Amendments to Rule 11UA for Issue of Shares

The Central Board of Direct Taxes (CBDT) has recently implemented a substantial revision to Rule 11UA of the Income Tax Rules, 1962, concerning the valuation of shares issued, effective from September 25, 2023. This communication aims to provide an overview of the revised valuation methods, with a particular focus on its relevance to Chartered Accountants and startups.

Revised Valuation Methods:

The updated Rule 11UA introduces various valuation methodologies for determining the fair value of shares during issuance:

(A) Book Value Method: This method retains its previous formula without any changes.

(B) DCF Method: Under this approach, fair value is calculated using the Discounted Cash Flow (DCF) method, with a valuation report obtained from a Merchant Banker.

(C) Venture Capital Scenario: Shares may be valued at the same price at which a Venture Capital Undertaking raised funds from a Venture Capital Fund, Venture Capital Company, or an Alternative Investment Fund (AIF). A maximum gap of 90 days is allowed between the valuation of shares and their issuance to such VC or AIF.

(D) Comparable Company Multiple, Probability-Weighted Expected Return, Option Pricing, Milestone Analysis, or Replacement Cost Method: Valuation under this method is conducted based on a report from a Merchant Banker.

(E) Notified Entity Scenario: 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 permissible between the valuation and issuance to such notified entity.

Valuation of Equity Shares:

Issued to Residents: When shares are issued to residents, the assessee can choose from methods (A), (B), (C), or (E). Notably, option (D) is not available for shares issued to residents.

Issued to Non-Residents: In the case of shares issued to non-residents, the assessee has the flexibility to select any method from (A) to (E).

Valuation of Compulsorily Convertible Preference Shares (CCPS):

Issued to Residents: For CCPS issued to residents, valuation can be conducted using options (B), (C), (E), or by deriving valuation from equity share valuation as detailed above.

Issued to Non-Residents: CCPS can be valued using options (B) to (E) or by deriving valuation from equity share valuation as detailed above.

Timeframe Consideration:

Importantly, there is a maximum allowable gap of 90 days between the date of the valuation report issued by the Merchant Banker and the date of share issuance.

Tolerance Threshold:

A tolerance threshold of 10% is in place, allowing 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 essential to note that these amendments specifically pertain to share issuance. There are no changes regarding share transfers, and the existing rules continue to apply in those instances.

In conclusion, the recent amendments to Rule 11UA of the Income Tax Rules, 1962, introduce significant changes in the valuation of shares during issuance. Chartered Accountants should familiarize themselves with these updated methods and their applicability to ensure compliance with regulations and accurate share valuation."