Revisiting The Mcdowell Doctrine in The Context of Taxing Consideration Received In Buy Back of Company Shares: A Critical Examination of Recent Trends

Abstract

The Honourable Supreme Court’s recent decision in Cognizant Technology Solutions India Pvt Ltd. v. Assistant Commissioner of Income Tax raises some intriguing issues on the taxation of consideration received pursuant to buy back of shares. While the scheme of arrangement, through which the buy-back was carried out, was approved by the Madras High Court, the consideration received by the shareholders was subject to a Dividend Distribution Tax. The Income Tax Appellate Tribunal, Chennai, on appeal, condemned the actions of Cognizant India as a ‘colourable device’ to evade taxes and the consideration received by the shareholders was termed as ‘deemed dividend’ under Income Tax Act, 1961, § 2(22), No. 43, Acts of Parliament (India). The ruling was affirmed subsequently by the Supreme Court. The decision has major repercussions on how the tax evasion doctrine developed by the apex court in McDowell And Co. Ltd. v. CTO needs to be applied to buy back of shares. The McDowell ruling allowed legitimate tax planning mechanisms adopted by the assessee. Over the years, the principle developed through various tribunal rulings was that buy back of shares could only be considered a ‘deemed dividend’ when the value of the shares has been artificially inflated to evade taxes. The chapter would analyse the impact of the Cognizant ruling by examining whether the interpretation of ‘deemed dividend’ in the event of buyback represents a step backward from the true spirit of the McDowell ruling, the statutory safeguards and associated judicial principles under the Companies Act, 2013.