In the world of corporate taxation, companies are subject to various provisions of the Income Tax Act, one of which is Section 115QC. This section comes into play when a domestic company and its principal officer fail to comply with their tax obligations under Section 115QA, which deals with the tax on distributed income in the case of a buy-back of shares.
In this blog, we will explore the nuances of Section 115QC, its background, purpose, and the consequences for non-compliance. We will also touch upon other related sections, amendments, and their practical impact on companies.
What is Section 115QC?
Section 115QC of the Income Tax Act states that if a domestic company and its principal officer do not pay the tax on distributed income, as required by Section 115QA, they will be deemed to be an assessee-in-default. This status is significant because it triggers the application of all the provisions of the Income Tax Act regarding the collection and recovery of income tax.
In simpler terms, if a company fails to meet its tax obligations under Section 115QA, both the company and its principal officer will face legal consequences, including recovery measures.
What is Section 115QA?
Before diving deeper into Section 115QC, it’s important to understand Section 115QA, which imposes a 20% additional tax on the distributed income of a company in the event of a buy-back of its unlisted shares. This tax is applied on the amount that exceeds what the company originally received when it issued the shares being bought back.
This section was introduced to curb tax avoidance, as companies often used buy-backs instead of dividends to avoid paying Dividend Distribution Tax (DDT). In buy-back cases, shareholders were taxed under capital gains, which often resulted in a lower tax burden than DDT.
Consequences of Non-Compliance:
According to Section 115QC, when a company or its principal officer fails to pay the additional tax under Section 115QA, they are treated as assessees in default. This means:
- They are subject to all provisions related to tax recovery and collection under the Income Tax Act.
- Interest penalties will apply as per Section 115QB, which imposes a simple interest of 1% per month or part of the month for any delay in paying the tax on distributed income.
- Tax authorities can initiate legal action for tax recovery, much like they would for any other income tax default.
The responsibility lies not only on the company but also on its principal officer, who is held personally liable for the unpaid taxes.
Background and Purpose of Section 115QC
The provision of Section 115QC was introduced as part of Chapter XII-DA, through the Finance Act, 2013. This chapter was enacted to address concerns about tax avoidance strategies being employed by companies, particularly unlisted companies, which would resort to buying back shares to distribute their profits to shareholders without paying DDT.
Here’s a quick timeline of important events that led to the introduction of this section:
- Prior to Finance Act, 2013: Unlisted companies could choose between paying dividends, which were subject to DDT, or buying back shares, where the tax was levied on shareholders under capital gains. Since capital gains were often taxed at a lower rate, many companies opted for buy-backs.
- Finance Act, 2013: The government, to address this tax avoidance, introduced Section 115QA and related sections, which imposed a tax of 20% on the distributed income from the buy-back of unlisted shares.
- Finance Act, 2016 and Finance Act, 2019: Subsequent amendments clarified that the tax under Section 115QA applies regardless of the company’s governing law and that the provisions also apply to listed companies. This closed further loopholes related to tax arbitrage through buy-backs.
Legislative Amendments and Clarifications
Over the years, several amendments have been made to strengthen the enforcement of Section 115QA and ensure companies cannot exploit tax loopholes. These amendments clarify the scope and applicability of the provisions, including:
- Finance Act, 2016: This amendment resolved ambiguities about how distributed income should be calculated, especially when shares are issued in tranches or in cases of mergers, demergers, or reorganizations. It made it clear that the tax would apply to any buy-back, regardless of the specific provision under which it was conducted.
- Finance Act, 2019: This significant amendment extended the buy-back tax provisions to listed companies. Initially, the tax applied only to unlisted companies, but instances of tax avoidance through buy-backs were also noted among listed companies. To curb this practice, the provisions of Section 115QA were expanded to cover buy-backs of listed shares from July 5, 2019.
These legislative changes highlight the government’s efforts to ensure tax compliance and prevent companies from exploiting buy-back mechanisms to reduce their tax liabilities.
The Role of Section 115QB: Interest on Delayed Payment
Section 115QB complements Section 115QC by imposing interest penalties for non-payment of taxes. If the tax on distributed income (under Section 115QA) is not paid within the prescribed time, the company and its principal officer are liable to pay 1% interest per month on the unpaid tax amount. This interest is calculated from the day after the tax was due until the date of actual payment.
The imposition of interest serves as a deterrent to companies delaying their tax payments and ensures timely compliance with the provisions of Section 115QA.
FAQs
1. What is the rate of tax under Section 115QA for buy-back of shares?
The tax rate is 20% of the distributed income, which is the consideration paid by the company for buying back its unlisted shares, reduced by the amount originally received when the shares were issued.
2. What happens if a company doesn’t pay the tax under Section 115QA?
If the company or its principal officer fails to pay the tax on time, they will be deemed assessees in default under Section 115QC. This leads to legal consequences, including recovery actions by the tax authorities.
3. Does Section 115QA apply to listed companies?
Yes, following the Finance Act, 2019, Section 115QA applies to buy-backs of both unlisted and listed shares.
4. How is interest calculated under Section 115QB?
Interest is calculated at a rate of 1% per month or part of the month on the unpaid tax amount, starting from the date after the tax was due until the date of actual payment.
Conclusion
Section 115QC of the Income Tax Act serves as a critical provision to ensure compliance with the buy-back tax regime introduced under Section 115QA. It holds both companies and their principal officers accountable for non-payment of taxes on distributed income from share buy-backs. With its legislative amendments and clarifications, the provision ensures companies do not exploit buy-backs to avoid paying taxes, thus maintaining the integrity of the taxation system.
If your company is considering a buy-back, it is essential to fully understand the tax implications and ensure compliance with the provisions of Chapter XII-DA to avoid penalties and legal consequences.
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