Amalgamation

"Merger" is not a term the Income Tax Act defines. What it defines instead is amalgamation — a more precise, tested concept with its own conditions, and its own tax consequences for the companies and their shareholders.

An amalgamation is the merger of one or more companies with another company, or of two or more companies to form a new one — provided property, liabilities and (in value) at least 75% of shareholders all carry across to the resulting company (see /glossary/amalgamating-and-amalgamated-company for the exact test). Get the classification right, and shareholders swapping shares of the old company for shares of the new one pay no tax at that moment. Get it wrong, and the exchange is simply a taxable sale.

The tax treatment runs in two stages, and they are computed differently depending on whether the original shares were capital assets or stock-in-trade.

At the time of allotment of the amalgamated company's shares — where the original shares were held as capital assets: no tax arises under Section 47(vii), because the exchange is not treated as a transfer. Where the original shares were held as stock-in-trade: the exchange is taxed immediately, as profits and gains from business or profession.

At the time of eventual sale of the amalgamated company's shares:

• If held as a capital asset: the cost of acquisition of the amalgamated company's shares is the amount originally paid for the shares of the amalgamating company, and the period of holding is reckoned from the date of acquisition of the original shares — not from the date of the amalgamation. Ordinary equity capital gains rules (Section 111A/112A, or 112 for unlisted shares) then apply.
• If held as stock-in-trade: the fair market value of the amalgamated company's shares, as on the date of the scheme of amalgamation, is treated as the actual cost, and gains on eventual sale are business income.

Mr X buys 10,000 shares of A Ltd on 1 April 2023 for Rs 58 each, held as an investment. On 1 August 2024, A Ltd amalgamates with B Ltd to form AB Ltd, and Mr X is allotted 8,000 shares of AB Ltd. He sells them for Rs 100 each on 1 September 2024, paying STT.

At the amalgamation itself: no tax — the exchange of A Ltd shares for AB Ltd shares is not a transfer, since Mr X held them as capital assets and the merger meets the amalgamation test.

At the sale of AB Ltd shares:

Period of holding: 01-04-2023 to 31-08-2024 = 17 months → long-term
Sale price (8,000 x 100)                         8,00,000
Less: cost of original A Ltd shares (10,000 x 58) (5,80,000)
Long-term capital gain                            2,20,000
Tax @ 12.5% under Section 112A, on gain above Rs 1,25,000

The holding period is counted from 1 April 2023 — the date he bought the original A Ltd shares — not from 1 August 2024, the amalgamation date, even though he has held the actual AB Ltd shares for barely a month.

Chapter 13 (Tax Provisions for Special Cases), section 13.5, sets out the full amalgamation test, the Section 47(vii) exemption at allotment, and Example 8, which is reproduced above. Expect a full capital gains computation carrying the original cost and holding period through a merger, and a question on whether tax arises at the point of share exchange.

• No tax at the exchange, for capital-asset shareholders — tax is deferred to the eventual sale of the new shares, not eliminated.
• Period of holding runs from the ORIGINAL shares' acquisition date, not the amalgamation date — a very commonly mis-answered point.
• Cost of acquisition of the new shares equals the original cost of the old shares, unadjusted for the exchange ratio's market value.
• Stock-in-trade holders are taxed immediately on the exchange, and their cost basis for the new shares resets to fair market value at the amalgamation date — the opposite treatment to capital-asset holders.
• A merger failing the 75%-value or property/liability tests is not an "amalgamation" for tax purposes at all — it is simply a sale, taxed in full at the exchange.