ABSTRACT
Although the terms merger and acquisition are commonly associated, there are some differences. A merger unifies two entities into one, whereas an acquisition includes one company purchasing and acquiring another. Cost savings, resource efficiency, the acquisition of competence or skill, tax benefits, and the reduction of competition are few benefits of Mergers and Acquisitions (M&A). The first section discusses the sellers’ and purchasers’ perspectives on the tax system’s neutrality. The Indian Income Tax Act defines amalgamations as the joining of one or more businesses with another business or the joining of two or more businesses to establish a new business. In this paper, I have attempted to discuss tax implications on several transactions.
CHAPTER I: INTRODUCTION
The Indian legal system begins with the premise that a capital gains tax will be imposed on the transfer of financial assets in the context of an amalgamation plan from the company that is amalgamating to the firm that is being merged. On the other hand, the capital gains tax does not apply to the merged firm if it was an Indian corporation before the merger.
As a result of the merger, the transferring company’s transfer of capital assets will not be regarded as a transfer, and thus the merger will not be subject to capital gains tax. As long as both firms are based in India, the shareholder is likewise exempted from taxation. However, if a cross-border merger or acquisition takes place, the resulting firm will not be eligible for exemption unless it is an Indian business.[1] The acquiring company’s tax burden can be lowered by taking advantage of the acquired company’s tax losses, thus this is an important factor to consider. Indeed, it is made quite clear under Section 47[2] that a merger is not considered a transfer.
CHAPTER II: MERGERS AND AMALGAMATION
According to the ITA’s definition, the following requirements must be met for a merger to be considered an amalgamation:
a) There is no set of time period during which the assets of the merging firm must be passed to the merged company.
b) Both quality and preference owners must be shareholders in the merged firm in order for the shareholders owning 75% of the combined company’s worth in shares to qualify.
Nevertheless, it does not specify a minimum ownership level in the combined firm or how long shareholders must remain shareholders of the combined company.
c) Cash and shares of the combined company’s stock may both be given as compensation to the merging company’s shareholders.
In the case of Central India Industries Limited v.CIT,[3] the court stated that an agreement known as an amalgamation is one in which the assets of two different organisations are transferred to or put under the administration of one organisation. This firm may or may not be one of the original two companies, but it does have all or almost all of the shareholders from both of the original companies as stockholders.
Consequences in accordance with the Income Tax Act of 1961
a) Exemptions from taxes granted to the merged (buyer) company
b) Tax reduction for the Amalgamating Company, often known as the Seller.
c) Tax relief for the shareholders of a Merging Company
Tax exemptions for the merged company
The benefit of the aforementioned sections will be available to the amalgamated company if the amalgamating company has incurred any expenses that are eligible for deduction under sections 35(5), 35A(6), 35AB(3), 35ABB, 35D, 35DD, 35DDA, 35E, and/or 36(1)(ix)[4], if the merged company is an Indian company, then similarly to how it would previous to its merger with the merged company in pursuance of section 2(1B) of the Act.
b) Tax exemption to the Amalgamating Company
According to section 47(vi) of the Act[5], Any transfer of capital assets performed as part of an amalgamation plan from an amalgamated company in India is not regarded as a transfer, and as a result, the amalgamating company does not have to pay any capital gains tax on the transaction.
c) Tax benefits for shareholders of a merging company
When a shareholder transfers shares in the merging company in exchange for being given shares in the combined company, the transfer is not treated as a transfer under section 47(vii) of the Act, on that basis, the shareholder of the merging business does not realise a capital gain. The tax breaks described are only a handful of the many that M&A transactions have made accessible to the aforementioned groups of assesses.
CHAPTER III: TAXATION ISSUES ON (M&A) MERGERS AND ACQUISITIONS
Acquisitions and mergers (M&As) are a recognised method of fostering company expansion. They could also improve a company’s market position, enable the firm take advantage of tax benefits, or alleviate agency issues related to free cash flow. Each party can accomplish its own tax and economic goals through a variety of tax planning strategies without negatively affecting the other party. The tax ramifications of correctly arranging the sale and purchase of a company can have a substantial influence on the transaction’s economics for both parties.
Capital Gains
When a capital asset is transferred within a fiscal year, the difference between its cost of acquisition (hereafter, CoA) and sale price is referred to as a capital gain. The spread is a gain when the sale price surpasses the CoA, and unless otherwise stated, this gain is per se taxable in the hands of the transferor.
Implications to Shareholders of Amalgamating Company:
i) Shareholders of the merging company are subject to capital gains tax.
Investors in an acquired firm may get a variety of payouts when they sell their shares as part of the transaction. These receipts can be tax-deductible or not. If so, the stockholders are responsible for paying capital gains taxes on the excess profit on that basis. It is debatable whether shareholders of a merging company are liable for capital gains if they get shares, debentures, cash payments, etc., according to one theory, this leads to the swap of shares from the merging firm for those from the combined business. As a result, it would trigger capital gains tax duty. The opposing claim is that since there was no exchange of shares, there could be no responsibility for tax on capital gains because there had been two distinct transactions.[6]
The Supreme Court held in the case of Commissioner of Income Tax v. Mrs. Grace Collis and Others[7] that the damage of a shareholder’s right to ownership of shares in a merging company would be included in the definition of “extinguishment of any rights in any capital asset,” even though it would be distinct from and independent of the transfer of the capital asset itself. Therefore, the preferred shares of the merged company in the financial asset, i.e., the stocks, stand extinguished upon the merger of the amalgamating company with the amalgamated firm, and as a result, this constitutes a transaction under Section 2(47) of the ITA.
B) Implications on Amalgamating Company:
Impact of capital gains taxes on the merging (transferor) firm.
If the merged company is an Indian business, under the terms of the amalgamation plan, the transfer of a capital asset from the business that is being merged into the amalgamated company would not be subject to any capital gains tax.
Profits or gains from the transfer of financial assets give rise to the charge of capital gains. Income must be calculated using the transfer consideration. In other words, financial gains cannot occur if there is no consideration.[8] In the event of a merger, the combined business will become the legal owner of the assets and liabilities of the merging firm under a court-approved plan. The stockholders receive cash, equity shares, or something similar as payment for such vesting. As a result, the corporation would not experience any capital gains because it would not be compensated in any way.
CHAPTER IV: TAX CONSEQUENCES FOR THE DEMERGED COMPANY AND ITS SHAREHOLDERS.
Gains on the sale of capital assets are exempt from paying taxes.
If the new company is an Indian business, any transferring of a capital gain made by the demerged firm to it under the demerger scheme is free from capital gains tax. The shareholders of the demerged firm receive proportionately more shares in the new company under the de-merger scheme. In a manner similar to amalgamation, the Act[9] stipulates that any shares transferred or issued by the new company to the demerged company’s shareholders as payment for the de-merger would not be liable to capital gains tax in the hands of the shareholders.
The cost of acquiring shares in the company that is the result of the demerger will be the same as the cost of purchasing shares that the shareholder held in the company that was being demerged, and this cost will be calculated in the same proportion as the gross book value of the undertaking’s assets bears to the net worth of the demerged company immediately prior to the demerger (which is 4550 dollars).
CHAPTER V: TAX IMPACT ON THE TRANSFEROR COMPANY
Gains from the project’s transfer subject to tax Any profit or gain from the slump sale in the prior year is taxable as capital gains from the transmission of the undertaking and is subject to income tax. The undertaking would be considered a short-term capital asset and the gains would be taxed accordingly if the transferor had owned and held the undertaking for 36 months or less prior to the transfer. In other situations, even if the undertaking may have purchased some assets that are held for less than 36 months, the undertaking would still be recognised as a long-term capital asset.[10]
In the event of transfers considered to be slump sales, the advantage of cost of acquiring indexation is not accessible. By subtracting the undertaking’s net worth from the selling amount, the gain on transfers is calculated.
CHAPTER VI: ANALYSIS AND CONCLUSION
Through mergers and acquisitions, a company may lower taxes in a number of different ways, and the tax advantages may apply to both the corporation and the shareholders. Taxes are a crucial factor in these transactions to consider while analysing the acquisition or merger structure’s design.
A very complex set of provisions for mergers and acquisitions are imposed by the Indian Income Tax Act at the individual and corporate levels; the tax system is definitely not neutral in this regard. On the successful conclusion of deals and post-deal integration, tax concerns have a significant bearing. To optimise the value on the deal, get involved early and establish a tax-efficient plan or structure. An M&A deal offers a singular chance to adopt tax planning and generate significant synergies that weren’t likely considered when the merger was being considered. So, all of these opportunities are positive. Similar to this, if not properly planned and managed, a merger might result in significant expenditures that were not anticipated. In order to take advantage of the opportunities and overcome the obstacles presented by the new environment, the Indian business sector has likewise increased the trend of M&A. Corporate restructuring’s primary goal is to increase market share, brand power, and operational synergy in order to achieve efficient and competitive business operations. Indian businesses are becoming ready to operate on a global scale. Size of a corporation has taken center stage as a strategy for surviving and expanding in the cutthroat market. The government intends to replace the present Income-tax Act with a new direct tax system that would prioritise openness.
[1] Nishith Desai Associate, “Tax Issues in M&A Transaction”, May 2022.
[2] The Income Tax Act, 1961, Acts of the Parliament, 1961 (India).
[3] Central India Industries Limited v. CIT, (1975) 99 ITR 211.
[4] Id at 2
[5] Id at 4
[6] Kusum, “Tax Implications on Mergers and Acquisition Process”, Journal of Business Management & Social Sciences Research, Volume 3, No.5, May 2014.
[7] Commissioner of Income Tax v. Mrs. Grace Collis and Another, (2001) 248 ITR 323 (SC)
[8] Raniana. H.P, “Corporate Taxation”, Snow white publication, Vol.2 p.1466
[9] Id at 5.
[10] Id at 6.
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