In this case, there is no transfer. Purely for the sake of argument, even if we accept that there is a transfer, then the question is what is the consideration? The demerged company receives no consideration. It is issued directly to the shareholders of the demerged company and again these shareholders cannot be taxed at this stage as there is no transfer by them. However, the clarification is a right step as unnecessary litigation will be avoided. There could have been instances of the Income-Tax Department trying to tax shareholders in a demerger.

Considerthe following case for instance. Company A is split into Company A & Company B and the shareholders of Company A get shares of Company B. The Department could have tried to levy tax on the market value of the shares of Company B which may be higher than the cost of the shares in Company A. This view is incorrect. But sans the clarification, it was possible for the department to at least argue that way.

Will the benefit of indexation be available?
The benefit will be available and the holding period will include the period for which shares of the demerged company were held.

One of the conditions for demerger is that the shares of the resulting company are issued to the shareholders of the demerged companyon a proportionate basis. In proportion to what?
In proportion to the holding in the demerged company. The grey area is, however, as regards the cost of acquisition of the shares in the resulting company. For this purpose the definition of "net worth" which is as follows: the aggregateof the paid-up share capital and general reserves as in the books of account of the demerged company immediately before the demerger.

However, the term "general reserve" is defined neither in the Companies Act nor in the Income Tax Act. The term will have to be understood in commercial parlance and as such, it cannot include share premium or any capital reserves.

Another condition is that the transfer of undertaking is on a going concern basis. What does "going concern" mean?
This simply means that assets cannot be transferred piecemeal. There are several judgments on what is a going concern. In RC Cooper v UOI (1970) 40 Comp Cas 325,353,354 (SC), it was held that the expression "undertaking" in section 4 of the Bank Nationalisation Act, 1969 clearly means a going concern with all its rights, liabilities and assets as distinct from the various rights and assets which compose it.What are the grey areas in the proposals relating to demerger?
The basic requirement for a transaction toqualify as demerger is that all the properties of the undertaking being transferred become the property of the resulting company. Since a lessee does not have the right to transfer the leased property, what happens if an undertaking operates from a leased or rented premise? How will common assets like the head office or even a common godown be accounted for? Besides, all liabilities of the undertaking must become the liabilities of the resulting company. Non-acceptance by even one creditor will put an end to the demerger.

The flexibility of restructuring has been taken away. A number of practical problems will arise since a demerger is not a straight jacket transaction. The transferor may prefer to transfer more assets and less liabilities. A foreign collaborator may insist on not including certain assets or liabilities. If the assets to be transferred have appreciated in value, certain liabilities not pertaining to the undertaking may be transferred. If assets which have appreciated in value have to betransferred, it will lead to a stamp duty problem. Also, to enable a shareholder to calculate the cost of the acquisition, the proportion of the net book value of the assets transferred to the net worth of the demerged company will have to be specified.

Will the calculation of depreciation also prove to be a problem due to insertion of Explanation 2A in S 43(1)?
It is provided that where any asset from the block is transferred in a demerger, the WDV of the block shall be reduced by the book-value of assets transferred in the demerger. This will be a problem area. In some cases. If the two undertakings share a common block, the problem will be there. The same will be the case for common assets. If the book value is higher and the net result is s negative block, the cost will be taken as zero and depreciation cannot be claimed.

How do you calculate the "net worth" (capital+free reserves) of an undertaking in a slump sale?
Section 50B defines net worth of an undertaking as that definedin Sick Industrial Companies Act. But the SICA only defines net worth of a Company according to which one of its components is paid-up capital. It is not possible to calculate the paid-up capital of an undertaking. In the event of a loss-making company, how will the reserves of the undertaking be calculated? In such transactions, no tax will be payable as the charging section fails. In other words, the provisions for computation of capital gains u/s 48 cannot be applied at all (CIT V BC Shrinivas Shetty (1981) 128 ITR 294 (SC)). What is the need to have different definitions of "net worth" for slump sale and demerger?