Capital gains on distribution of assets by companies in liquidation.
68(1)
Irrespective of anything contained in section 67, where the assets of a company are distributed to its shareholders on its liquidation, such distribution shall not be regarded as a transfer by the company for the purposes of the said section.
68(2)
If a shareholder, on the liquidation of a company, receives any money or other assets from the company, then,––
- (a) such shareholder shall be chargeable to income-tax under the head “Capital gains”, in respect of the money so received or the market value of the other assets on the date of distribution, as reduced by the amount assessed as dividend within the meaning of section 2(40)(c); and
- (b) the sum so arrived at shall be deemed to be the full value of the consideration for the purposes of section 72.
Section Summary:
This section deals with the tax treatment of capital gains when a company in liquidation distributes its assets to shareholders. It clarifies that such distribution is not considered a "transfer" by the company for tax purposes. However, shareholders receiving money or assets from the liquidation are subject to capital gains tax on the amount received, after adjusting for any portion treated as a dividend.
Key Changes:
- Exclusion from "Transfer": The distribution of assets during liquidation is explicitly excluded from being treated as a "transfer" by the company under Section 67. This is a clarification to avoid double taxation scenarios.
- Taxability for Shareholders: Shareholders are now explicitly taxed under the head "Capital gains" for the money or assets received during liquidation, after deducting any amount treated as a dividend under Section 2(40)(c).
Practical Implications:
- For Companies in Liquidation: The company does not incur any capital gains tax liability when distributing assets to shareholders during liquidation.
- For Shareholders: Shareholders must calculate capital gains on the money or assets received, after reducing the amount treated as a dividend. This ensures that the same income is not taxed twice (once as dividend and again as capital gains).
- Compliance Burden: Shareholders must determine the market value of the assets received and ensure proper reporting of capital gains in their tax returns.
Critical Concepts:
- Dividend under Section 2(40)(c): This refers to the portion of the distribution that is treated as a dividend under the Income Tax Act. It is excluded from the capital gains calculation to avoid double taxation.
- Full Value of Consideration: The amount received by the shareholder (after deducting the dividend portion) is treated as the full value of consideration for calculating capital gains under Section 72.
- Market Value of Assets: If the distribution includes non-cash assets, the market value of those assets on the date of distribution is used to determine the capital gains.
Compliance Steps:
For Shareholders:
- Determine the total amount received (cash or market value of assets).
- Subtract the portion treated as a dividend under Section 2(40)(c).
- Calculate capital gains on the remaining amount.
- Report the capital gains in the appropriate schedule of the income tax return.
For Companies:
- Ensure proper documentation of the liquidation process and asset distribution.
- Provide shareholders with details of the distribution, including the portion treated as a dividend.
Example:
- Scenario: A company in liquidation distributes ₹10 lakh to a shareholder. Out of this, ₹2 lakh is treated as a dividend under Section 2(40)(c).
- Calculation: The shareholder calculates capital gains on ₹8 lakh (₹10 lakh - ₹2 lakh). If the shareholder's cost of acquisition (e.g., purchase price of shares) is ₹5 lakh, the capital gains would be ₹3 lakh (₹8 lakh - ₹5 lakh).
- Tax Treatment: The ₹3 lakh is taxed as capital gains, while the ₹2 lakh is taxed as a dividend.
This section ensures clarity in the tax treatment of liquidation proceeds, balancing the interests of both companies and shareholders.