Just wanted to know what happens to the amount we invest in RE’s when they lapse? Do we get refund or lose the entire investment?
You will lose the entire value of any unused REs that remain in your demat account after the application window closes. You won’t get a refund of the invested amount even if you’ve bought the REs from the secondary market and not used them.
Let’s look at this more closely.
First, where do REs derive their value from?
Since REs allow you to apply for rights shares. The value of the RE is equal to the discount at which the rights shares are being offered. For example, if a rights share is being offered at Rs. 180 and the current market price of the company’s shares is Rs. 200, then the value of RE becomes Rs. 20. The actual traded price on the exchange may be higher or lower depending upon the demand.
And, who gets the benefit of the value you have lost?
This can be an investor who applies for more rights shares than their RE holdings.
Let’s understand this with an example. Assume a company wants to issue 100 rights shares. There are only 4 shareholders of the company who hold 200 shares each (i.e. the company has 800 shares in total).
Rights ratio = 100:800 = 1:8
In other words, for every 8 shares held by the shareholders of this company, they will get 1 rights entitlement. So, each shareholder receives 25 REs.
They apply for the rights shares in the following manner:
|Shareholder||RE holdings||Rights shares applied for|
Shareholder D didn’t sell his REs and also doesn’t use them to apply for the rights shares.
A, B, and C will each first get allotted 25 rights shares since they have 25 REs. There are still 25 rights shares remaining to be allotted since D didn’t apply. B & C have applied for 25 additional shares each so the RTA will allot 12 rights shares to each of them first. Then for the 1 remaining rights share, a lottery will be conducted and either B or C will get an allotment.
Check out this Z-connect post to know more about rights issues and REs.
Very nicely written and simple to understand.
What would be the taxation involved for the unused RE? My friend did not use his RE and the broker has charged him Capital Gains Tax at the time of extinguishment, which I feel is wrong as he did not make any gains.
You’re right, since there are no gains, the broker’s report should not consider the extinguishment of REs as a profitable event for the purposes of computing capital gains.
There are two scenarios where yours REs can lapse -
- In case you purchased REs and let them lapse, you can consider this a short-term capital loss.
- If you receive REs and they lapse, you don’t need to incorporate this as a loss since the effect is already captured in the value of your present holdings.
A broker’s accounting back office should be used to get all relevant reports. Before filing your returns, you should get advice from a CA to ensure the best way to account for a transaction for your IT file is done in accordance with the present rules.