Income Tax on Buyback of Shares —
A Practical Practitioner Note on the Shift from Gross Receipts to Net Gain Taxation

1. Introduction

Most commentary on buybacks tends to focus on the premium offered and what it may indicate about promoter confidence or capital allocation intent. The tax treatment historically attracted much less discussion because, until October 2024, shareholders were largely unaffected. The tax burden sat with the company, shareholders received the proceeds without further tax friction, and the transaction ended there.

The October 2024 change disrupted that simplicity. Take the case of an investor who bought a share at ₹900 and tendered it in a buyback at ₹1,000. Economically, the gain is only ₹100. Yet under the revised rule at the time, the full ₹1,000 was taxed as income. The ₹900 acquisition cost did not reduce this taxable amount; instead, it was recognised separately as a capital loss. That loss could be used only against capital gains and not against the deemed dividend income taxed under "Other Sources." In many cases, this produced an excessively punitive outcome and was widely seen as poor tax design.

ITA 2025 meaningfully improves the framework. The law now aligns taxation with the real economic outcome by taxing only the actual gain. This restores access to the lower capital gains tax rates that investors would ordinarily expect. For promoters, the increased top-up levy effectively closes the earlier tax advantage that made buybacks more attractive than dividends. For the broader shareholder base, Phase III is clearly a more rational and investor-friendly regime.

2. Three Phases of Buyback Taxation

Phase I — Pre-October 2024: Section 115QA (Legacy Company-Level Tax Regime)

For several years, buybacks operated under Section 115QA of the Income Tax Act, 1961. The company paid additional tax at 20% on distributed income, broadly measured as buyback price less issue price. Shareholders generally received the consideration without a further tax event under Section 10(34A).

Although Section 46A preserved acquisition cost as a notional capital loss, its utility was largely computational unless the investor had independent gains available for set-off. The key policy purpose was straightforward: closely held companies should not use buybacks as a cleaner substitute for dividend payouts.

Phase II — October 2024 to March 2026: Deemed Dividend on Gross Proceeds

Effective October 1, 2024, Section 115QA was deactivated and buyback amounts were classified as deemed dividends under Sections 2(22) and 56. While a 10% TDS under Section 194 was deducted from the full amount, shareholders were taxed at applicable slab rates of up to 30% on the total consideration, with no deduction allowed for the purchase price of the shares.

The financial consequences could be quite serious. A shareholder who bought 1,000 shares at ₹400 each and sold them at ₹450 realised an economic profit of ₹50,000. Her Phase II tax of 30% on total receipts of ₹4,50,000 amounted to ₹1,35,000 — nearly three times her actual profit. The ₹4 lakh purchase cost did not disappear, but it was pushed into a separate capital loss under Section 46A. That loss could be used only against capital gains, offering no immediate relief against the dividend-style income being taxed in the same transaction.

Phase III — April 2026 Onwards: ITA 2025 and Section 69 (Net-Gain Regime)

The ITA 2025 design amends the Phase II structure in two key ways. First, Sub-clause (f) of Section 2(40) is removed, thereby excluding buyback proceeds from the definition of deemed dividends. Subsequently, Section 69 acts as the specific charging provision, where the taxable amount is calculated as the consideration received minus the acquisition cost.

The net gain is subject to capital gains tax at 12.5% for long-term or 20% for short-term gains for non-promoters, with an annual exemption of ₹1.25 lakh available on listed equity. The 2025 amendment corrects the Phase II mismatch by aligning the tax base with the real economic profit. For most shareholders, this means only the true gain is taxed and that too at concessional capital gains rates.

3. Key Provisions under ITA 2025

3.1 Section 69(1) — The Charging Provision

The provision explicitly taxes 'the difference' — the net amount, not the gross receipt. Chargeability falls in the year of purchase by the company, which matters where payment straddles financial years. Section 72 is preserved, keeping the full capital loss set-off and carry-forward machinery intact.

Sub-section (3) defines 'promoter': SEBI Regulations for listed companies; Companies Act Section 2(69) for unlisted, extended to anyone holding more than 10% directly or indirectly. Family-business shareholders holding significant stakes through holding companies often fall within this definition even if they have never been formally designated as promoters.

3.2 Section 69(2)(b) — Promoter Additional Tax

Added to standard CG rates (12.5% LTCG / 20% STCG), these produce effective rates of 22% for domestic company promoters and 30% for non-corporate promoters — individuals, HUF, firms, AOP/BOI.

4. LTCG / STCG Rates and the ₹1.25 Lakh Exemption

Long-term capital gains from the buyback of listed equity shares also carry the benefit of claiming an exemption up to ₹1.25 lakh. The ₹1.25 lakh ceiling is a single annual limit across all listed equity LTCG, not per transaction. A shareholder who has already booked ₹80,000 in LTCG from open-market sales during the year has only ₹45,000 of exemption left for any buyback gain in the same year.

On capital losses: where the buyback price falls below acquisition cost, a capital loss arises under Section 69(1). Section 111 allows an eight-year carry-forward against any capital gains — but only if the loss-year return is filed on time. A belated return under Section 263 forfeits this right entirely. Clients who have realised a loss on a buyback should be specifically advised to file on time, even where no tax is payable in that year.

5. The 12% Surcharge — Promoters Only

The Finance Bill, 2026 attached a 12% surcharge to buyback taxation. Early readings suggested it applied to all buyback capital gains as a flat levy, displacing the normal graduated surcharge. The Income Tax Department has since clarified otherwise:

6. Practical Computation Framework for Advisers

6.1 Non-Corporate Promoter — LTCG of ₹10 Lakhs

6.2 Retail Investor — Phase II vs. Phase III Comparison

500 shares, cost ₹200 per share, buyback at ₹1,000 per share.

The ₹1,20,250 saving comes from two simultaneous shifts: the taxable base drops from ₹5 lakh to ₹2.75 lakh (net gain after cost deduction and LTCG exemption), and the rate falls from 30% to 12.5%. The saving grows as acquisition cost rises relative to buyback price. The 30% rate above is the top slab under Section 115BAC; shareholders in lower slabs save proportionally less, though Phase III is still cheaper in virtually every case.

7. Final Practitioner Takeaway

The 2024 experiment of taxing gross buyback receipts created outcomes that were difficult to defend in real advisory work because the tax base was disconnected from the shareholder's actual profit. The 2025 Section 69 model fixes that disconnect by restoring the computation to the surplus genuinely earned on exit.

For non-promoter investors, this is a meaningful improvement in both tax cost and predictability. For promoters, the focus has shifted away from tax arbitrage and toward control, liquidity, and treaty positioning.

CA Jatin Karda

Chartered Accountant  ·  LLB  ·  DISA  ·  AICA  ·  CCA  ·  B.Com
Founder, Jatin Karda & Co., Nagpur