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Convertible preference shares & tax implications under I.T.Act | taxworry.com

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Convertible Preference Shares & Tax Implications Under I.T.Act | Taxworry.com
Convertible preference shares entitle a holder fixed number of shares after a time. This is the point of time when the taxation issue starts rising. So this post is going to discuss and provide answers to following questions  : Whether the conversion of preference shares to shares gives rise to capital gains? How to compute period of holding of shares received on conversion of preference shares? How are the cost of acquisition of shares on redemption of preference shares determined? From which date indexation benefit allowed -from date of redemption or from date of original holding of preference shares? Whether special tax rate u/s 112A applies to long term capital gains on the sale of shares received on conversion of preference shares? Whether the conversion of preference shares to shares gives rise to capital gains? This was a controversial issue till the assessment year 2017-18, but Finance Act 2017 brought an end to it by inserting a new clause under section 47 effective from 01/04/2018 (assessment year 2018-19 ) by which the conversion of preference shares are declared as if no transfer took place. Thus no capital gains can be computed. Here is the amendment Transactions not regarded as transfer. 47. Nothing contained in section 45 shall apply to the following transfers:— (xb) any transfer by way of conversion of preference shares of a company into equity shares of that company; Therefore, there is no issue of taxation on conversion of preference shares to shares from asst year 2018-19 (FY 2017-18 ) How to compute the period of holding of shares received on conversion of preference shares? When you sale the shares received on account of convertible preference shares, the first issue that affect the taxation of capital gains on the sale of such share is the period of holding of the shares sold. The main issue to determine is whether the period of holding to be counted from the date of conversion or the date of holding of preference shares? Fortunately, this point is also solved because an amendment to section 2(42A) (effective from asst year 2018-19 ) that defines "period of holding"  says that period for which the preference shares were held by the assessee shall also be computed. (hf) in the case of a capital asset, being equity shares in a company, which becomes the property of the assessee in consideration of a transfer referred to in clause (xb) of section 47, there shall be included the period for which the preference shares were held by the assessee so computation of period of holding of shares sold shall be from the date of holding of preference shares were held. How are the cost of acquisition of shares on redemption of preference shares determined? Finance Act 2017 has inserted subsection 2AE of section 49 under which the cost of preference shares that were converted shall be the cost of the shares on redemption 2AE) Where the capital asset, being equity share of a company, became the property of the assessee in consideration of a transfer referred to in clause (xb) of section 47, the cost of acquisition of the asset shall be deemed to be that part of the cost of the preference share in relation to which such asset is acquired by the assessee. For example, if you purchased preference shares for Rs 5 lakh 0n 01/05 2015 and 30% of the preference converted to shared in May 2017 and balance in 2018. The cost of 30% shares will be 30% x 5 lakh = Rs 1.5 Lakh and the shares received in 2018 will have cost of acquisition of Rs 3.5 Lakh . From which date indexation benefit allowed -from date of redemption or from date of original holding of preference shares? Since the holding period is counted from the date of holding of preference shares and cost of acquisition also corresponds to the cost of acquisition of preference shares, the indexation shall be from the date of holding of preference share and not from the date of redemption. Whether special tax rate u/s 112A applies to long term capital gains on the sale of shares received on conversion of preference shares? First of all , special rate effective from asst year 2019-20 , is applicable on listed shares. So all unlisted shares, received on redemption of preference shares are unaffected by section 112A. Under section 112A , effective from FY 2018-19, the provision of tax on long term capital gains computed without indexation shall be on listed shares which were acquired on payment of STT . Naturally, preference shares do not come under such mode of acquisition. But government intention is to stop only certain type of acquisition and |I hope soon, CBDT will notify types of acquisition of shares on which lower tax @ 10 will be applicable u/s 112A of the Income Tax Act . If you subscribed to preference shares of a listed company and are likely allotted shares on redemption in future years, in my considered opinion you can avail of benefit u/s 112A.
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