Conflict Between Insolvency Law and Tax Rules
A conflict between insolvency law and tax rules is causing uncertainty for companies undergoing resolution. Tax authorities are increasingly denying the benefit of carrying forward past losses, even after resolution plans have been approved by the National Company Law Tribunal (NCLT).
Background on Insolvency and Bankruptcy Code (IBC)
- IBC allows financially stressed companies to be taken over by new owners through a resolution process.
- Buyers often consider accumulated losses to reduce future tax liabilities.
- The benefit of carrying forward losses is now in question.
Income-Tax Act and Section 79
- The Income-Tax Act typically does not allow companies to carry forward losses with a major change in shareholding.
- Section 79 bars companies from carrying forward losses if over 51% of shareholding changes, common in insolvency cases.
Exception for Insolvency Resolutions
- An exception allows retention of losses if ownership changes through an approved IBC resolution plan.
- The jurisdictional tax officer must be given an opportunity to present views before plan approval.
- Issues arise if tax authorities are not notified or included in the insolvency process.
Experts' Views
- Vivek Jalan notes the procedural requirement for tax authorities' involvement.
- Parag Rathi highlights a gap in legal design between tax and insolvency laws.
Supreme Court and Legal Cases
- In April 2021, the Supreme Court's Ghanshyam Mishra case held that approved IBC resolution plans are binding on all parties, including tax authorities.
- The JSW Steel case ruled that resolution plan approval does not automatically entitle a company to carry forward losses, requiring a proper hearing under Section 79.
Need for Clearer Rules
According to Abhishek A Rastogi, the disconnect creates uncertainty for bidders, who must factor in the risk of losing tax benefits when valuing distressed companies. Clearer rules or amendments may be needed to maintain predictability and encourage participation in resolving stressed assets.
