Buy-back tax post-2026: the math founders are still getting wrong

Buy-back of shares was, for over a decade, the cleanest tax-efficient way for an Indian company to return capital to shareholders. The company paid buy-back tax at 23.296% (20% plus surcharge plus cess). The shareholder received the consideration tax-free under Section 10(34A).

The Finance Act 2024 changed this. With effect from 1 October 2024, the buy-back tax in the hands of the company was withdrawn. The buy-back consideration is now treated as a deemed dividend in the hands of the shareholder under Section 2(22)(f), taxed at the shareholder's slab rate or applicable rate, with no deduction for cost of acquisition.

Two years in, founders are still running the old math. The shift is structural and the implications go well beyond a rate change.

What changed

Pre-1 October 2024:

Company paid buy-back tax at 23.296% on the distributed income (buy-back consideration less amount received by company on issue of shares being bought back).

Shareholder received the consideration tax-free under Section 10(34A).

Effective tax rate on the founder's slice: 23.296%, paid by the company.

Post-1 October 2024:

Company pays no buy-back tax.

Shareholder is taxed on the entire buy-back consideration as deemed dividend under Section 2(22)(f). No deduction for cost of acquisition is allowed for the shareholder.

TDS at 10% under Section 194 (where applicable), with the balance payable by the shareholder via advance tax/self-assessment.

Effective tax rate on the founder's slice: depends on shareholder's tax position, but for an individual founder in the highest slab, 39% (30% slab plus surcharge plus cess) on the full consideration.

The math worked example

Founder owns shares acquired at ₹1 per share. The company offers to buy back at ₹100 per share. The founder tenders 10,00,000 shares, receiving ₹10,00,00,000 (₹10 crore).

Pre-1 October 2024:

Distributed income = ₹10 crore − ₹10 lakh (issue value) = ₹9.9 crore.

Company pays buy-back tax = 23.296% × ₹9.9 crore = ₹2.31 crore.

Founder receives ₹10 crore tax-free.

Net to founder: ₹10 crore (the ₹2.31 crore came out of company funds).

Post-1 October 2024:

Founder receives ₹10 crore, treated as deemed dividend.

Tax in founder's hands at 39% (high-slab individual) = ₹3.9 crore.

Net to founder: ₹6.1 crore.

The same buy-back, structured identically, produces ₹3.9 crore less in the founder's pocket post the change.

What about the cost of acquisition

This is where founders consistently misread. Under Section 46A (capital gains on buy-back), the shareholder was previously denied capital gains treatment on listed-company buy-backs and on unlisted-company buy-backs covered by buy-back tax. Section 46A simply did not apply.

Post the 2024 amendment, the entire consideration is treated as deemed dividend under Section 2(22)(f). The capital gains route is not available either, because the buy-back is specifically treated as a dividend. There is no deduction for cost of acquisition at all.

What the founder paid for the shares originally — ₹1 per share, in our example — is lost entirely. It does not reduce the taxable amount. The full ₹10 crore is dividend.

The fairness argument has been made by the industry. The legislative response has been to point to the cost-of-acquisition write-off as a capital loss available for set-off against future capital gains. For a founder selling out completely, this may help if they have future capital gains. For most founders, this is cold comfort.

When buy-back still makes sense

Three scenarios where buy-back remains an option.

Low-tax-slab shareholders. Where the shareholder is in a low or nil tax bracket — say, a family office structured as a charitable trust, or a holding company with significant carried-forward losses — the deemed dividend may be taxed at a lower effective rate than the prior 23.296%.

Cross-border shareholders. Non-resident shareholders receive dividends subject to Section 195 withholding, which is then governed by the DTAA. For a Mauritius-resident shareholder, the dividend rate is 5% (Article 10, if shareholding is at least 10%). For a Singapore-resident shareholder, 10%. The effective tax on the buy-back consideration is the DTAA dividend rate — meaningfully below 39%.

Where the company has surplus cash and shareholder wants partial exit. If the alternative is a secondary sale (where finding a buyer is the constraint) or a dividend (with the same tax treatment but without reducing the share count), a buy-back may be optimal for cap table reasons.

When secondary sale or dividend is now better

Founder exits with capital gains. A secondary sale to an incoming investor produces capital gains. Long-term capital gains on unlisted shares are taxed at 12.5% under the post-2024 LTCG regime (down from 20%, with indexation removed). For a founder selling shares acquired at ₹1 and selling at ₹100, the LTCG tax is approximately 12.5% × (₹100-₹1) per share, against the 39% on the full ₹100 per share under buy-back. The secondary sale is materially better tax-wise, assuming the secondary buyer can be found at the same price.

Dividend with imputation. A dividend to a corporate shareholder may be eligible for inter-corporate dividend deduction under Section 80M (where the receiving company further distributes). For individual shareholders, dividend is also taxable at slab rate but without the loss of cost-of-acquisition that the deemed-dividend treatment imposes.

Liquidation distribution. Where the company is genuinely winding up, the distribution under Section 46 may produce capital gains rather than deemed dividend. This is fact-specific and litigation-prone but worth analysing for founders pursuing complete exit through winding up.

The structuring traps

Buy-back-and-fresh-issue arrangements. Pre-2024, some buy-backs were structured as buy-back from existing shareholders followed by fresh issue to incoming investors, achieving an effective secondary sale at the company-level tax rate. Post-2024, this structure is worse than a direct secondary sale because the buy-back side now produces a 39% hit.

Capital reduction. Where the company reduces capital under Section 66 of the Companies Act, the distribution to shareholders may be characterised as deemed dividend or as consideration for capital reduction (with capital gains treatment). The judicial position has evolved. The Bombay High Court in JNK India Pvt Ltd has held capital reduction to be capital gains in some fact patterns. Each capital reduction needs its own analysis.

Listing-induced buy-backs. Companies preparing for IPO often run buy-backs to clean up the cap table — exiting early investors, consolidating founder holdings. Post-2024, these buy-backs are materially more expensive. The cleanup needs to be redesigned: secondary sales to new investors, fresh primary capital with offset against the legacy holders, or simply accepting the dilution.

Buy-back tax was the cheapest way for an Indian company to return capital to founders for the better part of a decade. The 2024 change re-tilts the playing field toward secondary sales and toward holding-jurisdiction structuring. Founders modelling exit who have not refreshed the math since September 2024 are running the wrong numbers.

What we do at engagement

Two deliverables for founders contemplating partial exit.

First, the exit math memo. We model three scenarios: buy-back at post-2024 rates, secondary sale at the same nominal valuation, dividend distribution. Output: net to founder under each, ranked by after-tax efficiency.

Second, the structuring overlay. Where the founder has flexibility on holding entity, holding jurisdiction or timing, we identify the alternative that produces meaningfully better economics. This is where we typically save 5-15 percentage points of after-tax return.

If you are pricing an exit at the buy-back-era 23.296% effective rate, refresh the assumption. The new rate is materially worse, and the structuring around it requires advance planning, not last-minute re-routing.