Picture a Bengaluru SaaS company that, in early 2024, bought back shares worth Rs 2 crore from a departing co-founder. The board was happy. The company paid the buy-back distribution tax, the co-founder walked away with a clean, tax-free cheque, and everyone moved on. If that same buy-back happened today, the arithmetic flips completely: the company pays no distribution tax, but the departing co-founder is taxed on the entire Rs 2 crore as dividend income at his slab rate, with no credit for what he originally paid for the shares. A buyback of shares that looks identical on paper can now cost a shareholder roughly Rs 72 lakh in tax where it once cost nothing. Section 68 of the Companies Act, 2013 did not change. The tax law underneath it did, on 1 October 2024, and most founders have not caught up.
What it is: Buy-back of shares under Section 68 of the Companies Act, 2013, read with Rule 17.
Who must comply: Any company (private, public, unlisted) buying back its own shares, ESOP shares, or securities.
The limits: Up to 10% of paid-up equity and free reserves by a board resolution; up to 25% with a special resolution. Post buy-back debt cannot exceed twice equity.
Penalty: Rs 1 lakh to Rs 3 lakh on the company and on every officer in default, plus imprisonment up to three years for officers under Section 68(11).
The 2024 change: For buy-backs on or after 1 October 2024, the whole buy-back amount is taxed as dividend in the shareholder's hands at slab rates. No deduction for cost.
Time to act: Before you sign any buy-back cheque, model the tax and file Form SH-11 within 30 days of completion.
Why a buyback of shares is suddenly a trap for startups
Buy-back is the process by which a company purchases its own shares from existing holders and cancels them. For a startup it is the quiet workhorse of cap-table management. It is how you clean up a departed founder's holding, how you honour an ESOP exit when there is no secondary buyer, and how a profitable company returns surplus cash to investors without declaring a formal dividend. Pre-IPO, it is also how promoters and early angels trim their stake so the shareholding pattern reads cleanly in the draft offer document.
The problem is that two separate laws govern the same transaction, and they point in different directions. The Companies Act decides whether you are allowed to buy back, and penalises you if the procedure is wrong. The Income-tax Act decides who pays tax on the money, and that answer was rewritten in 2024. A company that gets the Section 68 procedure perfect can still blow up a shareholder's finances if nobody modelled the tax first. A company that models the tax beautifully can still attract a Rs 3 lakh penalty if Form SH-11 is never filed. You have to get both right.
According to CS Sapna Malpani, a practising Company Secretary in Bangalore, the buy-backs that go wrong are rarely the large, lawyer-heavy ones. They are the Rs 50 lakh ESOP buy-backs and founder exits that a startup runs internally, on the assumption that a board resolution and a bank transfer are enough. They are not.
The real cost: what Section 68 non-compliance and the new tax actually do
Start with the penalty. Section 68(11) is one of the few share-capital provisions that still carries imprisonment. If a company defaults in complying with Section 68 or with the Rule 17 procedure, the company is liable to a fine of not less than Rs 1 lakh and up to Rs 3 lakh. Every officer in default faces imprisonment up to three years, or a fine of Rs 1 lakh to Rs 3 lakh, or both. For a funded startup, the bigger damage is not the fine, it is the finding. A buy-back done without a declaration of solvency, or one that breached the 25% ceiling, is exactly the kind of item an investor's due-diligence team flags before a Series B, and it is slow and expensive to regularise after the fact.
Now the part that catches people. Until 30 September 2024, the company paid a buy-back distribution tax of about 20% plus surcharge and cess under the old Section 115QA, and the shareholder received the proceeds completely tax-free. From 1 October 2024, the Finance (No. 2) Act, 2024 deleted that regime. A new clause (f) was inserted into Section 2(22) of the Income-tax Act, which treats the full buy-back consideration as a deemed dividend in the shareholder's hands. That dividend is taxed at the shareholder's applicable slab rate, which for a resident individual in the top bracket runs to roughly 35.88% after surcharge and cess. Critically, the shareholder gets no deduction for the cost of the shares against this dividend. The original cost is instead treated as a capital loss, which can only be set off against capital gains and carried forward.
| Buy-back up to 30 Sep 2024 | Buy-back from 1 Oct 2024 | |
|---|---|---|
| Who pays the tax | Company (buy-back tax) | Shareholder (as dividend) |
| Rate applied | ~23% (Sec 115QA + surcharge + cess) | Slab rate, up to ~35.88% |
| Taxed on what amount | Distributed income (amount minus issue proceeds) | Entire Rs 2 crore consideration |
| Cost of shares | Irrelevant to shareholder | No deduction; becomes a capital loss |
| Shareholder receives | Rs 2 crore, tax-free | Rs 2 crore, then owes ~Rs 72 lakh tax |
Read Figure 1 from the shareholder's seat. An ex-employee who exercised ESOPs cheaply and sells them back in a buy-back now faces tax on the whole cheque, not on the gain. The money the founder thought was a reward becomes a liability the employee did not price in. This is why a buy-back today has to start with a tax model, not a board resolution.
What the law actually requires: the Section 68 conditions
A buy-back under Section 68 is legal only if every one of the following holds. These are cumulative, not a menu.
1. Authorisation in the articles. The articles of association must permit buy-back. If they are silent, you alter the articles first by special resolution under Section 14.
2. The quantitative ceiling. A buy-back can be up to 10% of the paid-up equity capital and free reserves on a board resolution alone. Anything above that, up to 25% of paid-up capital and free reserves, needs a special resolution. Within the 25% aggregate, the buy-back of equity shares in any financial year cannot exceed 25% of the paid-up equity capital.
3. The debt-equity test. After the buy-back, the ratio of the aggregate of secured and unsecured debts to the paid-up capital and free reserves cannot be more than 2:1. A company carrying heavy debt often fails here before it starts.
4. Fully paid shares only. Partly paid shares cannot be bought back.
5. Source of funds. The buy-back can be funded only out of free reserves, the securities premium account, or the proceeds of an earlier issue of a different class of shares or securities. You cannot fund a buy-back out of the proceeds of an earlier issue of the same kind of shares.
6. The cooling-off periods. Every buy-back must be completed within one year of the date of the special resolution or board resolution. No further buy-back can be launched within one year of the closure of the preceding one. And the company cannot make a fresh issue of the same kind of shares for six months after completion, except by way of bonus shares, ESOPs, sweat equity, or conversion of preference shares, warrants or debentures.
The two routes: board resolution versus special resolution
The route decides your paperwork and your ceiling. Pick it before you draft anything.
| Feature | Board resolution route | Special resolution route |
|---|---|---|
| Ceiling | Up to 10% of paid-up equity and free reserves | Up to 25% of paid-up capital and free reserves |
| Approval needed | Board resolution only | Special resolution at a general meeting |
| Explanatory statement | Not required | Required with the notice |
| Typical use | Small ESOP buy-backs, single-holder exits | Larger capital returns, founder exits, pre-IPO cleanup |
What you must do now: the Section 68 procedure, step by step
The two errors that recur: skipping Form SH-9 because the company is comfortably solvent and nobody thought the form mattered, and missing the 30-day Form SH-11 deadline because the bank transfer felt like the finish line. Both are defaults under Section 68, and both are visible on the MCA master data an investor's counsel pulls in diligence.
The deeper implication for pre-IPO and funded companies
Buy-back sits at the intersection of three things investors scrutinise: the cap table, the reserves, and the tax position of insiders. A pre-IPO company using buy-back to reduce promoter holding has to show that every past buy-back was within the 25% ceiling, funded from permitted sources, and reported on Form SH-11. A funded startup using buy-back for ESOP liquidity has to show that departing employees were told about the deemed-dividend tax before they signed, because an aggrieved ex-employee who discovers a surprise tax bill is a reputational and legal problem that outlasts the transaction.
According to CS Sapna Malpani, the practical shift since October 2024 is that buy-back has become a less efficient tool for employee liquidity and a more deliberate one for capital structure. Expect to see companies lean harder on secondary sales, where the seller pays capital-gains tax on the gain rather than slab tax on the whole amount, and reserve buy-back for situations where cancelling the shares is the actual objective. The companies that will be caught out over the next two years are the ones still running the pre-2024 mental model, where a buy-back felt like a tax-free exit.
How buy-back compares with the provisions it is confused with
Buy-back under Section 68 is often confused with a reduction of capital under Section 66, which requires a National Company Law Tribunal order and a creditor process, and is used when the company wants to formally reduce or return capital beyond the buy-back limits. It is also confused with a secondary sale, where one shareholder sells to another and the company is not a party, which keeps the money outside the deemed-dividend net and taxes only the gain. And it is distinct from the redemption of preference shares under Section 55, which follows its own timetable and funding rules. Choosing the wrong one of these is the most expensive mistake in the category, because the tax outcomes diverge sharply.
Key takeaways
- A buy-back of shares from 1 October 2024 is taxed as a dividend in the shareholder's hands at slab rates up to about 35.88%, on the full amount, with no cost deduction.
- Section 68(11) carries a fine of Rs 1 lakh to Rs 3 lakh and imprisonment up to three years for officers in default.
- The board route allows up to 10% of paid-up equity and free reserves; a special resolution raises it to 25%.
- Post buy-back debt cannot exceed twice the paid-up capital and free reserves.
- Form SH-8 and SH-9 go in before the buy-back; Form SH-11 with SH-15 goes in within 30 days of completion.
- Complete the buy-back within one year, wait one year before the next, and do not issue the same class of shares for six months.
- Model the tax before the board meeting, and tell every selling shareholder their liability in writing.
Sources and references
- Companies Act, 2013, Sections 68, 69 and 70, India Code: indiacode.nic.in
- Rule 17, Companies (Share Capital and Debentures) Rules, 2014, Ministry of Corporate Affairs: mca.gov.in
- Income-tax Act, Section 2(22)(f), inserted by the Finance (No. 2) Act, 2024, Income Tax Department: incometax.gov.in
- SEBI (Buy-back of Securities) Regulations, 2018, Securities and Exchange Board of India: sebi.gov.in
- Buyback of Shares under Section 68 of Companies Act, 2013, Taxmann and Mondaq India commentary.
Model the tax and the Section 68 limits before you commit, and get the SH-8, SH-9 and SH-11 filings right the first time.
Estimate your exposure with the MCA penalty tool, review your fundraising and capital compliance, or prepare for a round or listing with the IPO compliance readiness review. For routine filings, see ROC compliance filing.
Talk to CS Sapna Malpani directly on WhatsApp: +91 96208 03375.
Frequently asked questions
Can a private limited company do a buyback of shares?
Yes. A buyback of shares under Section 68 is open to private, public and unlisted companies, provided the articles authorise it and the company meets the 25% ceiling, the 2:1 debt-equity test and the funding conditions. Private companies most often use buy-back for ESOP exits and to buy out a departing founder. The procedure, including Forms SH-8, SH-9 and SH-11, is the same as for an unlisted public company. Listed companies additionally follow the SEBI (Buy-back of Securities) Regulations, 2018.
How is a buyback of shares taxed in 2026?
For any buy-back on or after 1 October 2024, the entire consideration is treated as a deemed dividend under Section 2(22)(f) of the Income-tax Act and taxed in the shareholder's hands at the applicable slab rate, which can reach about 35.88% for a resident individual in the top bracket. The shareholder gets no deduction for the cost of the shares against this dividend; the cost is instead treated as a capital loss that can be set off against capital gains and carried forward. The company no longer pays buy-back distribution tax, because the old Section 115QA was withdrawn.
What is the penalty for not filing Form SH-11?
Form SH-11, the return of buy-back, must be filed with the Registrar within 30 days of completing the buy-back, with the compliance certificate in Form SH-15. Failure to comply with Section 68 and the Rule 17 procedure attracts a fine of Rs 1 lakh to Rs 3 lakh on the company and on every officer in default, and officers can face imprisonment up to three years under Section 68(11). Beyond the fine, an unfiled SH-11 shows up as an open item in due diligence and can delay a fundraising round or a listing.
What is the maximum limit for buyback of shares under Section 68?
A company can buy back up to 10% of its paid-up equity capital and free reserves on the strength of a board resolution alone. To go higher, up to 25% of the paid-up capital and free reserves, it needs a special resolution passed at a general meeting. Within that aggregate, the buy-back of equity shares in a single financial year cannot exceed 25% of the paid-up equity capital. After the buy-back, total debt cannot be more than twice the paid-up capital and free reserves.
What is the difference between buyback and reduction of capital?
A buy-back under Section 68 is an out-of-court process that cancels fully paid shares within statutory limits and does not need tribunal approval. A reduction of capital under Section 66 requires an order from the National Company Law Tribunal and a creditor-protection process, and is used when a company wants to reduce or return capital beyond the buy-back limits. The tax treatment also differs, so the choice should be made with both the Companies Act limits and the tax outcome in view.
How long does a buyback of shares take to complete?
Every buy-back must be completed within one year of the date of the special resolution or board resolution authorising it. The bought-back shares must be extinguished and physically destroyed within seven days of completion, and Form SH-11 filed within 30 days. A company also cannot launch another buy-back within one year of closing the previous one, or issue the same class of shares for six months afterwards, apart from permitted issues such as bonus shares and ESOPs.
Last updated: 2 October 2026. This article is general information on the law as it stands and is not a substitute for advice on a specific transaction.
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CS Sapna Malpani is a Practising Company Secretary in Bengaluru advising companies and startups on ROC and FEMA compliance, secretarial audit, incorporation and corporate governance. Book a consultation to discuss your specific requirement.