In an order that will have a bearing on companies opting to buy back shares at a premium, the Income Tax Appellate Tribunal (ITAT), Mumbai held that tax is not payable for the expenditure incurred for such buybacks. 

Such buybacks involve an expenditure incurred for a smooth and efficient functioning of a company and therefore are in the nature of business expenditure, the Tribunal held. Business expenditure, under the provisions of the Income-Tax Act, is deducted while calculating the taxable income of the taxpayer. 

The order by the ITAT, which was given on September 7 2012, clears the ambiguity over the question whether such an expenditure is liable to tax or not. Companies resort to buyback of shares for a variety of reasons. Lack of investment opportunities in their core business is one major factor influencing buyback, the other reason is cash-rich companies take the buyback route, when they think share prices at the time are too depressed. And they are keen to provide an exit route for their investors. 

But in this case, where the ITAT gave an order, the majority shareholder of the taxpayer company was directed by the Company Law Board ( CLB) to buy back the shares, to facilitate the smooth running of the company. The ITAT order was on an appeal filed by Chemosyn, a pharmaceutical company, located in Mumbai against the decision of the I-T department to levy tax on the expenditure incurred for the buyback of shares. 

There was a dispute between the two groups of shareholders of the taxpayer company, following which the Company Law Board (CLB) directed the majority shareholders to buy back shareholders at a premium price. About 7 crore was spent on the buyback. 

Lawyer Jignesh R Shah, who appeared for the taxpayer, argued that a protracted litigation was going on between the warring factions of shareholders, affecting the smooth functioning of the company. He also pointed out that the expenditure incurred for the buyback had enabled the company to get rid of trouble-making shareholders and run the company profitably. Therefore, he argued that the expenditure is in the nature of business expenditure. 

The Tribunal did not accept the I-T department's argument that payment for the purchase of shares at a premium is in the nature of capital expenditure. The Tribunal pointed out that a similar stand was taken by the I-T department in the case of Echjay Industries. 

In this case, the Tribunal had dismissed the contention of the department, holding that even if the company had obtained enduring benefits through the buyback, such benefits could not construed as a fixed capital asset. According to the Tribunal, the buyback of shares in this case was driven by the need to secure harmony and a smooth management of the company. (Economic Times)