in the article are his personal views)