The Central Board of Direct Taxes (CBDT) has introduced a significant revision to Rule 11UA of the Income Tax Rules, 1962 pertaining to the valuation of shares during issuance with effect from 25th September, 2023. In this communication, we present an overview of the updated valuation methodology, which is of particular relevance to Chartered Accountants and Start ups.
Valuation Methods Prescribed in the New Rule :
The revised Rule 11UA introduces several valuation methods for determining the fair value of shares in the context of share issuance. These methods are as follows:
(A) Book Value Method: The formula for this method remains unchanged from its previous iteration.
(B) DCF Method: Under this method, the fair value is calculated using the Discounted Cash Flow (DCF) approach, with the valuation report obtained from a Merchant Banker.
(C) Venture Capital Case: Shares may be valued at the same price at which a Venture Capital Undertaking raised funds from a Venture Capital Fund or Venture Capital Company or an Alternative Investment Fund. A maximum gap of 90 days is permissible on either side between the shares subject to valuation and shares issued to such VC or AIF.
(D) Comparable Company Multiple, Probability-Weighted Expected Return, Option Pricing, Milestone Analysis, or Replacement Cost Method: The valuation under this method is conducted after obtaining report from a Merchant Banker.
(E) Notified Entity Case : Shares can be valued at the same price at which the company received funds from a notified entity. Similar to method (C), a maximum gap of 90 days is permitted between the shares subject to valuation and shares issued to such notified entity.
Equity Share Valuation
Issued to Resident : For shares issued to residents, the assessee can choose any one method from (A), (B), (C), or (E). Notably, option (D) is not available for share issuance to residents.
Issued to Non-Resident : In the case of shares issued to non-residents, the assessee has the flexibility to choose any method from (A) to (E).
Compulsory Convertible Preference Share Valuation
To Resident : For shares issued to residents, Valuation can be conducted using option (B), (C), (E), or by deriving valuation from equity share valuation undertaken as detailed above.
To Non-Resident : In the case of shares issued to non-residents, Shares can be valued using options (B) to (E) or by deriving valuation from equity share valuation as detailed above.
Timeframe Consideration
It is important to note that a maximum gap of 90 days is allowed between the date of the valuation report issued by the Merchant Banker and the date of share issuance.
Tolerance Threshold
There is also a tolerance threshold of 10%, which permits a gap in value between the valuation derived using the prescribed methods and the actual issue price. This tolerance applies to cases other than those utilizing methods (C) and (E)
It’s worth highlighting that these amendments pertain specifically to share issuance. No changes have been made for share transfers, and the existing rules continue to apply in those cases.
In conclusion, the recent amendments to Rule 11UA of the Income Tax Rules, 1962, bring about significant changes in the valuation of shares during issuance. Chartered Accountants should be well-versed in these updated methods and their applicability, ensuring compliance with the regulations and accurate valuation of shares.