Share Buyback Taxation: Corporate Strategy After Budget 2026

The Share Buyback Pendulum: A Critique of India’S Evolving Tax Framework And The Resultant Shifts In Corporate Strategy Post-Budget 2026

1. Introduction

When a company repurchases its own shares in the market from the existing shareholders, the same is termed as a “share buyback”. Generally, a company initiates a buyback when it has excess cash on hand and believes that the same is the best use of the capital. A share buyback is generally undertaken to boost the earnings per share since now the company’s profits would be divided among a smaller number of shareholders. It may also be considered as a reward to the shareholders where the company has excess capital in its hands. Furthermore, it may also help in preventing any hostile takeovers in the market by reducing the number of shares in the market and thus making it difficult for any rival investor to buy the shares. Generally, a company may execute a buyback through open market purchases where it can simply buy the shares in the open market, that is, stock exchange over a period just like a regular investor. The second option available with the company is making a tender offer where it can offer the existing shareholders to buy a specific number of their shares at a premium price which is generally higher than the issue price or the face value of the shares. Shareholders can decide whether or not to sell the shares to the company. Buyback of shares is mainly governed by Section 68 , 69 and 70 of the Companies Act, 2013 which empowers a company to purchase its own shares by using its free reserves or the securities premium account.

It is further important to note that there are two major ways through which companies may award its shareholders or distribute its excess profits: either through dividends or through buybacks. The taxability of share buybacks by the company has always remained a major issue of concern.

At various instances it has been observed that companies shift between buybacks and dividends for the purpose of avoiding taxes and taking into consideration the tax efficiency for itself as well as its investors. The taxation of buybacks has especially undergone various changes in the past years. This project intends to analyze the alterations made in the taxation of buybacks till date, how did the same differ from dividend taxation, what did the company find more suitable: buybacks or dividends, impact on retail investors vis a vis high net worth individuals (HNI’s) or high-income investors (through various examples), and lastly, it analyzes the changes made through the Finance Act, 2026 and its implications on the corporate strategy of the companies as well as the investors. Further, the project intends to analyze how buybacks are taxed in some important jurisdictions across the world and undertakes a critical analysis of the capital gains buyback taxation.

2. Phase- I – Pre-2013 taxation of share buybacks

Before 1 st June 2013, buybacks of shares were taxed as capital gains in the hands of the shareholder under Section 46A of the Income Tax Act, 1961. The capital gains tax was imposed only on the actual gains or profits made by the investor or the shareholder which amounted to:

Actual Gains = Buyback Consideration – Cost of Acquisition of shares

There was no corporate-level tax imposed on the companies executing a buyback. Furthermore, if the transaction was routed through a recognized stock exchange and Securities Transaction Tax (STT) was paid, the Long-Term Capital Gains (LTCG) were completely exempt under Section 10(38). This resulted in a highly favorable tax rate (mostly 0%) for long-term investors. However, when we compare this framework to dividends taxation, it created a massive disparity. The companies who were distributing dividends were required to pay DDT (Dividend Distribution Tax) at the corporate level, even though the dividend was subsequently tax-free in the hands of the shareholders under Section 10(34). This led to tax arbitrage. The companies began to avoid declaring dividends so that they would not have to pay DDT. Instead, they opted for on-market buybacks, where the company paid no tax, and the shareholders legally escaped tax by claiming the 0% LTCG exemption.

3. Phase-II – Introduction of Buyback taxes

In order to curb the practice of using buybacks to avoid the payment of dividend distribution taxes by the companies, the government altered the taxation framework through the Finance Act, 2013. The legislature introduced Section 115QA to the Income Tax Act, which imposed a corporate-level tax on unlisted companies undertaking share buybacks. During this initial phase, listed companies were excluded from Section 115QA, meaning their buybacks continued to be taxed as capital gains in the hands of the shareholders. However, later, the government enacted the Finance (No. 2) Act, 2019, extending the applicability of Section 115QA to listed companies as well. Under Section 115QA, the tax burden was completely shifted from the investor to the corporation. Companies were required to pay a flat “Buyback Tax” of 20% (which amounted to around 23% after factoring in the cess and surcharge). This tax was levied on the distributed income by the companies –

Distributed Income = Buyback consideration paid to shareholder – Issue Price of the shares

In order to prevent double taxation, Section 10(34A) of the Act provided that the amount received after the payment of buyback tax was completely tax-exempt in the hands of the shareholder. If we look at the impact of this regime on the HNI’s vis a vis the retail investors, it was highly beneficial for all classes of shareholders. This is mainly because the flat 23.296% corporate tax rate effectively shielded investors from any personal income tax liabilities, again making buybacks popular among the investors. However, the government tried to bring buybacks at the same level as that of dividends – both leading to a corporate-level tax on the companies with no liability on the investors.

4. Phase- III: Abolition of Dividend Distribution Tax (DDT)

The equilibrium which was established by introducing the buyback tax was disrupted by the Finance Act, 2020, which abolished the DDT. This meant that the burden of payment of taxes on dividends shifted from the company to shareholders. Dividends were now classified as “Income from Other Sources” and taxed at the individual shareholder’s applicable, normal tax slab rates. This again created unevenness – while dividends were now taxable in the hands of shareholders, share buybacks continued to be governed by Section 115QA, where the company paid a flat tax of 23.296% and the proceeds remained completely tax-exempt for the investors under Section 10(34A).

As a result, buybacks became a more tax-efficient method of rewarding the shareholders, especially the HNI’s (High Net Worth Individuals). Under the new dividend regime, high-income investors fell into the highest tax brackets, facing an effective tax rate of around 30% on dividend income. On the other hand, if instead of paying dividends, the company executed a buyback; the promoters and HNIs would be completely shielded from their higher personal tax liabilities. As a result, companies increasingly began to favor buybacks over traditional dividend payouts. Buybacks were weaponized as a tool for tax-efficient wealth extraction rather than genuine capital restructuring. This compelled the government to introduce a new framework in the taxation of buybacks.

5. Phase-IV: Transition to the deemed dividend regime

The Finance (No. 2) Act, 2024

introduced the concept of deemed dividend for taxation of buybacks under Section 2(22)(f) 11 of the Income Tax Act, 1961, with effect from 1 st October 2024. Under this regime, the burden of payment of taxes on buyback of shares shifted from the company to the shareholders. The entire amount of buyback consideration received by the shareholders was deemed to be dividend and thus, taxable under the head of “Income from Other Sources” in the hands of the shareholder according to their tax slabs. Further, it is important to note that tax was not levied merely on the gains but on the Gross Buyback Consideration. To account for the investor’s initial investment, the original cost of acquisition of the shares was treated as a capital loss, which could be carried forward and set off against future capital gains.

(a) Impact on the retail investors/ small taxpayers: For resident individuals in lower tax brackets who were mainly the retail investors, this structure of taxing buybacks as dividend income proved to be useful. This is mainly because if their total income remained within the threshold for a rebate under Section 87A, their buyback income could result in a nil or minimal incremental tax liability. Furthermore, they received the added benefit of a capital loss (equal to their cost of acquisition) which could be adjusted against other eligible capital gains.

(b) Impact on HNI’s: For taxpayers in the highest brackets, this regime was punitive. Their gross buyback consideration was taxed at peak rates (around 30%) since they already fell in higher tax slab rates. While they were granted a capital loss equal to the amount of the cost of acquisition, however, this capital loss is not much useful in cases where the investor does not have corresponding capital gains against which the same could be offset.

(c) Shift in the strategy of investors: Because of this punitive tax burden, HNIs fundamentally altered their investment behavior. Participating in a corporate buyback meant paying up to ~39% tax on the gross proceeds. On the other hand, simply selling those same shares on the open stock exchange triggered standard capital gains taxes: 12.5% for Long-Term Capital Gains (LTCG) and 20% for Short-Term Capital Gains (STCG) on the actual profits. Consequently, large investors began to shun buybacks, preferring open-market sales, which inadvertently made buybacks much less appealing for companies attempting to reward their major shareholders.

(d) Corporate Implications and Deductions: Companies distributing this deemed dividend via buybacks were required to deduct Tax at Source (TDS) at 10% under Section 194 of the Act. For the shareholders, no deduction for any expenditure incurred in relation to the buyback proceeds was permitted, as the proviso to Section 57 13 of the Income Tax Act, 1961 explicitly barred such claims against deemed dividend income. Further, and more critically, the cost of acquisition of the shares tendered in the buyback could not be deducted against this deemed dividend income either, instead, it was relegated to a notional capital loss under the amended Section 46A (since the deemed sale consideration was treated as nil), which could only be set off against other capital gains and not against income from other sources. The only deductions that remained available were the general Chapter VI-A deductions, such as under Sections 80C and 80D , but these operated at the level of gross total income and were in no way specific to or designed as relief for the buyback taxation regime.

6. Phase V: Finance Act, 2026: A shift to the capital gains regime

The deemed dividend regime distorted the market in two ways: (a) By taxing the gross buyback consideration instead of the actual gains made and (b) By allowing cost of acquisition as capital loss which could only be claimed if the investor happened to have a capital gain. As a result, this regime was inefficient for most of the high-end investors in the market. To overcome this, the legislature enacted the Finance Act, 2026, completely overhauling buyback taxation. The government scrapped the deemed dividend rule and reinstated the Capital Gains framework. Under this new regime, shareholders are only taxed on the actual economic gains realized (i.e., Buyback Consideration minus Cost of Acquisition).

However, the impact of this new capital gains framework varies across investors with different income brackets. It provides a greater benefit to large investors compared to retail investors. The same can be understood by way of an illustration below:

RETAIL INVESTORS/ SMALL TAXPAYERS

This depicts that for a small shareholder, the deemed dividends regime was much more beneficial since the dividend amount used to be added to the total income and was taxable at the existing slab rates which are quite low for retail investors who may fall into the lower tax brackets and they may also be able to avail rebate under Section 87A. On the other hand, now the buyback of shares is being treated as capital gains, which is a special tax calculated in accordance with the special rates and not the general tax slab and for which there is no rebate available thus leading to higher income tax liability for small shareholders as can also be seen in the above-given illustration.

LARGE INVESTORS/ HNI’s

Hence, it can be observed that for HNI’s, the capital gains framework is more tax-saving as they may have to pay capital gains on the net gains @12.5% for LTCG or @20% for STCG, compared to higher tax slab rates if the same buyback consideration is treated as deemed dividends.

7. Safeguards against Tax Arbitrage: The “Promoter” Tax

The capital gains rate of 12.5% (LTCG) is highly concessional as compared to the tax slab rates applicable on the high-income individuals. The government realized that this new framework would be used by the company-owners or promoters to save taxes by extracting the profits of the company through buybacks rather than dividends so that they have to pay lower tax rates. To prevent this tax arbitrage, the Finance Act 2026 introduced stringent safeguards via Section 69 of Income Tax Act, 2025. While Section 69(1) allows normal capital gains rates for retail investors, newly substituted sub-sections (2) and (3) impose a special additional income tax explicitly on promoters. A “Promoter” is imported from SEBI Regulations (for listed companies) and the Companies Act, 2013 (for unlisted companies) (Section 2(69)), notably including any shareholder holding, directly or indirectly, more than 10% of the company’s shareholding. In case of a corporate promoter, the effective tax rate would be 22% and for a non-corporate promoter, the same would amount to 30%. However, for retail investors, the tax rate on capital gains would remain as it is (12.5% for LTCG). This has helped in establishing a robust statutory wall against promoter tax avoidance.

8. Critical Analysis and Implications of the New Capital Gains Framework

It is believed that the Finance Act 2026 has helped in rationalizing the taxation of share buybacks. It has been observed that the legislature has tried to evolve the taxation framework by constantly trying to curb the loopholes existing in the provisions for the purpose of primarily avoiding tax arbitrage. The 2026 framework may represent one of the most mature and balanced frameworks for buyback taxation till date. By treating buybacks as capital gains and subsequently imposing higher tax rates for promoters, the new mechanism resolves two major problems: (a) It taxes the actual gains made instead of taxing the gross consideration from the buybacks and thereby helps in deduction of cost of acquisition and (b) It simultaneously ensures that the promoters are not able to take the advantage of the capital gains tax and engage in tax arbitrage. By differentiating between promoters and other shareholders, the law employs a targeted anti-avoidance strategy rather than imposing a blanket burden on all investors. They restore equity by taxing only real gains, neutrality by aligning buy-back with capital market exits, and integrity through higher taxes for promoters when appropriate.

The following implications may result out of the new capital gains mechanism:

(a) The taxpayers may no longer be able to claim deductions under Chapter VI-A since the buyback of shares may no longer be considered as deemed dividends and therefore, would not be considered as Income from Other Sources.

(b) A shift may be observed in the corporate strategy undertaken by the promoters, where instead of selling the shares in buyback, they may instead sell the shares in the open market for a lower tax burden. Let us take an example to understand this – A non-corporate promoter engaging in a buy-back of shares must effectively pay capital gains tax of 30% on such a buyback. On the other hand, if he sells his shares in a stock exchange or open market after holding them for long-term, he may only be subject to a capital gains tax of 12.5%.

(c) As already discussed, taxing of buybacks as capital gains may disproportionately affect small shareholders or individuals who may otherwise be able to claim a rebate under Section 87A by treating the same as dividend income.

(d) At the same time, the new mechanism might result in increased compliance and administrative complexity. Companies and tax authorities must now accurately identify “Promoters” to apply the special additional income tax. Tracking indirect holdings and beneficial ownership to prevent evasion of the Promoter Tax will likely lead to increased administrative friction and potential litigation between tax authorities and large stakeholders.

(e) The Finance Act, 2026’s restoration of the capital gains framework is expected to meaningfully revive corporate buyback activity in India. Under the 2024 deemed dividend regime, many companies, particularly those with diversified retail shareholder bases, may have either deferred planned buybacks or switched to dividend distributions to avoid a heavy tax burden on participating shareholders. But now, with the revival of the capital gains treatment, it is very much possible that Indian listed companies in major sectors like IT, FMCG and Banking sector may engage in buybacks in the coming FYs.

(f) For the investors and the companies, they may have to analyze the following factors in order to check which of the two: dividends or buybacks is a more tax effective tool for rewarding the shareholders and distributing the excess profits: (a) their slab rate; (b) whether the buyback would be taxed as STCG or LTCG; (c) availability of rebate u/s 87A (where applicable); and (d) the ability to utilize capital losses or set-off capital gains.

(g) For companies with a predominantly retail, long-term investor base, buybacks at 12.5% LTCG are structurally superior to dividends taxed at full slab rates. For companies with large institutional shareholders (who may prefer regular income), or companies with promoters wary of the additional buyback tax, dividends retain relevance.

9. Lessons from other jurisdictions and way ahead

The United States and the United Kingdom both take a straightforward approach by treating buybacks primarily as capital gains for the shareholder, taxing the profits at standard capital gains rates. The UK maintains its tax system through its basic structure which lacks additional corporate taxes, while the US system adds a 1% corporate excise tax which companies must pay according to their profits. Singapore takes this simplicity to the absolute extreme; because it has no capital gains tax or dividend tax, buybacks and dividends are completely tax-neutral, allowing companies to make financial decisions based purely on business needs rather than tax loopholes.

The Australian system displays its dangerous nature through its intricate design which receives constant examination. Companies must handle regular on-market buybacks as capital gains, but they face challenges when dealing with off-market buybacks because those require them to separate their income into two distinct parts: a capital component and a dividend component. Organizations must navigate complex dual treatment regulations which require extensive monitoring from the Australian Tax Office because the system creates intricate legal battles that result in the most challenging regulatory framework among the four options.

There are still opportunities to enhance the Indian buyback tax system which exists today. The the promoter rate differential may be excessive; and the definition of promoter for unlisted companies requires a more precise definition. India needs to develop a system which allows businesses to decide their capital distribution methods through buybacks or dividends based on operational needs instead of using tax loopholes. The tax system still favors buybacks among retail investors because it establishes a lower tax rate for buyback gains (12.5%) compared to the higher tax rate for dividends (up to 30%) which now reflects their economic value because of the 2024 deemed dividend rule.

10. Conclusion

The Finance Act 2026 provides a practical solution to share buyback taxation through its specific approach which eliminates the problems created by the former deemed dividend system. The legislature has restored the capital gains framework which enables investors to pay taxes on their actual profits while deducting their acquisition expenses. This structural correction will lead to an increase in corporate buyback operations which will especially benefit companies that have substantial retail investors who can take advantage of the 12.5% long-term capital gains tax rate. The 2026 framework changes dividend distribution and stock buyback decisions from a tax- based process into an elaborate corporate decision-making framework. The capital distribution process requires companies to assess their shareholder composition, which includes determining retail investor capital gains benefits and institutional investor preferences for regular dividend payments.