–Pratap
India’s tax rules for share buybacks underwent a significant overhaul on October 1, 2024, fundamentally changing the game for investors. The shift from the company paying the tax to the shareholder bearing the entire burden has created a complex scenario where physical profits are taxed heavily, while associated losses offer limited relief.
Here is a comprehensive breakdown, including specific examples, of how buybacks are taxed in 2026 and why the standard rules of capital gains no longer apply.
1. The Fundamental Shift: Why it’s not Capital Gains Anymore
The government reclassified buybacks to ensure parity with dividends. This crucial change uses two legal fictions:
- The “Deemed Dividend” Rule (Section 2(22)(f)): The entire amount received by the shareholder in a buyback is treated as a distribution of company profits, making it “Income from Other Sources” (IOS), taxed at your personal slab rate (up to 30%+).
- The “Nil Consideration” Rule (Section 46A): For the purpose of capital gains calculation, the “sale price” of the shares is legally deemed to be Zero (Nil).
This means you cannot calculate a traditional capital gain (Sale Price – Cost). The transaction is separated into two parts: a fully taxable receipt and a standalone capital loss.
2. The Hard Rule: No Inter-head Set-offs
This is the biggest hurdle for investors. Under Section 71 of the Income Tax Act, losses under the head “Capital Gains” cannot be adjusted against income under any other head.
- You cannot use your buyback loss to reduce your Salary income.
- Crucially, you cannot use your capital loss to reduce the tax on the “Income from Other Sources” (the deemed dividend) generated by the buyback itself.
3. Example 1: The “Profit Paradox” Scenario
Assume you purchased 10,000 shares at ₹100 each (Total Cost: ₹10,00,000) and three years later, the company buys them back at ₹150 per share.
| Item | Amount | Tax Category |
| Buyback Receipt | ₹15,00,000 | Income (IOS) – Taxed at slab rates |
| Buyback Share Cost | (₹10,00,000) | Capital Loss (LTCL – Long Term Capital Loss) |
| Net Profit (Physical) | ₹5,00,000 | Irrelevant for initial tax calculation |
The Tax Treatment:
- Tax on Buyback Receipt: You must pay tax on the full ₹15,00,000 at your personal income tax slab rate (e.g., ₹4.5 lakhs in tax if in the 30% bracket).
- The Capital Loss: The ₹10,00,000 loss cannot be used here. It can only be used to offset other capital gains (from selling a house, gold, or other stocks).
- The Catch: If you have no other gains, that ₹10 lakh loss is carried forward for up to 8 years, while you pay the full tax bill upfront.
4. Example 2: Combining Buyback and Open Market Sales
What if you have mixed transactions? Assume the same initial purchase (10,000 shares at ₹100), but the company buys back 6,000 shares at ₹150, and you sell the remaining 4,000 in the open market at ₹75.
The Data & Treatment:
- Buyback Portion (6,000 shares):
- ₹9,00,000 receipt taxed fully as IOS.
- ₹6,00,000 cost becomes an LTCL.
- Open Market Portion (4,000 shares):
- Sale price ₹75 vs. cost ₹100 results in a ₹1,00,000 LTCL.
The Set-off:
You can combine the capital losses from both transactions because they are in the same “Capital Gains” income head:
- Total LTCL = ₹6,00,000 (buyback cost) + ₹1,00,000 (open market sale loss) = ₹7,00,000 total capital loss.
This ₹7 lakh can be used to offset other Long-Term Capital Gains. However, you must still pay the full tax on the ₹9,00,000 received as a deemed dividend.
Summary
Effective 2026, share buybacks are taxed as deemed dividends at your personal income tax slab rate, while the purchase cost is recorded as a capital loss. Because inter-head set-offs are prohibited, you cannot use the investment cost to reduce the tax on the buyback payout. This creates a situation where you pay full tax on the cash received upfront, while your investment cost becomes a separate loss that can only offset other capital gains (like property or other stocks) or be carried forward.
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Disclaimer: This article is for educational purposes only and does not constitute financial or tax advice. Please consult with a qualified financial advisor or tax professional for your specific situation.
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