How Budget proposes to change the tax structure & rules for 'gifts'

July 25, 2024

Synopsis
From April 1, 2024, the capital gains tax exemption for gifts under corporate restructuring will apply only to gifts by individuals or Hindu undivided families. Legal entities like companies or firms giving gifts will be subject to capital gains tax on deemed consideration. Experts noted that this change might stop such gift arrangements completely. Family settlements remain unaffected.

Corporate restructuring and reorganisations often involve transactions where assets such as shares of another company are transferred without consideration, typically regarded as 'gifts'. These transactions have historically enjoyed tax exemptions for the donating entity under section 47(iii) of the Income Tax Act, ToI reported. However, the recipient of the gift has been taxed under section 56(2)(x) of the Act. A new budget proposal seeks to limit these exemptions starting April 1, 2024, to only individuals and Hindu undivided families.

Currently, companies, firms, and trusts could give away assets without facing capital gains tax, considering these actions as gifts. However, the budget proposal changes this by specifying that the exemption under section 47(iii) will no longer apply to non-individual entities, such as companies and firms.

Deepak Joshi, an advocate at the Supreme Court, commented on the shift in the legal landscape. "The revenue authorities had typically held a view that a gift is made out of personal love and affection, hence legal entities like a company should be subject to capital gains tax on transfer of assets. However, several high court rulings were in favor of the transfer company, as section 47(iii) was silent on the nature of the person who makes the gift. The Budget has now carved out exclusions."

With the proposed changes, companies and other non-individual entities giving a gift will no longer qualify for an exemption under section 47(iii). However, taxation might still not arise in many cases, as Pranav Sayta, partner and transactions tax leader at EY-India, explains. "In the light of the Budget proposal, companies (and even limited liability partnerships, firms, etc.) giving a gift will henceforth not qualify for exemption under section 47(iii). However, in the absence of any consideration (which may typically be the case in situations of gift), the company giving a gift may not have any gain at all and hence the question of being taxed should not arise at all."

Sayta further notes that there are specific situations where the Act prescribes a "deemed consideration." "However, there are certain situations in which the Act prescribes a 'deemed consideration,' for instance, in the case of gift of unlisted shares (section 50CA) or immovable properties (section 50C) or business transfers (section 50B). In such cases, the company may now be taxable on capital gains computed on the basis of such deemed consideration."

Girish Vanvari, Founder of Transaction Square, believes the amendment clarifies existing practice. "This amendment is more clarificatory in nature. With Section 56(2)(x) already in place, which does not exempt corporate gifts, many companies were already dissuaded from gifting assets. With this change, such arrangements will completely stop."

Family settlements, according to Abhishek Goenka, founding partner at Aeka Advisors, are not likely to be affected by the amendment. "As regards family settlements, according to Abhishek Goenka, founding partner at Aeka Advisors, these should not be impacted by the amendment. In a family settlement, it is not the gift exemption that is relied on, but rather the fact that members of the family are only re-arranging what already belongs to them." Goenka points out that the amendment does not specify that the recipient of the gift has to be an individual or a Hindu undivided family.

In essence, while the proposal aims to close a loophole for non-individual entities giving gifts, it retains the ability of individuals and Hindu undivided families to make tax-exempt gifts. Family re-arrangements should remain unaffected, ensuring clarity and fairness in the gift taxation landscape.

[The Economic Times]