The Hindu Business Line : A proposal that hampers business reorganisation

In the past several years, the Government had taken conscious decision to make business reorganisation tax neutral. Conversion of partnership into a company was considered not liable for capital gains taxation from 1998 onwards.

The term "de-merger" was introduced in Section 2 (19AA) by the Finance Act, 1999 with effect from April 1, 2000 . Provisions relating to amalgamation and de-merger were re-cast so as to make the benefit of carry-forward of unabsorbed depreciation and unabsorbed business losses available for the new entity after amalgamation or de-merger.

Sops extended

Tax holiday benefits were extended and undertakings setting up infrastructure facilities were given 100 per cent tax exemption. The chain of deductions in respect of setting up of industrial undertakings, hotels, ships, etc., was originally contained in Section 80J of the Income-Tax Act, 1961. These deductions are now available under Sections 80I, 80IA and 80IB.

Sub-clause 12 of Section 80IA lays down that transfer in a scheme of amalgamation or de-merger will mean loss of benefit under this section to the amalgamating or de-merged company.

Creates confusion

Courts have held that the benefit of tax exemption is conferred on the undertaking and not on the company owning the undertaking. In the event of transfer of undertaking, the tax holiday benefit should be available to the transferee for the remaining period of the tax holiday when the transfer takes place before the expiry of such period. Whether the transfer takes place in a scheme of amalgamation or de-merger or otherwise the holiday benefit will not be lost for the transferee. Sub-clause [12] no-doubt creates confusion.

Now a new sub-section [12A] is introduced by the Finance Bill, 2007 laying down that Sub-clause 12 will not apply to an enterprise or undertaking transferred in a scheme of amalgamation or de-merger after March 31, 2007. Lest there be any doubt about the intentions of the government, the Memorandum explaining the provisions in the Finance Bill, 2007 declares that the object behind insertion of Sub-section [12A] in Section 80IA is to deny the benefit of deduction under the Section to an undertaking or enterprise that is transferred in a scheme of amalgamation or de-merger after March 31, 2007. This is a restrictive amendment.

The amendment makes strange reading. No reasons are indicated for denying the benefits under Section 80IA to mergers and amalgamations after March 31, 2007. This Section was brought into the statute book in order to attract private investments in infrastructure in a big way. There may be any number of infrastructure entities that may feel the need to change their corporate structure for bona fide reasons. If the Government felt that the provision is being abused by fudging mergers and de-mergers to avoid or evade tax, all that is required is to insert a provision in Section 80IA to the effect that the benefit will not be allowed if business reorganisation takes place solely for the purpose of taking tax advantage.

Enough monitors

There are so many other solutions that can be thought of. The blanket ban imposed on amalgamations and de-mergers and that too within such a short time as March 31, 2007 amounts to violation of the doctrine of promissory estoppels. The new provision hampers business reorganisation. It should not be forgotten that as the law stands at present, the High Courts looks into the scheme of amalgamation, de-merger etc. The Company Law Board is also involved. If there is abuse, any of these agencies can be informed of the views of the Income-Tax Department in the matter.

The amendment does not come with grace, especially when the tax holiday benefit is extended by the Finance Bill to undertakings engaged in laying and operating cross-country natural gas distribution network, including pipelines and storage facilities forming an integral part of such network, which begin functioning on/after April 1.

Even navigation channels are now sought to be covered by the Section 80IA benefit. It is necessary that companies be put on notice about the denial of the Section 80IA benefit for amalgamations and de-mergers after March 31, 2007.

The date should be extended. The Government's credibility is at stake. Nothing will be lost if companies are put on notice about the Government's intention to deny benefits under Section 80IA to amalgamationand de-mergers during tax-holiday period. It will be best if the proposed amendment is dropped.

(The author is a former Chief Commissioner of Income-Tax.)

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