Budget 2026: I-T Dept explains why share buybacks will now be taxed as capital gains

In a significant reform announced in the Union Budget 2026, the government has overhauled the taxation framework for share buybacks, a move it says will simplify compliance and offer relief to small shareholders. The Income Tax Department detailed the rationale and mechanics of the change in a post on X, explaining why buybacks will now be taxed as capital gains rather than dividends. 

Until now, share buybacks were taxed in a split manner — the proceeds were treated as dividend income, while the extinguishment of shares was considered a capital loss. According to the tax department, this structure created unintended hardships, particularly for retail investors. 

“Small shareholders often had no capital gains against which they could set off the capital loss arising from buybacks,” the department noted, calling the earlier framework inefficient and inequitable. 

Why the govt changed the rule 

The Budget 2026 proposal acknowledges that buybacks are conceptually closer to capital gains than dividend income. Acting on this principle, the Finance Bill 2026 reclassifies buyback proceeds entirely under the capital gains tax regime. 

Under the revised structure: 

• Shareholders other than promoters will pay capital gains tax at applicable rates. 
• Long-term capital gains (both listed and unlisted shares) will be taxed at 12.5%. 
• Short-term capital gains on listed shares will attract a 20% tax. 
• Short-term gains on unlisted shares will be taxed at applicable slab rates. 

The Income Tax Department said this shift removes the mismatch between income and loss treatment and makes taxation more straightforward for investors. 

Guardrails to prevent promoter misuse 

While the reform eases the burden on small shareholders, the government has built in safeguards to prevent promoters from exploiting buybacks as a tax-planning tool. 

If the promoter is a domestic company, gains from buybacks will attract an effective tax rate of 22%. For promoters other than domestic companies, the effective tax rate will be higher, at 30%. 

“These rates ensure that promoters’ tax liability remains broadly similar to what it would have been if buybacks were taxed as dividends,” the department said, underlining that the intent is reform, not revenue leakage. 

Relief for retail investors 

Tax officials emphasised that the new regime is particularly beneficial for retail and minority shareholders, who previously faced tax outgo without meaningful set-off benefits. 

By taxing buybacks purely as capital gains, the government aims to align tax treatment with economic reality, reduce disputes, and simplify compliance. 

“On the whole, buyback taxation has been simplified with benefits to small shareholders,” the Income Tax Department said. 

The buyback tax reform is part of a broader set of capital market-focused measures in Union Budget 2026, as the government looks to balance investor protection, tax clarity, and fiscal discipline.