India: Does your transaction qualify as a slump sale?

There are several ways to transfer a business in India. You can acquire shares, transfer assets, or undertake what is called a slump sale (familiar to many of you as a transfer of going concern). 

A slump sale, which receives preferential tax treatment, has the potential to: (a) strengthen the acquirer’s business performance; (b) alleviate existing operational and maintenance challenges through economies of scale and synergies; and (c) streamline the structuring of a business. However, to qualify for a slump sale, certain key conditions must be met to qualify for a slump sale.

"It is critical that the undertaking be transferred as a going concern, without any cessation in the operations of the business."

Many people use the terms asset transfer and slump sale interchangeably, but these two acquisition methods are fundamentally distinct, with as they have different legal characteristics and consequences. We set out the key characteristics of a slump sale below.

Object of the transfer

A slump sale requires the sale of all assets and liabilities of a unit or division of an undertaking taken as a whole for a lump-sum consideration. An “undertaking” is an inclusive definition under Explanation 1 to Section 2(19AA) of the IT Act, and refers to “any part of an undertaking, or a unit or division of an undertaking or a business activity taken as a whole but does not include individual assets or liabilities or any combination thereof not constituting a business activity.” It is critical that the undertaking be transferred as a ‘going concern’, without any cessation or hinderance in the operations of the business. 

A key point to note here is that judicial precedents have allowed the exclusion of specific assets or liabilities on the grounds that they are not essential for the business operations and that a business can continue to operate even in the absence of the transfer of those assets and liabilities. The rationale is that if the transfer is of a going concern and the transferee is able to carry on the business on the basis of the assets acquired, then the non-acquisition of the non-essential assets or liabilities of the business would not restrict the sale from being classified as a slump sale. 

By contrast, an asset sale is an itemized sale of the constituent assets of a business where the sale price is ascertained by summing the price for each asset and no liabilities are transferred.

Consideration

The consideration in a slump sale must be a lump sum for the entire business. In contrast, the consideration in an asset transfer is the aggregate of the value attributable to each asset.

Liabilities and losses

Liabilities and losses incurred as of the date of the slump sale transfer to the transferee company along with the undertaking. In an asset transfer, in contrast, no liabilities typically transfer, except in certain limited instances.

Treatment of employees

In a slump sale, the employees of the undertaking must explicitly permit the transfer of the undertaking to the buyer on a “continuation-of-service basis.” This means that the buyer cannot employ them on terms and conditions less favorable than those offered to them during the course of their employment with the seller.

Further, the buyer and seller are responsible for:

(a) all unpaid amounts contractually payable under the terms of employment with the seller, such as unpaid salaries and bonuses, and

(b) retirement and other benefits, such as: 

• payments under the provident fund and for the employee state insurance scheme (if applicable), to the extent unfunded by the seller and
• gratuity payments, which typically are unfunded (in which case an actuarial estimate is made) or may be funded (under an insurance scheme or through a trust), in which case, the liability is determined to the extent of any unpaid amounts.

Typically, these liabilities are quantified and either the purchase price is adjusted, or the seller agrees to indemnify the buyer for any resulting liability.

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Crossroads – ICR Insights is our series of short-read articles designed to assist organizations considering an international corporate reorganization (ICR). Each country-specific, solutions-based brief will answer a key consideration during a global transaction such as carveouts, spinoffs, acquisitions and dispositions, pre- and post-acquisition integration, or legal entity rationalization. Visit Crossroads – ICR Insights to view the entire collection or sign up to be notified of new postings. Have an idea of a topic or interested in discussing further? Email ICRCrossroads@dlapiper.com.

*Sidharrth Shankar is a partner at JSA Law. You may reach him via sidharrth@jsalaw.com.