Skip to main content

Stock split and Bonus and capital gains tax implications on sale

Generally, investments in equities are made for the potential capital gain. Despite this investment in equities is being considered risker than fixed income instruments. However, apart from capital gains, equity instruments can confer other benefits to investors such as bonuses, stock splits and share buybacks. Let us examine the significance of these for investors and the tax consequences of each such corporate action.

BONUS SHARES

Bonus shares are nothing but shares issued free of cost to the shareholders of a company, by capitalising a part of its reserves. Following a bonus issue, though the number of total shares increase, the proportional ownership of shareholders does not change.

Also, the share price should fall in proportion to the bonus issue, thereby making no difference to the personal wealth of the holder. However, more often than not, handing out of bonus is perceived to be a positive sign. It means the company is able to service its larger equity. Considering the strong signal given out by the company, a consequent demand push for the shares causes the price to move up.

Since no money is paid to acquire bonus shares, these have to be valued at nil cost while making calculations for capital gains. The originally acquired shares will continue to be valued at the price paid at the time of acquisition. Since the market price of the original shares fall on account of the bonus, there may arise an opportunity to book a notional loss on the original shares.

STOCK SPLITS

Stock splits are a relatively new phenomenon in the Indian context. Recently, companies such as ONGC, Infosys, and HDFC, among others, have announced a stock split. It is important that investors understand why companies may split their shares and how this is different from a bonus issue. In a stock split, the capital of the company remains the same, whereas in a bonus issue the capital increases and the reserves decrease. However, in both actions, the net worth of the company remains unaffected.

A typical example is a two-for-one stock split. Say, a company announces a two-for-one stock split in a month. That means a month from that date, the company's shares will start trading at half the price from the previous day. Consequently, you will own twice the number of shares that you originally owned and the company, in turn, will have twice the number of shares outstanding. Consider the adjoining table where the price of 100 shares costs 3000. After the stock split, while the number of shares increases to 200, the price also comes down to `1500 .

The question that arises is if there is no difference to the wealth of the investor, then why does a company announce a stock split? Well, the primary reason is to infuse additional liquidity into the shares, by making these more affordable. The shares only appear to be cheaper; it makes no difference whether you buy one share for 3,000 or two for `1,500 each. As far as the tax implications for stock splits are concerned, there aren't any. A stock split, like a bonus issue, is tax-neutral. However, when the shares are sold, the capital gains tax implications are different that what is applicable for bonus issues. Here, the original cost of the shares also has to be reduced. For instance, in the above example, if the cost of 100 shares at `150 per share was 1,50,000, the cost of 200 shares after the split would be reduced to `75 per share, thereby keeping the total cost constant at `1,50,000.

SHARE BUYBACKS

These are a comparatively new phenomenon. Reliance, Siemens and Infosys are some examples of companies which have done so. A buyback is essentially a financial tool in the hands of the company, that affords flexibility in the capital structure. A buyback allows the company to sustain a higher debt-equity ratio. It is also a tool to defend against possible takeovers. Generally, companies do this when they perceive their own shares to be undervalued or when they have surplus cash for which there is no ready capital investment need.

Stock buybacks also prevent dilution of earnings. In other words, a buyback program enhances the earnings per share. Conversely, it can prevent an earnings per share (EPS) dilution that may be caused by exercises of stock option grants and so on.

A buyback also serves as a substitute for dividend payments. This brings us to the issue of tax implications of a buyback. An important consideration is whether the amount paid on buyback is dividend or consideration for transfer of shares. If considered a dividend, the same will not be taxable in the hands of the investors. Also, to what extent, if at all, can the amount paid on buyback be taken as dividend? Is the entire amount paid dividend or is it only the premium paid over the face value? According to a Supreme Court judgement, (Anarkali Sarabhai v CIT, 1997, 90Taxman509 ), the principle that redemption of shares by the company which issued the shares (in this case, preference shares) is tantamount to sale of shares by the shareholders to the company.

The Finance Act, 1999, reiterated this stand. Now, if a company purchases its own shares, the difference between the money received by the shareholder and the cost of acquisition will be deemed as capital gains. Further, this will not be treated as dividend, since the definition of dividend does not include payments made by the company on purchase of its own shares.
 

Popular posts from this blog

ICICI Pru Mutual Fund Dividend

ICICI Prudential Mutual Fund has announced dividend under the following schemes: Scheme Dividend ( Rs /unit) ICICI Pru Capital Protection Oriented Ser V Plan B-D 0.03611325 ICICI Pru Capital Protection Oriented Ser V Plan B Direct-D 0.03611325 ICICI Pru Balanced Advantage Direct-DM 0.06 The record date has been fixed as February 08, 2017. ------------------------------ ------ Invest Rs 1,50,000 and Save Tax upto Rs 46,350 under Section 80C. Get Great Returns by Investing in Best Performing ELSS Funds Top 4 Tax Saver Mutual Funds for 2017 - 2018 Best 4 ELSS Mutual Funds to invest in India for 2017 1. DSP BlackRock Tax Saver Fund 2. Invesco India Tax Plan 3. Tata India Tax Savings Fund 4. BNP Paribas Long Term Equity Fund Invest in Best Performing 2017 Tax Saver Mutual Funds Online Invest Best Tax Saver Mutual Funds Online Download Top Tax Saver Mutual Funds  Application Forms For further information contact  SaveTaxGetRich on 94 8300 8300 ------------------------------ ------ Leave y...

Hidden Bank Fees

  What Banks Hide From Customers Imagine after a peaceful and exciting holiday you receive your bank statement with steep charges. You then rush to your bank and start confronting staff members and to your dismay, you come to know that the high end debit card was charged very heavily. Wouldn't this cause damage to your finances? So remember, the world outside is full of deceptive and double cheating people. Unethical practices are always used by company sales person in order to meet the target. Credit card companies, mutual funds and bank institutions always play dirty tricks to lure customers and the practices are rampant. So here's how you should be careful while dealing with your banks: High End Debit Card Charges While opening an account with a bank you opt for a debit card with minimal charges. But later on when you upgrade your card and opt for high end debit card the annual charge rise by a good amount. Though such a card has slew of features but it all comes at a high ...

Partial withdrawal from PPF

  Public Provident Fund (PPF) account has a lock in period   If you opened a PPF account to meet your retirement needs,, think twice about withdrawing from this fund before retirement. But provided it's an emergency here are the rules. Public Provident Fund (PPF) account has a lock in period before which you cannot withdraw your money.   The partial withdrawal is allowed after the completion of 6 financial years . This means that you will be allowed a partial withdrawal from 1 April 2017. The maximum partial withdrawal allowed is the least of the following: 50 percent of the account balance at the end of fourth financial year, 31 March 15 50 percent of the account balance of the end of previous financial year, 31 March 17.   There's a loan option available on your PPF account between the fourth and the sixth financial year. You can obtain a loan of up to 25 per cent of the balance in your account. However, this will attract interest of 2 percent more than the prevailing ...

Updating a minor PAN card upon becoming adults

  Updating a minor's PAN card once they become adults A PAN card issued in the name of a minor does not contain the minor's photograph or signature, and therefore, cannot be used as a valid proof of identity. Once a minor PAN card holder turns 18, the relevant changes must be made in the PAN records. A new card is then issued bearing a photograph and signature. Application The applicant is required to fill up the "Request for new PAN card andor changes or correction in PAN data" form. The form can be filled up online by accessing NSDL's Tax Information Network website and clicking on the online PAN application tab. Information The applicant must mention the existing PAN number in the application and check the `photo mismatch' and `signature mismatch' boxes, and submit the online form. The form must also be printed out, signed by the applicant, and submitted along with two photographs. Documents Identity and address proof in the form of a copy of the app...

ICICI Prudential Value Fund Series I

Invest In Tax Saving Mutual Funds Online Download Tax Saving Mutual Fund Application Forms Buy Gold Mutual Funds Call 0 94 8300 8300 (India)   Performance of the scheme will be benchmarked to the S&P BSE 500 index ICICI Prudential Value Fund is a closeended equity scheme. The scheme will have tenure of three years (1095 days) from the date of allotment of units. Units of the scheme will be fully redeemed at the end of the maturity period, unless rolled over. NFO PERIOD:   The NFO is open from October 18 to 28. The minimum subscription during the NFO period is Rs 5,000. SCHEME OBJECTIVE:   The scheme aims to provide long-term capital growth by investing in a well-diversified portfolio of equity and equity-related securities. INVESTMENT STRATEGY:     The fund proposes to invest in stocks that are trading at a huge discount in the BSE 500 index and plans to book profit and distribute dividen...
Related Posts Plugin for WordPress, Blogger...
Invest in Tax Saving Mutual Funds Download Any Applications
Transact Mutual Funds Online Invest Online
Buy Gold Mutual Funds Invest Now