ITAT Delhi Rules Capital Reduction Cannot Be Taxed as Buyback Under Section 115QA in Seaview Developers Case

1. Background of the Dispute

The Delhi Bench of the Income Tax Appellate Tribunal (ITAT Delhi) in Seaview Developers Private Limited Vs DCIT (ITA Nos.2621/Del/2024, order dated 08/07/2026, AY 2017-18) examined cross appeals filed by the assessee and the Revenue arising out of an assessment framed under Section 143(3) of the Income Tax Act 1961. The assessment had been completed by DCIT, Circle–23(2), New Delhi, and thereafter partially confirmed by the National Faceless Appeal Centre (NFAC), Delhi.

The assessee is engaged in developing and leasing commercial real estate in Sector 135, Noida, an approved Special Economic Zone (SEZ). Being a SEZ developer and operator, the assessee was eligible to claim deduction of profits under Section 80-IAB for any ten consecutive years within a block of fifteen years, and had commenced such claim from AY 2013-14.

For AY 2017-18, the assessee:

  • Filed its return of income on 21 November 2017
  • Declared income of INR 4,33,40,450 under normal provisions
  • Reported book profit of INR 59,11,70,914 under Section 115JB
  • Claimed refund of INR 4,75,51,680

In scrutiny, the Assessing Officer (AO) determined total income at INR 66,93,96,660 under normal provisions after multiple additions and disallowances, including:

  • Disallowance of interest on borrowing used for capital reduction – INR 26,03,48,610
  • Disallowance of interest on Compulsorily Convertible Debentures (CCDs) – INR 8,16,28,764
  • Addition for advances from customers – INR 10,64,36,649
  • Disallowance of property management fees – INR 19,70,03,457
  • Disallowance of interest on TDS and penalty – INR 13,01,282
  • Denial of Section 80-IAB deduction on electricity income – INR 20,39,42,581
  • Disallowance of depreciation – INR 54,03,676

Total additions aggregated to INR 85,60,65,019.

Separately, the AO also levied buyback tax under Section 115QA amounting to INR 131,50,69,137 (including interest under Section 115P) on a court-approved capital reduction implemented during the year.

On appeal, the CIT(A) (NFAC) partly upheld and partly deleted the additions. The assessee and the Revenue both approached the Tribunal.

The Tribunal’s decision primarily turned on:

  • Whether a capital reduction sanctioned under sections 100 to 104 of the Companies Act, 1956 could be treated as “buyback” for purposes of Section 115QA
  • Whether interest on borrowings utilised for capital reduction was allowable under Section 36(1)(iii)
  • Whether interest on CCDs issued to a Singapore investor was deductible
  • Whether disallowances deleted by the CIT(A)—notably property management fees and advances from customers—were sustainable

2. Facts Relating to Capital Reduction and Alleged Buyback

2.1 Shareholding and Capital Structure

As on 31 March 2016, the assessee’s paid-up share capital was INR 6,84,890 consisting of 68,489 equity shares of INR 10 each. All shares were held by BREP India Office Holdings IV Pte. Ltd. (BREP IV), a Singapore-incorporated foreign company registered as a Foreign Portfolio Investor with SEBI and a tax resident of Singapore.

2.2 Capital Reduction Proposal

With a view to rationalising its capital structure and reducing shares considered surplus to requirement, the assessee:

  • Passed a Board resolution on 3 June 2016 proposing reduction of share capital under Section 100 of the Companies Act, 1956
  • Obtained shareholder approval at an Extraordinary General Meeting held on 6 June 2016 authorising reduction of up to 53,000 equity shares held by BREP IV

The assessee then filed a capital reduction scheme before the Bombay High Court under sections 100–104 of the Companies Act, 1956 read with Section 52 of the Companies Act, 2013, relevant Rules 46–65 of the Companies (Court) Rules, 1959 and its Articles of Association (Table F).

On 8 September 2016, the Bombay High Court approved the capital reduction scheme, after receiving no objection from the concerned regulatory authorities.

2.3 Valuation, Cancellation and Payment

The share valuation was undertaken by an independent chartered accountant, SSPA & Co., using the Discounted Cash Flow (DCF) method. The valuer determined the fair value per share at INR 1,29,185.76.

Pursuant to the approved scheme:

  • 36,768 equity shares held by BREP IV were cancelled
  • The assessee paid BREP IV an aggregate sum of INR 4,74,98,74,080

This payout was funded as follows:

  • Utilisation of reserves and surplus – INR 1,19,27,10,658
  • Borrowed funds – INR 3,33,67,95,741

In line with Section 2(22)(d) read with Section 115-O, the assessee treated the portion of the distribution attributable to accumulated profits as deemed dividend and paid Dividend Distribution Tax (DDT) of INR 27,84,21,093.

2.4 AO’s Treatment Under Section 115QA

The AO viewed the capital reduction as a disguised buyback and held that:

  • The transaction involved “extinguishment or cancellation” of shares
  • The arrangement was a colourable device to avoid tax
  • The entire payout on capital reduction constituted distributed income covered by Section 115QA

Accordingly, the AO levied tax under Section 115QA together with interest under Section 115P aggregating to INR 131,50,69,137.

However, while computing tax, the AO simultaneously treated the same amount as deemed dividend under Section 2(22)(d) read with Section 115-O and granted credit for DDT of INR 27,84,21,093 already paid. This internal inconsistency was noted by the Tribunal.

2.5 CIT(A)’s Confirmation

The CIT(A) upheld the application of Section 115QA on the reasoning that:

  • The Bombay High Court, while sanctioning the reduction, did not express any view on taxability
  • After the 2016 amendment, Section 115QA covers any buyback under “any law relating to companies,” and the crucial aspect is the economic effect—distribution of income—rather than the specific Companies Act provision invoked
  • Treaty benefits could not be claimed as the tax was on the company and not on the shareholder

The assessee appealed to the Tribunal, contending that a duly sanctioned capital reduction under sections 100–104 cannot be re-characterised as buyback, particularly when the shareholder had already suffered tax (DDT and capital gains) on the same transaction.

3. Tribunal’s Analysis on Capital Reduction vs Buyback

3.1 “Look At” Principle and Alleged Colourable Device

The Tribunal examined the treatment of the payout in the hands of BREP IV. Out of the total consideration of INR 4,74,98,74,080:

  • An amount of INR 136,74,90,634 was treated as deemed dividend and subjected to DDT under Section 115-O, as accepted by the AO
  • The balance consideration of INR 338,23,83,446 resulted in short-term capital gains of INR 17,13,93,913, which BREP IV reported in its Indian return of income.