So by now everybody knows that Dividend Distribution Tax (‘DDT’) is abolished and classical system of dividend taxation is re-introduced. We have tried to explain in this article as to what does this mean and how will it have impact on individual investors. The below mentioned tax treatment will be applicable from FY 2020-21 (AY 2021-22):
Dividends on shares:
- Resident individuals (investors):
- This article focuses on tax impact on investors and not traders. For investors, dividend income will be taxed under the head ‘income from other sources.
- The rate at which based on slab rates. For individual in the income bracket of upto Rs. 500,000 it will be a relief in the sense that earlier DDT used to be levied @ 15% on dividend from shares and 10% on dividend from equity mutual funds irrespective of income level. Hence, individuals with very low or Nil income were also subjected to tax @ 15% / 10% (plus surcharge and education cess). Under the new regime, their effective tax rates for dividend income will be as per their slab rates which could be nil or as low as 5% also.
- However, there will be a huge impact on individuals with higher tax bracket. The tax rate could be as high as 42.744%.
- Now that the dividends are taxed, the expenses incurred to earn the dividends can also be claimed as expenditure. However, not all expenses can be claimed. Only interest expense incurred, subject to a maximum of 20% of the dividend income, to earn this dividend will be allowed as deduction.
This means, where your dividend income from shares is Rs. 100 and interest paid from loan taken to invest in shares is Rs. 70, you will be allowed an interest deduction of Rs. 20 (i.e. 20% of Rs. dividend income Rs. 100). Now assume that your interest expense was only Rs. 10. In such case, the deduction allowed will be Rs. 10. In other words, the deduction amount will be actual interest paid or 20% of dividend income, whichever is less.
- The Tax Deduction at Source (‘TDS’) will be @ 10% on dividend above Rs. 5000.
- Non-resident investors:
- The rate of tax on dividend from shares is flat 20% (surcharge as applicable and education cess to be added to this rate) for non-residents. Dividends will be taxed on gross basis, meaning thereby, no deduction of expenses will be allowed from dividend income.
- The TDS / withholding tax to be done will also be 20% (plus applicable surcharge and cess). There is no threshold limit unlike resident investors. Hence, even one rupee of dividend will trigger withholding tax.
- The investor can claim benefit of lower rate, if any, available to him / her in the Double Taxation Avoidance Agreements (‘DTAA’) signed by India with other countries. For this, it’s very important that they obtain Tax Residency Certificate from the foreign country where they presently reside.
- Benefit of basic exemption limit will not be available. In India, generally speaking (barring few exceptions), tax is payable by individuals when their income exceeds Rs. 250,000. For senior citizens this limit is Rs. 500,000. This is called basic exemption limit.
Consider a case, where Mr. A, a Non Resident Indian, has earned dividend of Rs. 100,000 from his equity share investments in India during the year 2020-21. He has also earned an interest of Rs. 50,000 from his NRO bank account.
In such case, his NRO interest will be covered by the basic exemption limit of Rs. 250,000 and hence no tax will be charged. But dividend will not be eligible for basic exemption limit and will be taxed at a flat rate of 20% subject to rates under DTAA.
- Chapter VII-A deduction which includes section 80C / 80G (i.e. contribution to PPF, charitable donations etc.) deductions will not be allowed against this income.
- Also, in case of those investors where dividend is the only income they have in India and applicable TDS / withholding tax has been deducted, they need not file return of income in India.
Dividends on mutual funds:
- In common parlance, distribution of income by mutual funds is also termed as dividend. However, under the Income tax Act, it is not covered under the definition of ‘dividend’.
- For resident investors, this may not have much ramifications since dividend from shares and income from mutual fund units have the same tax treatment. Please see paras 1.1 to 1.4 of this note.
However for non-residents this income from mutual funds will be taxed as per slab rates. Hence, The tax rate could be as high as 42.744%. This is because, the concessional rate of 20% given in case of dividends from shares (please see para 2.1 of this Note) is not available for income from mutual funds. However, deduction of interest expense upto a maximum of 20% of mutual fund income will be allowed.
- Though, taxation is at slab rates, TDS / withholding tax is to be done at the rate of 20% plus applicable surcharge and education cess (section 196A).
- Also DTAA benefits can be claimed. However, whether such income should be considered as ‘dividend’ or ‘other income’ under the DTAA is still a grey area.
So, as an investor, the practical aspects you need to take care of are:
- Start keeping track of documents of dividend declared and distributed during the year
- In case of shares purchased from your funds but in the name of spouse, you now need to take care of clubbing provisions.
- The dividend income will now get reflected in Form 26AS or its substitute as announces by the government.
- Form 15G / H will have to be submitted.