Valuation of Transfer of Unquoted Equity Shares(1 of 5) under Income Tax

The transfer of unquoted equity shares—those not traded on a recognized stock exchange—raises significant valuation and tax compliance challenges under Indian tax law. For Directors, CFOs, Founders, and Finance Professionals, navigating the valuation rules of the Income Tax Act, 1961 is critical to ensure legally sound and tax-efficient transactions.

This article explains the legal framework, valuation methodology, and compliance requirements under the Income Tax Act for transferring unquoted shares.

Key Income Tax Provisions: Section 50CA & Section 56(2)(x)

To prevent the evasion of tax through undervalued share transfers, the Finance Act, 2017 introduced two key anti-abuse provisions:

Section 50CA – Applicability to the Seller (Transferor)

If the consideration for transferring unquoted equity shares is less than their Fair Market Value (FMV), the FMV will be deemed as the sale price for calculating capital gains under Section 48.

Section 56(2)(x) – Applicability to the Buyer (Transferee)

When unquoted shares are received without consideration or at a value lower than FMV, the difference between the FMV and actual consideration is taxed as “Income from Other Sources”.

➡️ This creates dual tax exposure—capital gains for the seller and deemed income for the buyer.

Valuation Methodology under Rule 11UA(1)(c)

The FMV of unquoted shares must be calculated as per Rule 11UA(1)(c)(b) of the Income Tax Rules using this formula:

FMV = (A + B + C + D – L) × (PV / PE)

Where:

• A = Book value of tangible assets (excluding jewelry, real estate, deferred revenue expenses)

• B = FMV of jewelry and artistic works (valued by a registered valuer)

• C = FMV of securities held

• D = Stamp duty value of immovable property

• L = Book value of liabilities (excluding certain items)

• PV = Paid-up value of shares being transferred

• PE = Total paid-up equity capital

• Valuation Date: Must be the actual date of transfer

• Certifying Authority: Must be certified by a Registered Valuer or Chartered Accountant in accordance with applicable standards.

Tax Impact Summary: Transferor vs. Transferee

Exemption Threshold: If the difference is ₹50,000 or less, Section 56(2)(x) does not apply.

Importance of Registered Valuer & Documentation

A Registered Valuer (under Companies Act) or Chartered Accountant plays a critical role by ensuring:

• Accurate computation of FMV

• Justifiable assumptions and methodologies

• Proper documentation for audit and scrutiny

• Compliance with Rule 11UA and industry best practices

This becomes especially important in transactions involving:

• Group restructurings

• ESOPs and buybacks

• Cross-border share transfers

• High-value private equity transactions

Common Mistakes and Risk Areas

Many companies and professionals fall into avoidable traps, including:

• Assuming book value equals FMV

• Ignoring valuation for related-party transfers

• Failing to get professional certification

• Overlooking dual tax implications

• Weak or missing documentation trail

• Relying on internal estimations without third-party validation

These missteps can lead to tax penalties, litigation, and compliance failures.

Frequently Asked Questions (FAQs)

1. Is valuation mandatory for all transfers of unquoted shares?

Yes, especially when the transaction is not at arm’s length or involves related parties.

2. Who can issue a valuation report for income tax purposes?

Only a Registered Valuer under the Companies Act or a Chartered Accountant is authorized.

3. What defines short-term and long-term capital gains for unquoted shares?

• Short-Term Capital Gain (STCG): Holding period ≤ 24 months

• Long-Term Capital Gain (LTCG): Holding period > 24 months

4. Is indexation benefit available for LTCG on unquoted shares?

No, after 23rd July 2024, indexation benefit is no longer available for such shares.

5. Are there exemptions from capital gains tax?

Yes. Sections 54F and 54EC provide exemptions subject to specific investment conditions and timelines.

How Nexpective Advisors Can Help

At Nexpective Advisors, we provide end-to-end advisory and compliance services for unquoted share transfers, including:

• Fair Valuation Reports in accordance with Rule 11UA

• Registered Valuer Certification (IBBI-compliant)

• Capital Gains Computation and Tax Planning

• Assistance with Income Tax Filing and Transfer Documentation

• Transaction Structuring for ESOPs, buybacks, and group reorganizations

Book a consultation to ensure your transaction is structured to minimize tax exposure and ensure full compliance.

Final Thoughts

Valuation of unquoted shares is not just a compliance checkbox—it’s a critical risk control mechanism. Improper valuations can trigger dual taxation, penalties, and scrutiny by tax authorities.

By aligning your transactions with Sections 50CA, 56(2)(x), and Rule 11UA, and by engaging valuation professionals, you can confidently execute share transfers that are tax-efficient, legally defensible, and audit-ready.