Budget 2017 delivered a long term capital gains tax googly, but not the one expected.
In December 2016, Prime Minister Narendra Modi, at an event hosted by market regulator Securities and Exchange Board of India (SEBI), suggested that market participants did not pay their fair share of taxes.
“Low or zero tax rate is given to certain types of financial income. We should consider methods for increasing it in a fair, efficient and transparent way,” he added, sparking fears that the government may withdraw the exemption on long term capital gains tax applicable on the sale of listed equity shares on a stock exchange.
The next day Finance Minister Arun Jaitley clarified there was no change in the offing, claiming the prime minister's comments had been misunderstood.
But for equity investors who stood to lose an important tax break, the fear persisted. Until February 1, when Union Budget 2017 was presented and it proposed no such change or withdrawal of the long-term capital gains tax exemption.
But this story doesn't end there, as another change in the long-term capital gains tax provision has puzzled investors and entrepreneurs.
The Finance Bill, 2017 proposes to amend the Income Tax Act, 1961, Section 10 to provide that “any income arising from the transfer of a long-term capital asset, being an equity share in a company shall not be exempted, if the transaction of acquisition, other than the acquisition notified by the Central Government in this behalf, of such equity share is entered into on or after the 1st day of October, 2004 and such transaction is not chargeable to securities transaction tax under Chapter VII of the Finance (No. 2) Act, 2004”.
EY India Executive Director, Amrish Shah, interprets that to mean “long-term capital gains exemption is available only if Securities Transaction Tax (STT) has been paid both at time of acquisition and divestment”. In an emailed comment to BloombergQuint he lists the types of transactions that may be impacted.
For example, shares acquired pursuant tomergers/demergers which are divested on the stock exchange, listed sharesacquired off-market in private deals but sold on market; preferential allotmentto investors in listed entity which are subsequently sold on exchange.Hopefully some of these may get clarified.Amrish Shah, Executive Director, Tax & Regulatory Services, EY India
While the Finance Minister's speech sounded the Budget tobe non-adversarial on taxation of listed company transactions, a look at thefine-print of the Finance Bill may not see this in the same perspective. Onesuch matter is the amendment proposed in Section 10(38) of the Income Tax Act. It wouldbe the duty of the government to ensure that such amendment doesn't castnuisance value for genuine restructuring transactions meant for facilitatingbusiness improvement and growth.Ravi Mehta, Partner, Grant Thornton India
While the tax experts are concerned about the impact on shares acquired via restructurings and the like, Ashok Wadhwa, founder and group chief executive officer of Ambit, says the provision is anti-entrepreneur.
I recapitalised Ambit in 2007. And it's interesting isn't it, if I list Ambit, everybody else who buys and sells Ambit stockwill get the benefit of the long-term capital gains tax exemption but the guy who worked hard, who built itall up, does not get the benefit.Ashok Wadhwa, Group CEO, Ambit
Not just entrepreneurs, Wadhwa worries about the impact on shares granted via employee stock option plans (ESOPs). “In a country where a large part of middle class wealth is created through ESOPs, you have now made it less attractive,” he says.
Tax advocate Rohan Shah too expresses perplexion at the development.
You know I can understand if the tax was attracted andsomebody omitted to pay it, in which case you say, look there must be someconsequences, the law provides for consequences. But where the event does not attract the tax, then how can you over a period oftime say that there is now a disincentive in relation to that.Rohan Shah, Tax Advocate
The memorandum to the budget explains the tax change as an effort to counter ‘sham transactions'.
Wadhwa agrees that some companies may have misused the exemption but he adds, “you can't because of a few wrong people penalise many, many right people”.
The memorandum also informs that rules will be notified to allow genuine cases to avail the tax exemption.
However, to protect the exemption for genuine cases where the Securities Transactions Tax could not have been paid like acquisition of share in IPO, FPO, bonus or right issue by a listed company acquisition by non-resident in accordance with FDI policy of the Government etc., it is also proposed to notify transfers for which the condition of chargeability to Securities Transactions Tax on acquisition shall not be applicable.
Hopefully genuine share purchases, done off-exchange, be they via a restructuring, in an IPO or through grant of ESOPs, even if sold on-exchange, will not lose the tax exemption.
But Budget 2017 did throw a long-term capital gains googly, after all. Just not the one investors expected.
This story was corrected to include the Budget memorandum's explanation
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