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Can Budget 2022 de-stress stressed companies?

01 February 2022

The relief under IBC and certain other regulatory relaxations are only halfway done, various other milestones need to be touched upon from an Income Tax standpoint, for the growth and revival of stressed companies.

Over the last two years, the pandemic shocked the financials of nearly all businesses and laid down various challenges not only for growth but also for the sustainability of enterprises and entrepreneurs.  
Several Indian companies have seen a sharp rise in their overall debt.

The servicing of this debt is arduous and as a result, lenders are compelled to classify these debts as stressed assets or stressed companies. Investors are also grudging about investing in such companies. These reasons have formed a bedrock for the government to usher in some stressbusters. 
The intent of the Insolvency & Bankruptcy Code (IBC) is to give an opportunity to businesses to revive. While we have seen successes emanating from IBC, if the tax laws are not aligned, this may lead to a huge tax outflow which may be a non-starter for an investor. 

Among other issues, waiver of debt, carry forward and set-off of losses, tax liability under Minimum Alternative Tax (MAT) provision for companies incurring losses, etc. are key areas that need to be considered from an Income tax standpoint for the revival and growth of stressed companies.  
An investor would like to bet on a company with a healthy balance sheet, especially for long-term investments. In the light of this fact, from a loss-making or a leveraged company, investors may seek an opportunity to carry forward and set off losses of that company against its profit, after acquiring a holding stake in that company and look for a lesser tax outflow due to the availability of losses with the company.

To incentivise such investors, the government had introduced a relaxation for carry forward and setting off of losses where the change in the shareholding of the company takes place under a resolution plan approved under the IBC. 

To further incentivise the company where an application for corporate insolvency resolution process has been admitted under IBC, instead of lower of unabsorbed depreciation or brought forward business losses, tax authorities have allowed the aggregate of brought forward business losses and unabsorbed depreciation as a deduction from book profit for computing tax liability under MAT provisions. 
A domestic company may opt to pay tax at 22% under the new tax structure. In such a scenario, the company is exempted from paying any MAT on book profit. This exemption from paying MAT for companies opting for the new corporate tax structure could make investing in stressed companies undergoing the corporate insolvency resolution process, more attractive 
The government's effort to reduce the hardships of distressed companies is very well appreciated. The following proposed amendments may further foster restructuring and debt resolution of stressed companies: 

  • Conversion of loan/interest payable into equity - The company may consider the conversion of outstanding debt and unpaid interest into equity as a debt restructuring process under IBC. Based on certain judicial pronouncements, this may trigger some tax implications in the hand of the Company. Moreover, because of such conversion, the difference, if any, between the carrying amount of debt and the fair value of equity instrument to be issued on such conversion will be recorded in the Profit and Loss Account (P&L), under Ind AS. In addition to the tax implications under the normal provision of the IT Act, this may result in an additional tax outflow at the time of computing tax liability under MAT provisions.  

Given the above, the relaxation of tax implications, including MAT, on account of the conversion of debt into equity as a part of the debt restructuring plan approved under IBC, would be a welcoming incentive for stressed companies. 

  • Waiver of Debt - Stressed companies may consider debt restructuring or waiver of debt, if possible, as a part of their resolution process under IBC. In a situation where the waiver amount exceeds the tax losses, the write-back may be taxed under the MAT provisions and even under the normal provisions of the IT Act depending on the nature of the loan. It may therefore be worthwhile for such companies to be given a blanket exemption on such write back or an alternate mechanism to tax the amount such that it does not create a cash flow drain for the company. 

The government needs to announce new measures/incentives for the revival and growth of the stressed companies/entrepreneurs. 

The relief under IBC and certain other regulatory relaxations are only halfway done, various other milestones need to be touched upon from an Income Tax standpoint, for the growth and revival of stressed companies.