The Insolvency and Bankruptcy Code, 2016 (IBC) seeks to alleviate the pain of bad loans of the Indian banking sector and allow a fresh lease of life to debt ridden corporates. While the IBC is intended to have an overriding effect on any other law, there is a lot of uncertainty on the income tax implications pursuant to the resolution plan envisaged under it. The following issues demand urgent addressal by the upcoming Budget to provide clarity to the stakeholders, especially new bidders/investors of stressed companies referred to the National Company Law Tribunal (NCLT) under provisions of the IBC:
1. Minimum Alternate Tax (MAT) liability on waiver of principal and interest
Currently, any haircut taken by creditors risks a MAT levy at the rate of 20 per cent plus, subject to a set-off of accumulated losses. Needless to say, this depends on the accounting treatment in the books of the corporate borrower. Thus, a potential bidder, in the absence of any exemption from MAT provisions, is required to factor in this tax cost and, accordingly, lower his or her bid. This translates to a substantial reduction in bid amounts given that the haircut runs into thousands of crores of rupees in many entities. The tax law specifically allowed relief from MAT for such companies under the erstwhile Sick Industrial Companies Act, 2003 (SICA). Given the quantum of loans in companies which have been and would be referred to the NCLT under the IBC, the absence of MAT exemption will significantly dampen their revival plan.
The government has recently allowed companies, against whom an application for insolvency resolution process under the IBC has been admitted by the NCLT, to set off accumulated loss (including unabsorbed depreciation) in computing book profits for MAT purposes. While this is a laudable measure, a blanket exemption from MAT, as discussed above, should be introduced to help debt ridden companies that have businesses with long gestation periods.
2. Exemption from tax on waiver loan and interest
It may be noted that waiver of interest and even the principal (in some cases) runs the risk of taxation under normal provisions of the Income Tax Act, 1961 (the Act). Therefore, to avoid any unintended income tax consequence, waivers envisaged in the resolution plan should be kept outside the purview of income tax.
3. Accumulated losses
Currently, accumulated tax losses of closely held companies are not allowed to be carried forward in case there is a change in their ownership beyond a limit. To encourage new investors to revive the business of stressed corporates, this rule needs to be relaxed for companies being restructured under the IBC. Some safeguards may be provided in this regard in the form of requiring continuity of the company's business or maintaining a certain level of workforce under the new investor(s), in order to avoid any abuse of such relaxations.
4. Issue of shares at lower than fair market value
Under the current income tax regime, in case shares are received for a consideration lower than the prescribed fair market value, the difference is taxed as income in the hands of the recipient of the shares. Thus, issue of equity shares at prices lower than their fair market value to lenders/new investors under a resolution plan may result in tax implications in the hands of the recipients of shares. It needs to be appreciated that such lenders are already reeling under a substantial haircut and any upfront taxation on mere change in form of the balance debt should not be taxed on notional basis. Similarly, new investors also bid for the stressed companies only after undertaking thorough due diligence duly factoring various hidden costs (like pending litigation etc.). Such virtual bailout exercises should not be subject to anti-abuse provisions based on a rigid method driven fair valuation of shares.
5. Future tax payments
Additionally, such companies should be allowed a relaxed schedule for making advance tax payments on future income. Alternatively, interest under Section 234C may not be applied to companies undergoing restructuring under the IBC. This will help companies manage liquidity better and focus on their core business.
6. Exemption from applicability of No Objection Certificate (NOC) on assets purchased from such companies
While some income tax liability may remain pending pursuant to the resolution plan, any transfer of certain assets (e.g. land, building, shares, securities, plant or machinery) by these companies to creditors should be exempted from the requirement of obtaining a tax NOC.
7. Pending proceedings
Measures to ascertain liabilities in relation to ongoing tax litigation should be provided, as such contingent items have a substantial impact on the perceived value of the company. Certainty in this regard will significantly bolster the confidence of potential investors.
The common thread running through the above recommendations allows companies an adequate opportunity and time to revive themselves. The government should appreciate that even on an 'as is' basis, if the company were to go into liquidation, the IBC regime places tax dues at a lower pedestal, which may possibly result in zero recovery with one less taxpayer for future. Taxing companies on other stakeholders' efforts to breathe life into them will only jeopardise the recovery process, and perhaps defeat the very objective of the IBC. Therefore, it is only rational for the government not to put the cart before the horse and look at the bigger picture whilst developing tax policy for companies under the IBC regime. While Benjamin Franklin has rightly said that only death and taxes are certain in the world, the last thing we need is death by taxes.
(Vinita Krishnan is Associate Director and Jimmy Bhatt is Senior Associate at Khaitan & Co)
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