From Section 115QA to Deemed Dividend: How the new Buyback provisions favour foreign investors?
Buyback under earlier provisions:
1. Prior to 1st October 2024, buy-back of shares by an Indian company was governed by section 115QA of the Income-tax Act, 1961.
2. Under this provision, the company undertaking the buy-back was liable to pay an additional income tax at the rate of 20% (plus applicable surcharge and cess) on the distributed income, being the difference between the consideration paid for the buy-back and the amount received by the company at the time of issue of such shares.
3. The income so distributed was exempt in the hands of the shareholder under section 10(34A).
Amendment in 2024:
1. The Finance (No. 2) Act, 2024 brought a fundamental shift in the taxation of buy-backs with effect from 1st October 2024.
2. A new deeming provision was introduced through section 2(22)(f), which provides that any amount received by a shareholder from the company on buy-back of its own shares shall be treated as dividend to the extent of accumulated profits, whether capitalised or not.
3. Correspondingly, section 56(2)(ib) provides that such deemed dividend shall be chargeable to tax under the head “Income from Other Sources”.
4. Proviso to section 46A now stipulates that the consideration for computing capital gains shall be deemed to be nil, resulting in a notional capital loss (which can be set off only against capital gains).
5. The tax burden, therefore, has now shifted from the company to the shareholder.
Impact for Residents and Non Residents:
Residents:
For residents, such buyback income will be included in the total income and taxed at the shareholder’s applicable slab rate.
Non residents:
1. Section 90(2) provides that a non-resident can opt for the more beneficial provisions of an applicable Double Taxation Avoidance Agreement (DTAA).
2. Under most Indian treaties, the rate of tax on dividends ranges between 5% and 20%, depending on the shareholding pattern and treaty jurisdiction (for instance, 5% under the India–Mauritius treaty, 10% under India–Singapore, and 15% under India- US treaty).
3. Thus, by invoking the DTAA, non-resident shareholders can substantially reduce the tax rate on buy-back proceeds.
Conclusion:
The shift from section 115QA to shareholder-level taxation signifies a policy alignment of buy-backs with dividend distribution, but it creates an asymmetrical outcome – while residents face a heavier tax burden, non-resident investors now enjoy a clear tax advantage owing to the availability of treaty-based dividend rate caps (5%–20%).
