A dividend is a share of profit given by a company to its shareholders out of current or accumulated profits. Section 115-O of the Income Tax Act 1961, provides that, In addition to the income-tax chargeable in respect of the total income of a domestic company, any amount declared, distributed, or paid by way of dividends shall be charged to additional income-tax at the rate of 15%. The tax so paid by the company is called dividend distribution tax (DDT). The effective rate of dividend distribution tax for AY 2020-21 is 20.55529% approximately.
Through Finance Act, 2020, some amendments have been made in The Income Act, 1961, one of such amendments includes:
Removing dividend distribution tax (DDT) and moving to classical system of taxing dividend in the hands of shareholders/unit holders wherein dividend income will be taxable in the hands of recipients with effect from 1st April, 2020 and therefore, the tax will be deducted at source (TDS) on the Dividend payable at the prescribed rates. However, no TDS shall be deducted on the Dividend payable to a resident Individual if the total dividend to be received during FY 2020-21 does not exceed Rs. 5,000.
Current dividend distribution tax System (Till March 2020):
Under the Current Tax Regime, Indian companies are required to pay tax at an effective rate of 20.56% on their distributable profits. The provisions relating to DDT are governed by Section 115-O. Some of the key points are:
- Dividend referred to in section 115-O is exempt in the hands of shareholders under clause (34) of section 10.
- In the case of business trust, the specific exemption is provided under sub-section (7) of section 115-O, subject to certain conditions.
- Similarly, under section 115R, specified companies and Mutual Funds are liable to pay additional income tax at the specified rate on any amount of income distributed by them to its unitholders. Such Income from Mutual Fund is then exempt in the hands of unitholders under clause (35) of section 10.
- Similarly, the exemption is provided for distributed profits of a unit of an International Financial Service Centre, on fulfillment of certain conditions, under sub-section (8) of section 115-O.
- A taxpayer has to pay tax on the dividend at 10% only in cases where the dividend received from Indian companies is more than Rs 10 Lakhs.
The incidence of tax is, thus, on the payer company/Mutual Fund and not on the recipient, where it should normally be.
Why the dividend distribution tax should be abolished?
The dividend is income in the hands of the shareholders and not in the hands of the company. The incidence of the tax should, therefore, be on the recipient. Moreover, the present provisions levy tax at a flat rate on the distributed profits, across the board irrespective of the marginal rate at which the recipient is otherwise taxed. The provisions are hence, considered, iniquitous and regressive.
The present system of taxation of dividend in the hands of the company/ mutual funds was reintroduced by the Finance Act, 2003 (with effect from the assessment year 2004-2005) since it was easier to collect tax at a single point and the new system was leading to increase in compliance burden. However, with the advent of technology and an easy tracking system available, the justification for the current system of taxation of dividends has outlived itself.
Given above, it is proposed to carry out amendments so that dividends or income from units are taxable in the hands of shareholders or unitholders at the applicable rate and the domestic company or specified company or mutual funds are not required to pay any DDT.
Impact of the dividend distribution tax (DDT) abolishment on Different Stakeholders:
Now, Indian companies are not required to pay dividend distribution tax on their distributable profits. So, the shareholders will get their full share of profit and not after the Net of dividend Distribution Tax.
The benefit of abolished DDT will depend on the tax bracket that the individual investors fall into. Few examples have been given below:
- Resident individuals who are subject to nil tax or at the effective tax rate of 10%: Benefit the most from the DDT abolishment, with nil or 10% outgo as earlier they had to forgo a 20.56% tax as DDT at the company level.
- Resident individuals falling under the 20% slab: Also gain from the DDT abolishment, with 20% outgo as earlier they had to forgo a 20.56% tax as DDT at the company level.
- Resident individuals falling under the slab of 30% with income more than Rs 5 crore: Earlier, the effective tax rate on their dividend income (Assuming dividend Income is more than Rs 10 Lakhs.) was 34.8% i.e. DDT at 20.6% plus income tax at 14.2% (tax at 10% plus surcharge and education cess). These Individuals have an effective tax rate of 42.7% (including surcharge and cess). These will suffer a big loss in the new DDT system.
TDS on Dividend:
- For Resident Shareholders: Tax shall be deducted at source under Section 194 of the Income-tax Act, 1961 @ 7.5% on the amount of dividend declared and paid by the Company during the Financial Year (”FY“) 2020- 21 provided PAN is provided by the shareholder.
- For Non-resident Shareholders: Taxes are required to be withheld by the provisions of section 195 of the Income Tax Act, 1961 at the applicable rates in force. As per the relevant provisions of section 195 of the said Act, the withholding tax shall be at the rate of 20% (plus applicable surcharge and cess) on the amount of dividend payable to them.
- In the case of Foreign Portfolio Investors/ Foreign Institutional Investors: The withholding tax shall be as per the rates specified in Section 196C and 196D of the Act respectively plus applicable surcharge and cess on the amount of dividend payable to them.
However, as per Section 90 read with Section 195 of the Income-Tax Act, the non-resident shareholder has the option to be governed by the provisions of the Double Tax Avoidance Agreement (“DTAA“) between India and the country of tax residence of the shareholder if they are more beneficial to them.
Dividend distribution tax rate calculation with an example:
Where the amount of dividend paid or distributed by a company is Rs 85, then DDT will be calculated as follows:
|Dividend amount distributed||Rs 85|
|Increase by Rs 15 [ i.e. (85 * 0.15)/ (1-0.15)]||Rs 15|
|Increased amount||Rs 100|
|DDT payable under section 115-O is @ 15% of Rs 100||Rs 15|
|Dividend distributed to shareholders||Rs 85|
|Effective rate of dividend distribution tax|
|The effective rate of dividend distribution tax payable shall be as under:|
|Tax Payable under section 115-O on Rs 85 distributed||Rs 15|
|Therefore DDT rate on Rs 100 distributed shall be 15/85*100||17.64706%|
|Add: Surcharge @ 12% of 17.64706||2.11765%|
|Add: H&EC @ 4%||0.79059%|
|Total effective DDT rate applicable will be||20.55529%|
Hence, the effective rate of DDT has been increased to 20.55529% approximately.
Alternatively the net amount of dividend paid on distributed should first be grossed up and DDT should be paid @ 17.42% (15%+12% SC+ 4% H&EC).
The effective rate of DDT is 20.55259% approximately.
Section 115-O of the Income Tax Act 1961, provides that, In addition to the income-tax chargeable in respect of the total income of a domestic company, any amount declared, distributed or paid by way of dividends shall be charged to additional income-tax at the rate of 15%. The tax so paid by the company is called dividend distribution tax (DDT).
Yes. Dividend distribution tax has been abolished. now, the dividend will be taxable in the hands of shareholders/unit holders (recipients).
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