Business Restructuring Tax Strategies: Merger, Demerger, Slump Sale – Capital Gains Exemptions
Complete guide to tax-neutral business reorganization under Income Tax Act, Section 47/2(19AA), conditions for exemption, stamp duty implications, and valuation requirements
Written by
CA Ashama Rajawat
Merger, demerger, and slump sale can be tax-neutral if done correctly. Understand Section 2(19AA), 47, and 50B to save crores in capital gains tax during business reorganization.
What is Business Restructuring?
Business restructuring involves reorganizing corporate structure through merger (combining two companies), demerger (splitting one company into multiple), or slump sale (selling entire business undertaking as going concern).
- Unlock shareholder value
- Improve operational efficiency
- Facilitate exits (PE, family succession)
- Tax optimization
- Regulatory compliance (separate regulated business)
Three Main Restructuring Routes
| Route | Mechanism | Tax Treatment | Approval Required |
|---|---|---|---|
Merger | Company A + B = Company C | Tax-neutral (Section 47(vii)) | NCLT |
Demerger | Company splits into 2+ entities | Tax-neutral (Section 47(vii)) | NCLT |
Slump Sale | Sell entire business as going concern | Taxable (Section 50B) | Board + Shareholders |
Merger: Tax-Neutral Conditions
Section 2(1B) + Section 47(vii)
Merger is tax-exempt if ALL these conditions are met:
1. Consideration in Shares
Transferee company must issue shares to shareholders of transferor company (at least 90% in shares, max 10% cash)
2. Shareholders Hold 75%+ Value
Shareholders of transferor company must hold at least 75% value of transferred assets (as shares in transferee)
3. NCLT Approval
Scheme sanctioned by National Company Law Tribunal
4. Both Companies Indian
Both transferor and transferee must be Indian companies
Demerger: Splitting the Business
Section 2(19AA) Conditions
Demerger is tax-exempt under Section 47(vii) if:
1. All Assets & Liabilities Transfer: Entire undertaking must be transferred (not cherry-picking assets)
2. Property Becomes Property: Assets of demerged company become assets of resulting company on a going concern basis
3. Direct Issue to Shareholders: Resulting company issues shares directly to shareholders of demerged company (not to demerged company itself)
4. Share Ratio: Shareholders get shares in same proportion as their holdings in demerged company
5. Undertaking Definition: Must be a separate identifiable business undertaking (not just isolated assets)
Critical: Shares issued to shareholders of demerged company, not to the company itself. This is key distinction vs. merger.
Slump Sale: Going Concern Sale
Section 50B: Special Taxation
Slump sale = sale of entire business undertaking as a going concern (no itemized sale of assets). Taxed differently:
Capital Gains Calculation:
Gains = Sale Price - Net Worth of Undertaking
Net Worth = Value of assets as per books - Liabilities
Tax Rate:
- • Long-term slump sale (> 36 months): 20% (no indexation)
- • Short-term slump sale (≤ 36 months): Slab rate (for individuals) / 30% (for companies)
No Section 54EC Exemption: LTCG exemption by investing in bonds NOT available for slump sale gains
Comparison: Merger vs Demerger vs Slump Sale
| Feature | Merger | Demerger | Slump Sale |
|---|---|---|---|
| Tax on Transfer | Nil (47(vii)) | Nil (47(vii)) | Taxable (50B) |
| Cost of Acquisition | Carry forward old cost | Carry forward old cost | Net Worth |
| Approval | NCLT | NCLT | Board + Shareholders |
| Timeline | 12-18 months | 12-18 months | 3-6 months |
| Cash Consideration | Max 10% | Not allowed | 100% allowed |
| Best For | Consolidation | Separate verticals | Exit, sale to PE |
Stamp Duty Implications
Merger/Demerger
0.25% stamp duty (varies by state). Some states offer 0.7% cap for restructuring.
Slump Sale
5-8% stamp duty depending on state (higher than merger/demerger)
Note: Maharashtra, Karnataka offer concessional stamp duty for court-approved schemes
Real Case Study: Demerger Example
ABC Ltd Demerger into ABC + XYZ
Before Demerger:
- • ABC Ltd: ₹500 Cr business (Manufacturing + IT Services)
- • Shareholders want to separate IT vertical
After Demerger:
- • ABC Ltd: ₹300 Cr (Manufacturing only)
- • XYZ Ltd: ₹200 Cr (IT Services)
- • Shareholders get shares in both ABC + XYZ in same ratio
Tax Treatment:
- • No capital gains tax on transfer (Section 47(vii))
- • Cost of shares in ABC + XYZ = Original cost of ABC shares (split proportionately)
- • Carry forward losses preserved
Common Pitfalls
Error 1: Cash Consideration > 10%
Paying >10% cash in merger = entire transaction becomes taxable
Error 2: Cherry-Picking Assets
Demerger must transfer entire undertaking, not selected assets
Error 3: Slump Sale Valuation
Using market value instead of net worth = wrong capital gains calculation
Decision Framework
Choose Merger if:
- • Two companies need to consolidate
- • Shareholders want to continue as shareholders
- • Tax-neutral transaction preferred
Choose Demerger if:
- • Need to separate business verticals
- • Different shareholders want different businesses
- • Unlock value for shareholders
Choose Slump Sale if:
- • Complete exit (PE/strategic sale)
- • Need cash immediately
- • Timeline critical (3-6 months vs 12-18 months)
Conclusion
Business restructuring is powerful for tax optimization, but the devil is in the details. Merger and demerger are tax-neutral under Section 47(vii), but strict conditions apply. Miss one condition = entire transaction becomes taxable. Slump sale is faster but attracts capital gains tax under Section 50B. Choose the right route based on your business goals, timeline, and tax appetite. Always engage experienced tax and legal advisors—restructuring is complex, and mistakes cost crores.