What is a Slump Sale under Income Tax?

Business management has evolved over the last couple of years with the cut-throat competition compelling businesses to become multifaceted. Today, most organisations are not focused on a single segment but offer a range of products and services under different brand names. It enables businesses to sell off a segment at the time of need. The section governing slump sale governs the taxation proceeds on any income earned through this sale.

‘Slump sale’ is a sale wherein you sell an undertaking without taking the values of individual liabilities and assets into account. According to Section 2(42C) of Income Tax (IT) Act, 1961, it means to transfer undertakings as an effect of the sale for a huge sum of the sale for a huge sum consideration without the values having been assigned to the individual liabilities and assets in those sales.

 

According to Section 2(19AA) of the IT Act, 1961, an ‘undertaking’ includes any portion of the undertaking or division or a unit of a business activity or an undertaking taken in its entirety. However, such undertaking does not comprise the individual liabilities or assets or any combination thereof not comprising a business activity.

 

As per Section 2(42C) of the Income Tax Act, 1961, the determination of the value of a liability or an asset for the payment of registration fees, stamp duty, similar taxes, and more will not be considered as the assignment of values to individual liabilities and assets. Hence, if the value has been assigned to the land for the stamp duty purposes, then the transaction will be qualified as a slump sale under Section 2(42C) of the Income Tax Act. 

 

A sale required to comprise a slump sale should satisfy the quick test as follows:

• Business has been entirely sold off and as a going concern

• Sale for a huge sum consideration

• Materials which are available on record don’t indicate the transferred assets’ value item-wise.

If the transfer of undertakings satisfies the following, it is a slump sale:

• The business is sold off with its entirety, going concern

• Sale is made for a lump-sum consideration

• Materials available on record do not include any item-wise values

• The subject matter of the slump sale must be an undertaking of the assessee

• The undertaking must be a part of a corporate or non-corporate entity

• Slump sale must be of one or more undertakings

• The transfer of an undertaking must be the result of a sale

• The consideration must be lump-sum and the assessee must arrive at it without computing individual values

• The consideration must be in cash or by issuing shares of the transferor company

• Transfer of assets without transferring liabilities is not a slump sale

The loss or gain as a result of a slump sale would be a Capital Loss/Gain under the IT Act, 1961. Following is a slump sale example for which the computation which has been laid down:

*The numbers taken in the above-mentioned table are solely for illustration purposes.

 

The capital loss or gain as calculated above will either be short term or long term based on the period of undertaking. If the undertaking holds for above 36 months, the capital loss or gain which therefore results will be long-term. However, if it takes place for a period less than that, the capital loss or gain thereby resulting will be short-term. Furthermore, any indexation benefit will not be available in the calculation of the capital gains. 

The points as mentioned below must be considered when computing the networth of an entity:

• Net worth’s value must not consider any value change in the amount of a liability or an asset which results from their revaluation.

• For the depreciable assets as per the IT Act, 1961, their Written Down Value (WDV) according to the Act will be considered.

• For the assets on which a deduction of 100% has been permitted under Section 35AD, their value shall not be taken into consideration.

• For any other asset, the values appearing in the books of accounts will be considered.

• After taking the above-mentioned points into consideration, if a negative net worth results, then the acquisition cost will be considered as negligible for the calculation of capital gains. 

Following are the tax rates which are applicable to the capital gain in a slump sale:

• Long Term Capital Gain: 20% 

• Short Term Capital Gain: Normal taxation rates

 

The Company must furnish a report by a CA according to the Form 3CEA. 

Taxation under GST: As per the Goods and Services Tax (GST) Act, the basis of taxation is based around ‘supply’. A slump sale would be a supply, hence, it would fall under the GST’s purview. The supply would be a transfer as a going concern and it would attract a nil GST rate. This would mean that the present business in its entirety would be carried forward by another person or that where there is a change in the business’ ownership.

Itemised sale is an alternative which will help you appreciate the advantages of transferring undertakings through a slump sale. Every asset would be sold and separately valued here, each of it having its own different consideration. The analysis of the above can be done as follows:

Depreciable Assets

Let’s assume that since an entire undertaking/business is getting transferred, every asset within a specific block is sold. In that case, the below mentioned amount would be taxable as a short-term loss/gain:

 

Capital Loss/Gain = Net Sale Consideration – Written Down Value of the Block

 

The depreciable assets shall always result in a short term loss or gain irrespective of the holding period. A short term capital gain shall result in getting taxed at normal tax rates which are applicable to the corporation (30% per se).

 

However, if these assets get sold as a portion of a slump sale, they could attract long term capital gains tax at a lesser tax rate of 20%. This is applicable if the undertaking in its entirety has been held for 3+ years. 

Other Assets

When the transfer of short term capital assets takes place, the capital gains tax gets attracted ast the tax rates which are applicable to the corporation. It will be beneficial to transfer it via a slump sale where the undertaking gets held for 3+ years. This would attract long term capital gains which are taxable at 20%. 

 

However, if there is a case of business’ transfer (which is not a slump sale), the gains arising from such transfer would be charged to tax as business gains (under ‘gains and profits of profession or business’). These gains would be taxable at the normal tax rates which are applicable to the corporation. 

 

If there is a case of a loss making corporation which has resulted in business losses, the transfer of business via the methodology of itemised sale could be more preferable. This is so because the resulting business gains could be set off against the business losses which are brought forward. This would thereby mitigate their tax liability.

Let us take the case as written ahead. The assessee was occupied in the manufacturing sheet metal components’ business. The assessee had held this for 6+ years. Its entire business was transferred all at once with all its liabilities and assets to another corporation for a specific consideration. 

 

In its income’s return, the assessee treated that sale as a slump sale and paid taxes on such long term capital profits. The assessor was under the impression that because the transfer comprised the depreciable assets’ sales, it was covered under section 50(2) and short term capital profits tax must be paid from then. 

 

According to the Supreme Court, section 50(2) might apply to a case wherein the assessee would transfer a certain number of assets which were utilised by them in the operation of their business. However, the gain on a transfer wherein the entire business is sold with its liabilities and assets as a running concern by the assessee is not considered as a short term capital gain. This case takes care of one of the basic direct tax considerations.

 

However, there is an Advance Ruling by the AAR, Karnataka, as per the Rajashri Foods (P) Limited. Here, the below-mentioned conclusions are drawn from the perspective of indirect tax (GST): The slump sale sums up to ‘supply’ under the CGST Act. Such a supply would be a supply that is nil rated.

A slump sale could have several implications besides those which have already been discussed. The points as mentioned below are noteworthy:

• The difference between the actual consideration paid for a property which a person receives for inadequate consideration and its fair market value (FMV) would be taxable under ‘Income from Other Sources’. This is subject to a few conditions.

• This provision, however, will not be applicable to an undertaking which is transferred as a portion of a slump sale. This includes an immovable property as well. It is, however, not important that every asset is required to be transferred in order to achieve qualification for a slump sale.

• The assets which get transferred must themselves be able to form an undertaking. The slump sale consideration must be done in cash. This is applicable if it is in the form of bonds, shares, debentures, and more. The transaction in such a case will be known as a sale but an ‘exchange’.

Operating businesses in today’s era has experienced major evolvement to an extent that it is not sufficient that we only concentrate on just one area. Several medium and large enterprises have gotten multifaceted, hence, they facilitate several businesses across various sectors or industries.

 

Hence, a single entity can get separate undertakings with its own liabilities and assets, each of which focus on a different business entity. If any need arises in such a case, it is possible for an enterprise to sell off the undertaking as a whole. This is known as a ‘slump sale’.

 

For the purposes of income tax, a slump sale could be the one wherein an undertaking gets sold without having to consider the values of liabilities or assets, as contained in the undertaking. It must be noted that getting individual values could be relevant only for determining the stamp duties or other taxes, as applicable.