Abolition Of Dividend Distribution Tax


  • In order to increase the attractiveness of the Indian Equity Market, to provide relief to large class of investors and to make India an attractive destination for investment, the Union Budget proposed to remove the Dividend Distribution Tax (DDT).

Reasons to Abolish

  • India charges tax on domestic companies on the amount of dividends distributed by them. As a corollary, dividends are exempt in the hands of shareholders. It is a tax that has created much consternation among corporates.
  • The system of levying DDT results in increase in tax burden for investors and specially those who are liable to pay tax less than the rate of DDT, if the dividend income is included in their income.
  • Further, non-availability of credit of DDT to most of the foreign investors in their home country results in reduction of rate of return on equity capital for them.
  • DDT is considered as a surrogate tax and it obstructs the flow of foreign direct investment. Therefore, doing away with this tax can give a major push to investment.

Background

  • It is to be noted that removal of DDT was mooted Direct Tax Code Panel (Chairman –Akhilesh Ranjan) which was set up by the government to formulate a new direct tax code to replace the existing Income Tax Act.
  • The idea behind removal of DDT is to remove the cascading impact of taxation and the panel favoured no preferential treatment for any class of investor.

Key Changes

  • The dividend distribution tax (DDT) has been abolished at both the company and mutual fund levels.
  • It has been proposed to abolish DDT on dividends paid by the corporates and transfer the tax burden completely in the hands of the recipient.
  • Instead, dividends will be taxable in the hands of investors and will be taxed at their slab rates. In addition, tax will be deducted at source (TDS) on mutual fund dividends in excess of Rs 5,000 per year at the rate of 10%.
  • DDT has also been abolished on dividends paid out by mutual funds.Now, this amount will flow directly into the net asset value (NAV) of mutual funds.
  • While the Budget also proposed a 10% tax would be deducted at source for ‘income’ above Rs 5,000 in a year, there is a lack of clarity on whether the levy would be only on dividend income or overall equity returns.

Impact

Positive

Benefits to Investors

  • The move to abolish DDT and make dividend income taxable in the hands of individuals will benefit debt fund investors who are in the lower tax bracket.
  • Abolition of DDT would encourage low-income earners, who have total income up to Rs 5 lakh, to invest in capital market as the person with total income up to Rs 5 lakh will not have to pay tax on dividend income as against 20.56 percent paid by them indirectly.

Benefits to Mutual Fund Industry

  • The move could also lead to a churn in the mutual fund(MF) industry with investors likely moving from dividend plans to growth plans of equity mutual funds.

Negative

  • According to the experts of MF industry, the change can, however, would an adverse effect on the attractiveness of mutual funds.
  • The TDS provision also extends to capital gains on mutual funds. What was earlier an invisible tax will now be perceptibly deducted. Those who don’t want the deduction will have to submit paperwork, as with other types of TDS. This could negatively affect the perception towards the dividend option of funds.
  • Further, abolishing DDT will not only impact tax collection, but also affect the investment cycle.

What is Dividend Distribution Tax (DDT)?

  • It is a tax levied on dividends that a company pays to its shareholders out of its profits, which is taxable at source, and is deducted at the time of the company distributing dividends. The dividend is the part of profits that the company shares with its shareholders.
  • India's DDT provisions were introduced in the Finance Act 1997.Interestingly, DDT was scrapped in 2002 only to be re-introduced in the next year on grounds of ease of tax administration.
  • Other than DDT, the Securities Transaction Tax (STT) and Long-Term Capital Gains (LTCG) tax are other major taxes levied on market instruments.

Who is required to Pay DDT?

  • Under Section 115-O, the Income Tax Act, any domestic firm which is declaring or distributing dividend has to pay DDT at the rate of 15 percent on the gross amount of dividend.

What are the Different Rates Charged?

  • DDT for distribution of income by debt fund was 25% for individuals and Hindu undivided family (HUF) and 30% for others.
  • While the rate of DDT by companies in India is 15%, which after grossing up, comes to 17.65% and taking the impact of surcharge at 12% and cess at 4%, this comes to 20.56%.
  • In 2017 an additional income tax of 10% became applicable if the aggregate dividend income exceeds Rs 10 lakh per annum. It is applicable on the excess amount above Rs 10 lakh.
  • Budget 2018 introduced dividend distribution tax on equity oriented mutual funds. It is taxed at 10% and including 12% surcharge and 4% cess it adds up to 648%.
  • On debt oriented mutual funds, DDT is 25% and after including 12% surcharge and 4% cess it adds up to 12%.

When is the Dividend Distribution Tax paid?

  • The tax has to be paid to the government within 14 days of the dividend declaration, distribution or payment whichever is earliest.
  • If DDT is not paid within the given time period, interest at a rate of 1 percent per month or part thereof starts getting accumulated till the amount is paid. The tax is paid separately, over and above the company’s income tax liability.