Union Budget 2026: What corporate India wants from direct tax reforms
By Shaily Gupta and Aanchal Jain As the Union Budget 2026 approaches, expectations are running high across corporate India. This year’s budget assumes added significance as it precedes the implementation of the new Income-tax Act, 2025 (ITA 2025), effective 1 April 2026. While the ITA 2025 has primarily focused on textual and structural simplification, it has largely preserved the substantive tax framework of the erstwhile Income-tax Act, 1961 (ITA 1961). As a result, certain ambiguities, interpretational challenges and policy gaps remain unaddressed. Corporates therefore look to the upcoming Budget for targeted direct tax reforms that can enhance certainty, reduce litigation and support ease of doing business. Tax neutrality for fast- track demergersOne of the most pressing issues relates to the tax treatment of fast-track demergers under Section 233 of the Companies Act, 2013. Under the previous law, ambiguity existed on whether tax neutrality for demergers was limited to schemes sanctioned by the National Company Law Tribunal (NCLT) under Sections 230–232, thereby excluding fast-track demergers. These schemes were introduced to simplify and expedite restructuring for small companies and wholly owned subsidiaries by eliminating judicial intervention.Fast-track demergers are similar to NCLT-approved schemes, the only distinction is the approval mechanism. Denying tax neutrality merely because of procedural differences creates an artificial distinction, defeating the objective of the fast-track route. Although the Select Committee on ITA 2025 acknowledged industry representations, the government clarified that fast-track demergers were not intended to be tax neutral as they are not court-monitored, and therefore the valuations can result in tax implications or avoidance. However, these concerns can be effectively addressed through existing anti-avoidance measures, rather than a blanket denial. With the scope of fast-track demergers expanded in September 2025, it is imperative that the definition of “demerger” under Section 2(35) of the ITA 2025 be amended to include fast-track schemes.Clarifying the definition of Associated Enterprises (AEs)Transfer pricing compliance hinges on the definition of Associated Enterprises (AEs). Under ITA 2025, the definition has two limbs, participation in “management,” “control,” or “capital” and specified transactional relationships such as loan arrangements, guarantees, provision of intangibles, or exclusive supply of raw materials.Ambiguity exists on whether the second limb can independently establish an AE relationship, without satisfying the foundational participation test. The current wording suggests a potentially expansive interpretation, risking overreach. It should be expressly clarified that transactional relationships alone, without participation in capital, control, or management, do not constitute an AE relationship.Taxation of buyback proceedsFinance Act (No. 2) 2024 altered the taxation of share buybacks by shifting the tax burden from companies to shareholders. Entire buyback proceeds are now taxed as dividend income, irrespective of accumulated profits and without allowing deductions, while the cost of acquisition is treated as a capital loss (eligible for set-off). This departs from the deemed dividend framework, where taxation is limited to accumulated profits. A more balanced approach would be to tax buyback proceeds as dividends only to the extent of accumulated profits, with the balance treated as sale consideration and taxed as capital gains. Additionally, shareholders should be permitted to deduct expenses incurred in relation to buyback proceeds, consistent with the treatment of other dividend income.Boosting employment-linked deductionsSection 146 of ITA 2025 [corresponding section 80JJAA of ITA 1961] allow a deduction of 30% of additional employee costs for three years, but only for new employees earning up to INR 25,000 per month, a limit unchanged since 2016. Given wage inflation, this limit requires upward revision to ensure relevance and effectiveness in promoting employment.Timelines for income tax returns in business reorganisationsCurrent provisions permit filing of modified returns following a business reorganisation only where the original return has already been filed before the reorganisation order. Where the order is passed close to the due date of filing return, taxpayers face compliance challenges. A uniform six months window from the order date in all cases would bring much-needed certainty.TDS rationalisationThe ever-expanding scope and complexity of TDS provisions impose significant compliance burdens. Multiple rates, frequent classification disputes and reconciliation challenges across Form 26AS/AIS, income tax returns, GST filings and financial statements, often lead to mismatches and potential denial of credit. A clear roadmap to rationalise TDS rates and simplify compliance processes is essential to reduce litigation and improve ease of doing business.Other critical expectationsClarity is also sought for foreign component manufacturers who store goods in India for just-in-time supply, without transferring ownership. A safe harbour proposed in Budget 2025, remains unnotified and should be operationalised. Similarly, loan waivers pursuant to insolvency resolution under the IBC should be excluded from taxable income and TDS applicability, to preserve a clean slate to revived businesses.As Budget 2026 approaches, these targeted reforms can significantly reinforce India’s commitment for a stable and business-friendly tax regime.(Shaily Gupta is a Partner and Aanchal Jain is a Senior Associate at Khaitan & Co. Views expressed are personal.)
