Dividends are a crucial aspect of investment returns, and understanding their tax implications is essential for investors in India.
Dividend tax is levied on the income generated through dividends from shareholders’ company investments. Understanding the intricacies of dividend taxation is essential for investors seeking to optimize returns and businesses striving for financial efficiency.
What are Dividends?
Dividends refer to the payments companies extend to their shareholders using profits or retained earnings. Companies can opt to reinvest their profits into the business or allocate a portion of them to shareholders as dividends.
While dividends are commonly distributed in cash, they can also take the shape of additional stock shares or other assets.
Varieties of Dividends
To grasp the taxation aspect of dividend income, it is essential to understand the two primary categories of dividends:
Dividend Distribution Tax (DDT)
DDT is the company’s responsibility for disbursing dividends, with the deduction occurring before the actual payout to shareholders is finalized. The effective DDT rate in India is 17.65%, derived from the 15% DDT on the gross dividend stipulated by Section 115O of the Income Tax Act, 1961. It is pertinent to note that DDT is applicable solely to dividends distributed by domestic companies and does not extend to dividends distributed by foreign companies.
Tax on Dividend Income
This tax pertains to the amount payable by the shareholder or mutual fund unit holder on dividends received within a specific financial year. The tax rate on dividend income varies based on the source from which the dividend income is derived. For dividends exceeding ₹10 lakhs from domestic companies, the applicable rate is 10%, while dividends from foreign companies are taxed according to the income tax slab rate of the assessee. In the context of mutual funds, all dividends remain exempt from income tax, with only DDT being applicable.
Guidelines Governing Taxation of Dividend Income in India
As of the assessment year 2021-22, domestic corporations have noticed a notable shift in the tax landscape. They are now exempt from the obligation to pay dividend distribution tax on dividends declared, distributed, or paid. This marks a substantial departure from the earlier mandate requiring the payment of tax on all dividends. The revised legislation alleviates companies from this specific tax responsibility, bringing about a modification in the tax law.
Tax Rates Applicable to Dividend Income | 2023-24
The following table illustrates the dividend tax rates, categorized by the assessee, and the distribution method:
Category of Assessee (Rephrase)
|
Dividend Nature
|
Rate of Tax
|
Resident
|
Dividend received from a domestic company
|
The normal rate of tax applicable to the assessee
|
NR
|
Dividend on GDR of Indian companies/PSU (purchased in foreign currency)
|
10%
|
NRI
|
Dividend on shares of Indian companies (purchased in foreign currency)
|
20%
|
NRI
|
Any other dividend income
|
20%
|
FPI
|
Dividend on securities other than 115AB
|
20%
|
Investment Division of the offshore banking unit
|
Dividend on securities other than 115AB
|
10%
|
Tax Collected at Source (TCS) on Dividend Income
Tax Collected at Source (TCS) is a mechanism employed by the Indian government to collect taxes at the source of income generation. Understanding TCS on dividend income is crucial for investors and businesses alike. Noteworthy updates regarding TCS for the fiscal year 2023-24 are:
- In the case of international remittances under the Liberalised Remittance Scheme (LRS), the TCS rate has been raised from 5% to 20%, and there is no minimum threshold for this change.
- This encompasses remittances for medical, education, and other purposes, including investments abroad.
Taxation of Dividends from Domestic Companies
Dividend income received from any Indian company, up to or equal to ₹10 lakhs in a fiscal year, enjoys exemption from income tax in the hands of the shareholder. However, these dividends undergo taxation through the Dividend Distribution Tax (DDT) mechanism. In the case of DDT, the company declaring dividends pays the applicable tax rate to the government before distributing the funds to shareholders.
Nonetheless, according to the provisions of the Finance Act 2016, if the annual dividend payout surpasses ₹10 lakhs, shareholders, including firms, resident individuals, and Hindu Undivided Families (HUF), are subject to a 10% income tax on the incremental amount. Notably, this 10% tax on dividends is levied in addition to the previously charged DDT.
For instance, consider Mr. Sharma, who received ₹15 lakhs in dividend income from various domestic companies after DDT had been paid. Since this amount exceeds the tax-free dividend limit of ₹10 lakhs, he is liable to pay a 10% income tax on the excess amount of ₹5 lakhs. Consequently, he owes ₹50,000 (10% of ₹5 lakhs) as income tax on his dividend earnings for the fiscal year.
Taxation of Dividends from Foreign Companies
Dividend income received from any foreign company is taxable in the hands of the shareholders. Earnings from foreign dividends are subject to income tax based on the applicable slab rate under the category of ‘income from other sources.’ Unlike domestic companies, foreign companies are not obligated to pay DDT to the Indian government when distributing dividends to their shareholders in India.
For instance, if an individual falls within the 20% tax slab (net taxable income over ₹5 lakhs but less than ₹10 lakhs), the received dividend income will also be subject to a tax rate of 20%, along with the applicable cess.
Final Thoughts
Navigating dividend taxation in India requires a keen understanding of the recent changes and prevailing regulations. Investors must stay informed about thresholds, rates, and any amendments to taxation laws. Seeking guidance from financial advisors can prove invaluable in optimizing investment strategies and ensuring compliance with the evolving tax landscape. As dividends remain a crucial component of investment returns, staying in touch with dividend tax is essential for financial success in India.
Key takeaways
- Dividend tax in India pertains to the taxation of income earned by shareholders through dividends distributed by companies.
- The individual’s income slab determines the dividend tax rates, with higher-income individuals generally facing higher taxes.
- Tax Deducted at Source (TDS) is applicable to dividend payments exceeding a specified threshold, with the company deducting tax before distributing dividends.
- Dividend tax can influence investment decisions, as investors may consider post-tax returns when choosing between dividend and growth-oriented stocks.
