The Income Tax Department has issued a clarification on how “buyback tax” has changed with Union Budget 2026, to the benefit of small shareholders.
Finance Minister Nirmala Sitharaman, in her budget speech today, proposed to shift back buyback tax to a capital gains framework from dividend treatment in effect since 2024.
“A buyback was presently taxed as dividend but extinguishment of share was treated as capital loss. This posed problems to small shareholders who had no capital gains to offset the loss,” the Income Tax Department said. “Also, a buyback conceptually is in nature of capital gains.”
Essentially, retail shareholders will now pay buyback tax at the capital gains tax rate—12.5% for long-term capital gains (>12 months) and 20% for short-term capital gains (<12 months). Under the dividend mechanism, shareholders were taxed as per their income tax slabs, which could be as high as 30%.
What is extinguishment of shares?
Extinguishment is the legal process where a listed company destroys or cancels the shares it has bought back from shareholders. The company is legally bound to physically or electronically destroy these shares within 7-15 days.
This reduces the company’s total share capital, which effectively increased the promoter stake and earnings per share for the remaining shareholders.
Why was extinguishment treated as capital loss?
The concept of “capital loss” came into existence after buyback tax moved to the dividend mechanism on 1 October 2024.
The government wanted to treat buyback proceeds as dividend. Now, dividends are taxed in full, as per income tax slabs, without considering the price that an investor originally paid for the share. After all, this share would be extinguished in a couple of weeks. That seemed unfair.
To ensure that the investor didn’t lose his “cost of acquisition”, the government then introduced the concept of capital loss.
- Assume that you bought Company A’s share for ₹100. Later, Company A announces a buyback to acquire your share for ₹150.
- Under the dividend mechanism, you then paid income tax on the full ₹150 and recorded ₹100 as “capital loss”.
- You could then use this ₹100 loss to offset other capital gains (from selling other stocks) for up to eight years.
Remember, not all shareholders make capital gains. Meaning, you could end up paying tax on a loss. That breaks down the system.
Budget 2026 largely fixes this problem by doing away with “capital loss”.
How will buyback tax be calculated now?
By simply deducting the buyback price from cost of acquisition. The difference is your gains, which will be then be taxed as capital gains.
- Buyback Price — Cost of Acquisition = Gains
Considering the above example:
- ₹150 — ₹100 = ₹50
If you have held the share for more than 12 months, you’ll be taxed at 12.5%.
If you have held the share for less than 12 months, you’ll be taxed at 20%.
That’s still less than dividend income tax, which can be as high as 30%.
Buyback tax for promoters
To prevent promoters from misusing the buyback, they have to pay additional income tax.
- If promoters are Indian, then effective tax is 22% on buyback gains.
- If promoters are overseas, then effective tax is 30% on buyback gains.
“On the whole, the buyback taxation has been simplified with benefits to small shareholders,” the taxman wrote on X, formerly Twitter. For promoters, the tax liability will largely remain similar.