LIC struggles with Rs.75,000 crore tax demand ahead of IPO

Even as the Life Insurance Corporation of India has readied itself for the largest IPO in India history by filing the DRHP with SEBI, it has other more problems to contend with. Incidentally, the LIC has been battling the government on several courts over demands that it needs to pay a huge sum of Rs.74,895 crore in retrospective taxes. This has been mentioned as risk factors in the prospectus filed with SEBI, but no provisions made.

There are a total of 63 major tax cases that are pending currently against the LIC. Out of these, nearly 37 cases are related to direct taxes on unreported income. This involves the bulk of the amount of Rs.72,762 crore. In addition, there are another 26 cases that pertain to demands for payment of indirect tax and these cases involve a much smaller sum of around Rs.2,132 crore. This makes the biggest outstanding tax for a single entity. 

What is perhaps not too evident in the draft red herring prospectus that the sums involved are larger than the amount being raised by the government via this IPO. The total size of the LIC IPO is expected to be a tad over Rs.65,000 crore while the tax demand against LIC is worth nearly Rs.75,000 crore. These are tax dues that have accumulated over the years and hence they also include a good chunk of penalty and interest component too.

Majority of the pending cases on the direct tax front (which is the predominant dispute segment) pertain to allegations by the Income Tax department that LIC had misrepresented its total income for a number of assessment years since the financial year ended March 2005. Many of these cases are currently under dispute and negotiation and the final impact is not known. However, even if a part translates into liability, it could be significant.

Despite a large recognized contingent liability, the LIC has not set aside any provision even to partially cover the potential pay-outs that may arise in the future. Since the outgo could be very significant in many of these cases, it is likely to substantially diminish the prospects of returns for LIC’s public shareholders. That is because persistent liabilities and pressure on cash flows will restrain the ability of LIC to grow and accelerate its market share boost.

One interesting sidelight in the entire story is the sharp fall in the cash holdings of LIC over the last couple of years. As per the latest numbers for FY21, the cash and cash equivalents of the Life Insurance Corporation, consisting of disposable cash and liquid investments, stood at Rs.26,123 crore as of Sep-21. at the end of September. This figure was as high as Rs.36,118 crore in March 2021 and much higher at Rs.63,194 crore in March 2020.

While the fall in cash balance is not too clearly explained, the immediate challenge is that if these appeals are ruled in favour of the Income Tax department, it result in a huge tax impact on the profits and cash flow of LIC. If you look at the net profits (surplus in the case of life insurance companies), it was just about Rs.2,974 crore for FY21. That is unlikely to improve in FY22, if you go by annualized H1 numbers. That is the big challenge for LIC.

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