S. Murlidharan

Had the Companies Bill, 1997 been enacted into law the way it was drafted, it would have put paid to the pyramid corporate structure, ordaining as it did abolition of the concept of subsidiary of a subsidiary.

There is a view in some quarters that what the aborted Companies Bill, 1997 tried to do in vain is proposed to be brought into the statute through the Finance Bill, 2008 not peremptorily but by way of a disincentive — exemption from Dividend Distribution Tax (DDT) to the extent the dividend includes dividend received from the subsidiary, hitherto taxed, would not be available if the parent itself is the subsidiary of another company.

In other words, if A is the subsidiary of B which in turn is the subsidiary of C, C alone would be exempt from DDT on the dividend received subject to the condition that C itself is not the subsidiary of another company. Let us say the amount of dividend declared by A is Rs 1,000 crore, by B is Rs 2,000 crore and by C is Rs 3,000 crore. Let us also assume that while B holds 60 per cent of the equity in A, C holds 60 per cent of the equity in B. A would have paid DDT but B would not be eligible for claiming set off of the dividend of Rs 600 crore received from A because it happens to be the subsidiary of C. But C can claim set off of Rs 1,200 crore against the dividend it declares of Rs 3,000 crore and thus would have to pay DDT only on Rs 1,800 crore.

Had there been no bar on the parent not being a subsidiary of another company, the results would have been B could also have claimed set off of Rs 600 crore thus obliging it to pay DDT only on Rs 1,400 crore. But in that case the set off for C would have been whittled down to Rs 840 crore only because obviously it is only 60 per cent of the dividend that has been subjected to DDT in the hands of B, Rs 1,400 crore that would be taken into account while granting set off to C.

Thus the amount of set off allowed to the group is Rs 1,200 crore and Rs 1,440 crore (Rs 600 crore + Rs 840 crore ) respectively under the proposed regime and the more permissive regime possible that does not frown on parent itself being a subsidiary. But then the more permissive regime sought is not fair given the fact that while C’s stake in B is 60 per cent, in A it is only an indirect 36 per cent with the balance of fruits of investment, that is, 24 per cent directly going to the minority shareholders of B.

Therefore, it ought to be entitled to a set off of Rs 360 crore only on its investments through the conduit of B in A. If this is conceded then the total set off is Rs 360 crore plus Rs 840 crore aggregating to Rs 1,200 crore which is what the proposed new regime seeks to give to C.

For good measure, the proposed new regime recognises holding-subsidiary relationship brought about by majority shareholding alone. In other words, it does not recognise the two other forms of such relationship countenanced by Section 4 of the Companies Act — a company that controls the composition of board of directors of another company becomes the holding company of the latter and the chain or pyramid relationship as exemplified in the above example where there are three companies A, B and C involved in which scenario, A is the subsidiary of B as well as C for the purposes of company law but not for the purposes of DDT set-off. But the frown on pyramid structure neither means a ban on its creation nor an inequitable tax treatment meted out by the proposed new DDT set-off regime.

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