SEVERAL companies offer their shareholders a sponsored American Depository Share (ADS) issue. This poses several questions for investors. The first question to be asked is, in case one tenders the shares for such an offering, what is the impact on individuals in terms of the amount received, as well as the tax implication?
In a sponsored ADS issue, there is no new issue of shares in the foreign market, but the shares for the issue are collected from existing shareholders of the company. These shares are then sold to foreign investors. After deducting the various expenses incurred during the process, the net proceeds are given to the investors who sold shares through this route. Often the entire holdings submitted by investors are not used for the purpose of the issue and a part of these are returned to the holders. The ratio for deciding the proportion of shares to be issued is calculated separately.
The tax aspect is important because it can reduce an individuals returns. Hence, the investor may change his decision to tender or sell the shares in the open market. While participating in a foreign issue of shares, there is a good chance that a premium will be earned when the shares are tendered for the issue abroad. When the shares are accepted, there will be a capital gain/loss on shares. The main aim of tendering the shares is to ensure that the maximum capital gains are accrued. If the shares are held for more than a year, the gains are classified as long-term capital gains. But if the holding period is less than a year, the gains are classified as short-term capital gains.
Individuals will be hit the most when the gains are taxed, as they may lose the benefits of zero longterm capital gains and 10% shortterm capital gains tax when the shares are submitted. This is because for the lower or concessional rates to apply, the conditions that need to be fulfilled are that a securities transaction tax (STT) should be paid on the transaction, and the transaction should take place on a recognised stock exchange.
Since the BSE and NSE are the only recognised stock exchanges and the ADS transaction here is not liable to STT, normal capital gains rates will be applicable. If there is a short-term capital gain, then the tax rate will be the extent to which an individuals income falls, which could go up to 30%, since most people come under this tax bracket. If there is a long-term capital gain, the tax rate will be 20% after considering the impact of indexation, or 10% without considering the benefit of indexation.
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Individuals should also consider the extent of premium they get on their investment. If the premium benefit is more than the tax impact, it makes sense to go in for the ADS issue. However, if the premium is less than the tax impact, individuals could lose out in terms of the price they would have got if they had offloaded the shares in the Indian market.