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Who is required to pay Dividend Distribution Tax(DDT) and at what rate
Any domestic company which is declaring/distributing dividend is required to pay DDT at the rate of 15% on the gross amount of dividend as mandated under Section 115O. Therefore the effective rate of DDT is 17.65%* on the amount of dividend.

Dividend Distribution Tax (Sec 115 O) is 15% but in case of dividend referred to in Section 2 (22)(e) of the Income Tax Act, it has been increased from 15% to 30%.

Let us understand this by way of an example:
Calculate the DDT on dividend declared of Rs 2,00,000
Step I: Determine the grossed up dividend. This is calculated @ 17.65% on Rs 2,00,000 and added to Rs 2 lakhs which will amount to Rs Rs 2,35,300
Step II: Calculate DDT on the Grossed up Dividend @ 15% which will amount to Rs 35,295 Therefore the DDT on Rs 2 lakhs will be Rs 35,295.

*This rate excludes surcharge and cess. If percentages of surcharge and cess are also included, the effective rate of DDT would be 20.56%.

When is DDT to be paid
DDT is to be paid within 14 days of declaration, distribution or payment of dividend whichever is the earliest.
In case of non-payment within 14 days, the company would be liable to pay by way of interest at the rate of 1% of the DDT from the date following the date on which such DDT was payable till the time such DDT is actually paid to the government. These provisions are contained under Section 115P.

Special Provisions Related to DDT
a. Income by way of dividend in excess of Rs 10 lakh would be chargeable at the rate of 10% for individuals, Hindu Undivided Family (HUF) or partnership firms and private trusts.

b. When a holding company receives dividend from its subsidiary company (both being domestic companies), then when the holding company distributes dividend, the amount of dividend liable for DDT will be equal to:

Dividend declared/distributed/paid during the year (less) Dividend received by holding company during the year (subject to certain conditions)

DDT on Mutual Funds
DDT is also applicable on mutual funds:

On Debt oriented funds DDT is at the rate of 25 percent (29.12 percent including surcharge and cess).
However, equity-oriented funds were exempt from DDT. Budget 2018 introduced, tax on equity oriented mutual funds at the rate of 10 percent (11.648 percent including surcharge and cess).
The dividend received by investors is exempt in hands of the fund holder
Impact on the investor
Mutual funds that invest less than 65% of the corpus in equity are termed as non-equity funds like debt funds for taxation purposes. Investors who are looking for periodic income from dividends of equity oriented funds should reconsider their strategy. Because of the taxation on returns would leave them with a reduced in-hand return. However, the dividend remains tax-free in the hands of the investor. The fund house will deduct the DDT before any dividend payments. Dividend schemes will be non-beneficial for LTCG below Rs. 1 Lakh as other schemes are exempt from tax.

Who should opt for Dividend Scheme
Investors who are looking for a regular income can invest, despite the higher tax. If your goal is about wealth creation, dividend scheme would eat up your accumulated profits at regular intervals. Also, the compounding benefit is lost when the dividend is paid and the whole purpose of wealth creation would be a waste. Despite the new tax regime, equity-oriented funds still dominate because of their high returns. One just has to give some time before taking any hasty decisions.

Other important points about DDT
DDT is payable separately, over and above the income tax liability of a Company. No deduction or credit is allowed to the company for the DDT paid
No DDT is payable if dividend is paid to any person for or on behalf of the New Pension System Trust
Section 115BBD provides for concessional rate of tax of 15% on dividend received by an Indian Company from its foreign subsidiary
Further, no deduction in respect of any expenditure or allowance or set off of loss shall be allowed to the taxpayer under the Act in computing the income by way of dividends.

Issues with Dividend Distribution Tax

Primarily if we observe the mechanism of DDT, we can easily find the cascading effects. These effects apparently depicts that there is double taxation of income for both, the company declaring the dividend and the shareholder receiving the dividend. As per the mandate of section 115-O,

the company declaring the dividend has to give the tax on such dividends @20.55%, which is over and above the corporate tax. Similarly the shareholder has to comply with the provisions of section 115BBDA, as per which if the aggregate dividend income exceeds the Rs 10 lakh, tax @ 10% is to be paid. This shows the exploitation of the taxpayer.

Further it was argued that DDT were discouraging the foreign investment as, the non-resident could not avail the tax credit. Similarly it was argued that, the residents whose income is very low and their applicable tax slabs are low, they are not benefitted at all because the DDT was 20%. As per their demands the same could be more beneficial if it was taxed in the hands of shareholder itself.

 

Provision for Tax Implications On Residents Before Finance Budget 2020

Section 115-O of the Income tax Act, 1961 (IT ACT, 1961) provides that, in addition to the income tax chargeable in respect of the total income of a domestic company, any amount that is declared or distributed or paid by way of dividends shall be charged to additional income tax @15% (plus 12% surcharge + 4% cess , that makes the effective rates as 20.555% ).

As per section 10(34) this dividend income is exempted in the hands of shareholder i.e. now the shareholder is not liable to pay any tax on such income. But when such dividend income (aggregate) exceeds the amount of Rs. 10 lakh, it becomes taxable in the hands of the shareholder by virtue of section 115BBDA @10%.

Table A

Situation

 

 

1. dividend of Rs 1000is distributed by the company in year 2019

Rs.10 per share on its 100 share

2. Dividend of Rs1,00,00,000distributed by company

(Rs 1000 per share on its 10,000 shares)

Tax Implication on the company (DDT@ 20.55%)

 

 

Rs. 205.5 to be paid as tax

Rs 20,55,500 to be paid by the company as tax

Shareholding and dividend received by Shareholder

 

No. of shares

 

50 shares

1200 shares

Dividend Amount

 

Rs. 500

(10 X 50)

 

12,00,000

(1000 X 1200)

Tax Implication on the Shareholder This will be Nill by virtue of section 10 (34)

 

 

Rs. 20,800

By virtue of Sec-115BBDA ( @10% + 4% cess)

Amount up to Rs. 10,00,000 is exempted u/s 10(34)

Provisions for Tax Implication On Residents After Finance Budget 2020

Due to the abolishment of DDT and reinstate of dividend tax in the hands of shareholder the Finance Act 2020 proposed the following:

i) It abolished the effect section 115-0, section 10(34) and

ii) New provisions were enacted like section 194, which provides that the company declaring or distributing the dividend is required to deduct TDS @10% if the dividend amount exceeds Rs. 5000.

iii) Section 195 which provides that when dividend is declared or distributed by the companies to non-residents then, it is required to deduct tax on such dividend amount.

iv) Section 57 was subjected to some changes, wherein if the investor has incurred some expenses over the income of such dividends then, the investor can claim maximum 20% of expenses as deductions.

Situation

 

 

1. dividend of Rs 1000 is distributed by the company in year 2020

Rs.10 per share on its 100 share

2. Dividend of Rs1,00,00,000distributed by company

(Rs 1000 per share on its 10,000 shares)

Tax Implication on the company ( No DDT)

 

DDT is now abolished therefore no tax is to be paid by the company

No TDS is to be paid as dividends are below the amount of 5000

Rs 1,20,000 (TDS)

TDS @ 10% is to be deducted by virtue of sec-194

Shareholding and dividend received by Shareholder

 

No. of shares

 

50 shares

1200 shares

Dividend Amount

 

Rs. 500

(10 X 50)

 

 

12,00,000

(1000 X 1200)

Tax Implication on the Shareholder

 

This amount is to be included in the total income of the share holder. Thus, chargeable to tax as per the tax slab applicable.

The shareholder will adjust the TDS amount at the time of filing ITR

Table B

Provision for Tax Implication on Non-Residents Before & After Finance Act 2020

Prior to the abolition of DDT, any foreign investor who receives any dividends, the same was taxable in the hands of the companies @20.55% which was the mandate of section 115-O of ITA, 1961. Because the tax was deducted in the hands of the companies, no tax credit was available to non-residents. Thus after paying DDT on dividends they also had to pay in their home country.

Post Finance Act 2020, the companies distributing the dividends are required to deduct TDS @20% as per the mandate of section 115A. The benefit of TDS is now available as a tax credit which was the intention of this proposed change i.e. encouraging the foreign investment. Besides this the benefits of DTAAs can also be availed by non-residents.

Gainers vs. Losers After Abolition of DDT:

Gainers Losers
Retail Investors whose income tax slab rates are below 20%. Promoters

 

They are the worst affected as firstly, they have to pay corporate tax. Secondly these promoters own high percentage shares in the companies, so the amounts of dividends would be huge, which will attract heavy tax .

   
Non residents Individuals falling under high tax slabs
Due to applicability of TDS @ 20%, the non-residents can now take the credit benefit in their own country. Also they can avail the treaty benefits . Earlier the dividend amount was taxed by the companies on a flat rate of 20% which was tax free in the hands of shareholder up to Rs. 10 lakh. But now this dividend amount will form the part of total income which will be taxed as per the slab rates applicable to it.

Conclusions-

In September 2019, the central government with an intention to boast the investment cycle in the economy reduced the corporate tax rates and subsequently in the Finance Act 2020, the government abolished DDT. These are the welcoming steps with the aim to encourage foreign investment and to leave more profits in the hands of the companies to further reinvest. There are pros and cons to everything, similarly DDT abolition has a huge negative impact on promoters of the company. The high tax implications on promoters is an intended step of the government in preventing companies from sharing profits to its shareholders so that such profits can further be reinvested. Therefore taxability of dividends in the hands of the shareholder has both positive and negative implications on residents with high income tax slab rates whereas it has positive implications on foreign investors and on residents with low income slab rates.