Private companies operating in India typically resort to a buyback of its shares instead of payment of the dividends to avoid a dividend distribution tax, particularly where the capital gains arising to the shareholders are either not chargeable to tax or are taxable at a lower rate.
The Union Budget 2013 includes a provision that, effective June 1, 2013, an additional tax — at a rate of 20% (plus applicable surcharge and cess levy) — would be imposed on any amount distributed by an Indian company with respect to the buy-back of unlisted shares.
In other words, this tax would be imposed on the distributed income of the Indian company. This income would not be taxed again in the hands of the shareholder.
This tax would be:
• In addition to the normal income tax payable by an Indian company on its income
• Applied to distributed income which is to be computed as consideration paid on the buy-back of shares, reduced by the amount received by the company for issue of such shares
Because this tax would be levied on the distributed income of the Indian company, the income tax treaty protection/relief (if previously available) would not be available under the new regime.