The Hindu Business Line : Benign towards banking

A WAVE of amalgamations and mergers is sweeping across the globe. Globalisation has made it necessary for Indian companies to regroup in order to meet the challenges from multinationals.

The way business is carried on should not result in different tax consequences. It should not matter whether the business is run as a proprietary/partnership firm or a joint stock company. Only in 2005 did the policymakers decide to align the tax rate of joint stock companies and the non-company form of organisations at 30 per cent.

Earlier, conversion of a proprietary business into a partnership and a partnership into a company attracted capital gains tax. The Expert Group has recommended that business re-organisation be encouraged whenever it is in consonance with the objective of economic development and not when it is resorted merely as a device engineered to secure tax advantage.

The Finance (No. 2) Act, 1998 conferred exemption from capital gains by inserting sub-clauses (xiii) and (xiv) in Section 47 of the Income-Tax Act, 1947 to secure these objectives. Simultaneously, a new sub-section (4) was inserted in Section 72 A to provide that in all such cases of business reorganisation, the accumulated loss and the unabsorbed depreciation of the predecessor shall be deemed to be the loss or the depreciation allowance of the successor company. The Finance Act, 1999 conferred similar benefits for demergers.

Section 72 A took care of accumulated loss and unabsorbed depreciation in certain cases of amalgamations. Hitherto, banking companies were not covered by the exemption under Section 47 from capital gains tax on amalgamation. A new sub-clause (viaa) is being inserted in Section 47 by the latest Finance Bill to provide that any transfer of a capital asset by a banking company to banking institutions in a scheme of amalgamation of a banking company with a banking institution sanctioned and brought into force by the Central Government under the Banking Regulation Act, 1949 shall not be regarded as transfer and, hence, no capital gains tax will be attracted.

A similar amendment is also made to clause (2) of the Explanation to Section 32(1) relating to depreciation.

A new Section 72 AA is being inserted to provide that in such a scheme of amalgamation, the accumulated loss and unabsorbed depreciation allowance of the amalgamating banking company shall be deemed to be the loss or the depreciation allowance of such amalgamated banking institution for the previous year in which the scheme of amalgamation is brought into force.

Terms such as "accumulated loss", "banking company", "banking institution" and "unabsorbed depreciation" are specially defined in the Explanation to the new Section 72AA.

It is further proposed to amend Section 49 of the Act so as to provide that cost of acquisition of a capital asset transferred under the scheme of amalgamation of a banking company with a banking institution sanctioned under sub-section (7) of Section 45 of the Banking Regulation Act, 1949 shall be deemed to be the cost for which the banking company acquired it.

The amendment will apply from April 1, 2005, and will affect assessments from the assessment year (AY) 2005-06.

The Banking Regulation Act defines a "banking company" as one carrying on the business of banking in India. The term "banking institution" is defined to include any banking company and includes State Bank of India and its subsidiaries.

Co-operative banks have been held not to be banking companies (Phoenix Impex vs State of Rajasthan — AIR 1998 Raj 100). Therefore, amalgamation of a co-operative bank into another bank may not fall under this clause.

The reform, however, goes only half way. The benefit is not extended to the case of a voluntary merger of a banking company with either a private sector bank or a foreign bank operating in India.

The Finance Minster, Mr P. Chidambaram, had pointed out that Indian banks are pygmies on the world stage. He has appealed to banks to consolidate for gain.

The proposed amendments in this year's Finance Bill will promote this objective of banking consolidation. The amendment has been specifically made applicable to the current assessment year so that banks such as the Oriental Bank of Commerce, which went in for consolidation in the last financial year, will stand to gain a few hundred crores of rupees.

When Sections 47 and 72 A were taken up for restructuring in 1998, the idea was to encourage only industrial undertakings, by offering a tax neutral system for restructuring.

The financial sector was completely kept out of the purview. Now that the banking sector has been conferred the benefits, probably in the next few years even non-banking financial institutions will be given the benefit of all these tax-neutral policies in business reorganisations.

After all, business restructuring is also looked into by the authorities under company law, apart from the income-tax angle, and it can always be ensured that there is no abuse of tax concessions.

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

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