In the Union Budget 2024, it was announced that promoters and private equity (PE) firms will be required to pay a retrospective tax on gains realized from offer-for-sale (OFS) transactions. This decision means that any profits made from such transactions in previous years will now be subject to taxation, even if those gains were realized under the assumption that they were not taxable.
Key Points
- Promoters and PE Firms: Individuals or entities with a significant stake in a company and private equity firms that invest capital in exchange for equity.
- Offer For Sale (OFS): A mechanism where promoters or large shareholders of a company sell their shares to the public, often to comply with regulatory requirements or to monetize their holdings.
- Retrospective Taxation: Applying tax rules to past transactions, can alter the financial obligations of individuals or companies after the fact.
Retrospective Taxation Explained
So, the statement implies that promoters and private equity firms will be required to pay taxes on the gains they made from past offer-for-sale transactions, even if those gains were realized in previous years. This kind of taxation can be controversial because it changes the tax liability after the fact, potentially impacting financial planning and strategies that were based on the previous understanding of the tax rules.
In certain circumstances, taxpayers refused to pay capital gains tax due to the lack of an express provision to assess the fair market value (FMV) of equity shares that were initially unlisted, even though transaction tax (STT) was paid on them. The new restrictions will apply retroactively from February 18, 2018.
Changes in Tax Rules
“Shares transferred under an OFS that were not listed at the time of transfer but were nonetheless subject to STT were previously subject to considerable misunderstanding over the regulations’ execution. To clarify, the Finance (No. 2) Bill of 2024 proposes changing the present cost-of-acquisition laws to include shares offered through an OFS during an IPO and establishing an indexed cost of acquisition. Suresh Swamy, a partner at Price Waterhouse & Co., LLP, made the comment. “This amendment is intended to be implemented retroactively, beginning on April 1, 2018.” As a result, taxpayers who previously claimed no capital gains on the transfer of such shares may have to reevaluate their position.
Long-term capital gains (LTCG) on listed equities were tax-free up until 2018. Nevertheless, in the FY19 budget, the government eliminated this exception. The central government announced a unique LTCG rate of 10% for transactions when the securities transaction tax (STT) was paid for both the acquisition and sale of shares, in addition to eliminating the LTCG tax exemption. Since promoters were not allowed to pay STT during the acquisition of shares in an IPO, a specific exception was made available for these situations, which stated that a 10% rate would also apply in the event of an IPO as long as STT was paid during the transfer of shares.
The rules also specified how the fair market value (FMV) of these shares needs to be calculated to determine acquisition costs since the company was unlisted before. In the case of IPOs, however, the transfer of shares happens while the company is still unlisted, and the question of paying STT doesn’t arise until 3-5 working days after the shares get listed.
Implications
- Financial Planning and Strategy: This move may affect the financial strategies of promoters and PE firms, as they now need to account for additional tax liabilities on past transactions.
- Investor Sentiment: Retrospective taxation can create uncertainty and may impact investor confidence, as it changes the financial landscape based on past activities.
- Compliance and Legal Challenges: There could be challenges related to compliance, as firms will need to review and possibly refile past financial statements to account for the new tax liabilities.
Conclusion
The India Union Budget 2024 imposes retroactive taxes on OFS gains to boost tax revenues and ensure equitable taxation. This policy underscores the need for a stable and predictable tax system to maintain investor confidence and economic stability. Promoters and PE investors believed no tax was due as shares were unlisted at the transfer date, making the FMV calculation impossible. Effective February 1, 2018, the government clarified this issue. Tax experts assert that the provisions were never intended to exempt OFS purchases from taxes, though some interpreted the regulations harshly. While the immediate financial benefits are clear, the broader impacts on financial planning, investor sentiment, and compliance require careful consideration.
Additional Links: financialexpress.com/market/promoters-pes-to-pay-retro-tax-on-ofs-gains
Also See: Income Tax Changes in Budget 2024: Tax Gains and Gimmicks for the Enthusiastic Taxpayer
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Vidushi Gupta