(First published on Linkedin)
In today’s corporate landscape, shareholder reward mechanisms could take shape as various mechanisms. These include options like dividends, buybacks, and bonus instruments to distribute value. Following is a concise breakdown of these mechanisms, focusing on their legal foundations, permissibility, and tax implications:
1. Dividend in Cash
– Foundation: Section 123, Companies Act, 2013
– Permissibility: Allowed out of retained earnings
– Taxation: a) 25% for corporate shareholders; b) 36% for individual resident shareholders; c) DTAA benefit available to non-resident shareholders
2. Dividend in Kind
– Permissibility: Not permissible
– Precedent: Rejected by Bombay HC in India Seamless
3. Buyback
– Foundation: Section 68, Companies Act, 2013
– Permissibility: Allowed from free reserves, securities premium, or proceeds from share issuance, up to: a) 25% of total shares; and 25% of net worth.
– Taxation: Same as dividend, irrespective of accumulated profit; cost of acquisition allowed as capital loss. Classification as dividend or capital gain depends on respective DTAAs
4. Capital Reduction
– Foundation: Section 66, Companies Act, 2013
– Permissibility: Requires NCLT approval, and stock exchange/SEBI approval for listed companies
– Taxation: a) Accumulated profits: Taxed like dividends; b) Beyond accumulated profits: Treated as capital gains (12.5% plus surcharge/cess if long term)
5. Bonus Non-Convertible Debentures
– Foundation: Section 230, Companies Act, 2013 (Scheme of Arrangement)
– Permissibility: Requires NCLT and stock exchange/SEBI approval for listed companies
– Taxation: a) Treated as dividend on issuance; b) Amount taxed as dividend available as cost for redemption/sale, if initial issuance routed through merchant banker – capital gains at the time of redemption/ sale on the differential
6. Bonus Non-Convertible Redeemable Preference Shares
– Foundation: Section 230, Companies Act, 2013 (Scheme of Arrangement)
– Permissibility: Requires NCLT and stock exchange/SEBI approval for listed companies
– Taxation: a) No tax on issuance; b) Taxed as capital gains at redemption/sale – 12.5% plus surcharge/ cess, if long term