Taxation on Slump Sales

A ‘slump sale’ is one of the methods available to give effect to a transfer of a division or undertaking of a company to another company. Under this method, all the assets and liabilities of (or relatable to) the undertaking are transferred for a ‘lump sum’ consideration without assigning values to the individual assets and liabilities of that undertaking. Unlike certain other types of merger and acquisition transactions, such as qualifying amalgamations or demergers, that are exempt from capital gains taxation on account of transfer of the undertaking, slump sales give rise to liability for capital gains taxation in the hands of the transferor company. However, the manner of computation of capital gains tax for a slump sale has been specifically laid down in the Income Tax Act, 1961 and is different from the treatment that applies to transfers of other forms of capital assets.

The Hindu Business Line carries an article by H. P. Ranina explaining the capital gains tax implications of a slump sale. The article commences as follows:

“Section 50-B of the Income-Tax Act, 1961, is a special provision for computing capital gains chargeable to tax in the case of a slump sale. Such capital gains are deemed to be long term where the undertaking has been owned and held by the assessee for more than three years, irrespective of the period for which each individual asset of the undertaking has been held.

Therefore, Section 50-B would prevail over the general provisions of the law. Sections 48 and 49 have been made applicable, subject to some modification, for computing capital gains in the case of a slump sale.

Defining ‘net worth’

The net worth of the undertaking transferred is deemed to be the cost of acquisition and cost of improvement for calculating the capital gains. The net worth is to be computed in accordance with Explanations 1 and 2 of Section 50-B.

As per Explanation 1, “net worth” has been defined as the aggregate value of total assets of the undertaking as reduced by the value of liabilities of such undertaking as appearing in the books of account.

Explanation 2 provides that the value of depreciable assets shall be taken as the written-down value (WDV) determined under Section 43(6)(c) of the Act, while the value of non-depreciable assets will be taken as per the books. The net worth so computed is to be certified by the report of the accountant as defined in Section 288(2).”

The article then goes on to deal with the nuances of computing net worth, especially in a situation where the liabilities of the undertaking are greater than the assets, and particularly on the issue of whether there can ever be a ‘negative’ net worth.