Buyback of shares is an important corporate restructuring tool whereby a company repurchases its own shares from existing shareholders. It is widely used to optimise capital structure, improve financial ratios and provide liquidity to investors. However, such transactions are strictly regulated under the Companies Act, 2013 and are subject to evolving taxation provisions.
Under Section 68 of the Companies Act, 2013, a company is permitted to buy back its shares out of free reserves, securities premium or proceeds of issue of other specified securities, but not from the proceeds of the same kind of shares. The law prescribes several safeguards such as authorisation in the Articles, approval by Board or shareholders depending on limits, a cap of 25% of paid-up capital and free reserves, maintenance of a post-buyback debt-equity ratio not exceeding 2:1, and completion of the buyback within one year. Further, shares must be fully paid-up and the company is required to file a declaration of solvency and maintain statutory records. These provisions ensure creditor protection and financial discipline.
From a business perspective, buyback serves multiple objectives. It enhances earnings per share, improves return ratios, enables efficient deployment of surplus cash and provides an exit opportunity to shareholders. It is also often viewed as a signal of management’s confidence in the company’s valuation. At the same time, strict compliance is required, as any violation may attract penalties and prosecution.
The taxation of buyback has undergone significant changes over the years under the Income-tax Act, 1961. Earlier, under Section 115QA, the company was liable to pay buyback tax at 20% (plus surcharge and cess), and the income was exempt in the hands of shareholders. This regime was introduced to curb tax avoidance through dividend distribution. Subsequently, the Finance Act, 2024 shifted the burden to shareholders by taxing buyback proceeds as dividend income at applicable slab rates, while allowing the cost of acquisition as capital loss. This resulted in increased tax incidence and practical difficulties
The Finance Bill, 2026 now proposes a more rational framework by taxing buyback proceeds under the head “Capital Gains”. Under this regime, tax will be levied only on the net gains, i.e., the difference between buyback price and cost of acquisition, thereby aligning taxation with real income. For general shareholders, normal capital gains provisions will apply—such as 12.5% for long-term listed shares and applicable rates for other cases.
A significant feature of the proposed amendment is the introduction of a differentiated tax regime for promoters. The Memorandum explains that promoters, owing to their controlling position, are subject to a higher effective tax incidence, broadly indicated at 22% in case of promoter domestic companies and 30% for other promoters. It is important to note that these are not standard capital gains rates but represent an aggregate effective tax framework applicable only to specified promoter categories.
An important clarification proposed in the Finance Bill, 2026 is that this special promoter taxation will apply only to buyback transactions undertaken in accordance with Section 68 of the Companies Act, 2013. This amendment is crucial as it ensures alignment between company law and tax provisions and prevents unintended coverage of transactions which are not genuine buybacks. Without this clarification, there could have been ambiguity regarding the scope of the provision.
To illustrate, under the earlier dividend-based regime, a buyback at ₹500 where the cost was ₹300 could result in taxation on the entire ₹500. Under the proposed 2026 regime, tax would apply only on ₹200, being the actual gain, thereby making the system more equitable and logical. However, where promoters are involved, the special tax framework may result in a higher effective tax burden.
In conclusion, buyback of shares continues to be a powerful financial and strategic tool, but it operates within a tightly regulated legal and tax environment. The Finance Bill, 2026 represents a balanced approach by restoring capital gains-based taxation while retaining safeguards against misuse, particularly in promoter-driven transactions. Careful planning and compliance will remain essential to optimise the benefits of buyback under the revised regime.
