Income-tax Act, 1961 (“IT Act”) provides for certain anti-avoidance provisions, like Section 56(2)(x) and Section 50CA, which seek to impose tax on certain assets, that were received or transferred for an inadequate consideration. Section 56(2)(x) of the IT Act stipulates that where certain assets, including shares and securities are received for a value which is less than their fair market value (“FMV”), then the difference between the FMV and actual consideration paid would be subject to tax in the hands of the recipient under the ‘other incomes’ head. Similarly, in the hands of the seller / transferor, Section 50CA provides for deeming the FMV of unquoted shares as the sale consideration for computing the capital gains arising from the transfer of such shares at a value which is less than the FMV.

These provisions did not provide any specific carve out for genuine transactions, where assets are transferred pursuant to a resolution plans approved by NCLT either under the Companies Act, 2013 or Insolvency or Bankruptcy Code, 2016, where the seller did not have much control over the price of the assets being sold. Similarly, various governmental schemes undertaken in public interest, were also getting caught within these provisions. As a result, taxpayers were facing hardships for genuine transactions that were being subjected to these anti-avoidance provisions. In order to address this issue, the Finance (No.2) Act, 2019 amended these Sections and empowered the Central Board of Direct Taxes (“CBDT”) to prescribe transactions undertaken by certain class of persons that will not come under the provisions of Section 56(2)(x) and 50CA.

The CBDT, pursuant to its empowerment,   vide Notification No. 40 of 2020, dated June 29, 2020 has notified Rule 11UAC of the Income-tax Rules, 1962 (“IT Rules”). The said Rule provides that the provisions of Section 56(2)(x) of the IT Act will not apply to receipt of shares of a company, its subsidiary and the subsidiary of subsidiary if

  • on an application made by the Central government under Section 241 of the Companies Act, 2013, alleging that the affairs of the company are being conducted in a manner prejudicial to public interest, the NCLT suspends the board of directors the of the company and a new board of directors has been appointed by the Central government; and
  • the shares of a company, its subsidiary and the subsidiary of subsidiary have been transferred under a resolution plan approved by the NCLT. Further, it has been clarified that such exemption would be available only where the NCLT has afforded a reasonable opportunity of being heard to the jurisdictional Principal Commissioner or Commissioner.

Similarly, the CBDT vide Notification No. 42 of 2020, dated June 30, 2020 has notified Rule 11UAD to exclude transfer of shares of a company, its subsidiary and the subsidiary of subsidiary, in the aforementioned scenario, from the application of Section 50CA of the IT Act.

Additionally, the newly notified Rule 11UAC also exempts immovable property received by a resident of an unauthorised colony in the National Capital Territory of Delhi, where the government has regularised transaction of such properties based on certain specified documents, by a notification in the official gazette. Similarly, the said rule also exempts receipt of shares of Yes Bank Limited by SBI and other investors, under the Yes Bank Limited Reconstruction Scheme, 2020. These rules have come into effect retrospectively from April 1, 2020.

Though these exemptions provide a sigh of relief to the specific taxpayers who would be covered under the aforementioned scenarios, the scope of these exemption seems to be very restrictive. As per the notified rules, only those resolution plans which are approved pursuant to the application filed by the Central Government have been exempted. Similar exemption has not been extended to cases where the application is filed by the members of the company under Section 241 of the Companies Act, 2013, alleging oppression or mismanagement.

It would also be relevant to note that in case of companies under insolvency, acquisition price is generally contingent on several factors such as resolution plan, business fundamentals, haircut available, contingent liabilities, regulatory hurdles, timelines involved, etc. These would generally lead to a value significantly lower than the FMV as computed per Rule 11UA, which is based only on the book value/FMV of assets. Thus, considering acquisition at such price would result in serious tax implications for the resolution applicant, in absence of an express exemption, the efficacy of the resolution proceedings has been impacted because of such fair valuation norms. Similar issues may also arise in case of insolvency proceedings whereas a part of settlement or debt restructuring, the banks/ lenders convert their outstanding loans into equity of the borrower company at a sub FMV price. Accordingly, sentiments of the various taxpayers/stakeholders, who were expecting a special carve out for resolution plans formulated under the Insolvency and Bankruptcy Code, 2016, have been dampened.

There may be various other genuine cases, which have not been excluded from the applications of the fair valuation norms, where the taxpayers face genuine hardships. For example, for the purpose of Section 56(2)(x) of the IT Act, FMV of a listed share is the lowest price of the share, quoted on a recognised stock exchange on the day when the shares are received. It may so happen that between the period when the price for the acquisition of shares is agreed and the shares are actually received by the acquirer, the quoted price of the listed share may shoot up for reasons beyond the control of the parties. For example, when news of a big multinational company investing in the target company is out, excessive trading in such shares is a possibility which shoots up the price.. In such cases, the acquirer may face the risk of paying tax in compliance with these fair valuation norms.

Thus, despite the CBDT notifying the aforementioned carve outs to the fair valuation norms, genuine taxpayers  may continue to face hardships due to the operation of these anti-avoidance provision in absence of any specific exemption. Therefore, one may have to rely on the courts to give a purposive interpretation to the anti-avoidance provisions under Section 56(2)(x) and Section 50 CA of the IT Act, especially in light of the risk of tax authorities arguing that these provisions should apply to all genuine transactions, in absence of any specific exemption.

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