The income tax (I-T) department may soon request authorities in the finance ministry to intervene so that I-T dues get a higher priority over dues to unsecured creditors under the insolvency law.

At present, the recovery of tax dues is possible only after payment to financial creditors under the Insolvency and Bankruptcy Code (IBC), which comes under the Ministry of Corporate Affairs.

The tax department has prepared a proposal highlighting issues with the IBC with regard to tax dues. “The entire process of resolution/liquidation under IBC is driven by committee of creditors, and there is no involvement of the I-T department even though we have a lot of stake,” said an I-T official.

Citing the whole process of insolvency, the tax official said that under the IBC, the priority of claims has changed as compared to earlier provisions under the Board for Industrial and Financial Reconstruction (BIFR), the body governing insolvency and corporate bankruptcies earlier.

“The IBC norms considered government dues as 'operational creditors' and their priority for re-payment comes even after unsecured financial creditors,” said the proposal prepared by the department.
IBC Challenges
I-T wants higher priority for tax dues

IBC norms provide priority to creditors, resolution process, employees’ dues
I-T wants more involvement in IBC norms as it has lot of stakes in firms under IBC
Wants centralised database to check fraudulent bids to avoid tax liability
Under section 53 of the IBC, which provides for the priority in which a company’s creditors are paid off in case of bankruptcy, insolvency resolution process costs, liquidation costs, employees’ dues, and unsecured creditors rank higher in priority over tax dues to the government. Besides, the I-T department also wants the applicability of Section 281 of I-T Act which says if there is a change of ownership or transfer of assets, the debtor concerned needs to take approval of the tax department. They have also sought clarity on the status of prosecution in cases of companies undergoing insolvency.

The tax department wants a centralised database to check fraudulent attempts, if a company lands up in the National Company Law Tribunal to avoid tax liability.

The department has also mentioned that sale of assets or change of ownership or settlement of loans will have a significant tax implication for all three — borrowers, lenders and shareholders of the borrowing company. Explaining each of the scenarios, it says non-performing assets (NPA) provision is created immediately after non-payment of interest up to 90 days in case of lenders. The said provision would result in write-back and hence will be taxable under Section 41 of the I-T Act. Also, the interest recovered from the date of NPA is chargeable to tax. Even if the bank converts loan/interest into equity, the difference between fair market value of shares on the date of conversion and consideration paid/adjusted will be treated as deemed income.

Similarly, for defaulting borrowers, if there is a restructuring of loans, change in ownership or one-time settlement there is always a waiver of part of the loan amount and interest. The new owner purchases share which are subject to taxation on the basis of market value. Further, the accumulated losses of the borrower company are allowable subject to some restrictions. Besides, minimum alternative tax also attracts liability on credit of loan/interest amount waived.

Other tax implications involve carry forward of losses of the defaulting borrower.

“Section 79 of the I-T Act does not allow a company to carry forward losses if the majority shareholding in it changes hands. However, in the case of any company under IBC, exception has been made under this section that there is no requirement of ownership of major shareholding. The effect of this amendment is that the borrower can continue forward business losses and unabsorbed depreciation in case of change in ownership beyond 50 per cent also,” the department said.