Taxation on dividends: All you need to know

Many individuals earn money from a number of sources besides their job or self-employment. One such common source of income is dividends. Income from dividends is taxable just like most other types of income. The provisions on tax on dividend income went through a major change with the introduction of the Finance Act 2020 that shifted the liability of tax on dividend from dividend declaring company to the individual receiving the dividend. 

What is Dividend Tax in India?

A shareholder is entitled to receive dividends when the company earns profits. A dividend is a type of reward that the company pays to its shareholders. If you are receiving dividends from your investments, the first question that might arise in your mind is ‘are dividends taxable?’. Yes, dividend income is taxable in India and the provisions for taxability of dividend are defined under the Finance Act 2020. The Finance Act 2020 is important to the question ‘is dividend income taxable?’ because it introduced a number of changes in the way the dividend income is taxed. It abolished the dividend distribution tax and transferred the tax liability from the dividend paying company to the investor. 

Dividend Distribution Tax: Old vs New Provisions

There are a number of changes in the taxability of dividend income: - Until March 31, 2020 (FY 2019-20), the dividends received by shareholders from an Indian company were exempted because the dividend paying company used to already pay the dividend distribution tax (DDT) before disbursing payment to the shareholders. - From April 1, 2020 (FY 2019-20), the provisions of taxing dividends got changed. The liability of paying tax on all the dividends received is now in the hands of investors/shareholders. - Companies and mutual funds no longer have to bear the responsibility of DDT. Similarly, the 10% tax on dividend receipts of resident individuals, Hindu Undivided Family (HUF), and firms in excess of Rs 10 lakh (defined under section 115BBDA) also got withdrawn.

TDS on Dividend Income

 Besides changing the taxation method, the Finance Act 2020 also added a few new provisions on the taxability of dividend income. - As per the act, a TDS is imposed on the dividends paid by companies and mutual funds on or after April 1, 2020. - The TDS on dividends of Rs 5,000 or more paid by companies and mutual funds is normally 10%. However, to provide relief to the investors, the TDS rate was reduced to 7.5% for dividend distribution from May 14, 2020, until March 31, 2021. - The dividend tax free limit or the threshold of Rs 5,000 does not apply in case the shareholder is a HUF, firm, company, trust, etc. The TDS will be charged on the entire dividend amount. Additionally, the Rs 5,000 threshold is applicable only if the individual shareholder provides PAN, otherwise, the TDS rate will be 20%. - For resident Indians, the TDS deducted will be available as a credit from the taxpayer’s total tax liability while filing ITR. For example, Mr. Ashok received a dividend of Rs 8,000 from an Indian company on August 20, 2021. The company paying the dividend will deduct a TDS of 7.5% and Mr Ashok will receive Rs 8,000 - TDS (Rs 600) = Rs 7,400. The TDS Rs 600 will be available as credit to Mr Ashok while filing ITR. The received amount of Rs 7,400 will be taxable as per tax slab rates for the financial year. - For non-resident Indians, the TDS rate is 20% and is subject to the Double Taxation Avoidance Agreement (DTAA), if any. The NRI can avail the lower tax deduction benefits owing to any favourable treaty with the country of residence. However, to enjoy so, he/she needs to produce documentary proof such as Form 10F, beneficial ownership declaration, tax residency certificate, etc. Otherwise, a higher TDS would be deducted on the dividend which the shareholder can claim at the time of filing ITR. - There is also a rate of surcharge (applicable as per different slab rates) and health and education cess of 4% applicable on the dividend income received by NRIs.

Shareholders Exempt from TDS -

 No TDS is deducted when the shareholder is any of these following insurance companies: - Life Insurance Corporation of India (LIC) - General Insurance Company of India - Any other insurance company - No deduction of TDS if the individual having annual income below the exemption limit can furnish and file Form 15G/Form 15H to the dividend paying company. - No TDS is required to be deducted on furnishing a lower/NIL TDS certificate. - In case the company is paying dividends to insurance companies or mutual funds. 

Expense Deduction from Dividend Income

 The Finance Act 2020 also laid provisions for the shareholder to claim exemption of expense incurred for obtaining the dividend such as interest on a loan taken to invest in equity shares, collection charges, etc. The conditions to claim exemption are: - A maximum deduction of 20% of the gross dividend income is applicable. - Only expenses incurred against obtaining the dividend are counted for the deduction. Other expenses like salary expenses incurred for earning the dividend income or commission are not applicable for any deduction. This might sound a bit complicated, so let us understand it with our above example only. Mr Ashok borrowed money to invest in shares on which he has to pay Rs 3,000 as interest. He can only claim an interest deduction of up to Rs 1,600 (20% of Rs 8,000). 

Dividend Received From Foreign Company -

 Any dividend received from a foreign company is liable to taxation under the head ‘income from other sources.’ - The total dividend amount received from a foreign company will be counted as a part of the total income of the taxpayer and will be liable to taxation as per the applicable tax slab. - Dividends received from a foreign company are also eligible for the deduction of interest expense at a maximum limit of 20% of the gross dividend income. Proper knowledge of dividend income and tax liabilities that come with it allows you to pay your taxes and claim maximum benefits. It is important to know all the rules related to taxation on dividend income so that you can manage your investment and expenses in a better manner.

Advance Tax on dividend income

When you sell a stock, you will have to pay advance tax on the dividends received from the sale. This additional Tax is levied by the government and consists of a flat rate of 15% or 20% depending on the type of dividend you receive.

Relief from Double Taxation

You will be required to pay Tax on your international income in India if you are an Indian tax resident. However, there is an exemption if an individual resident receives the dividend income in India from a company outside India. In this case, an individual is eligible for relief from double taxation. This means the individual will not be taxed again on their worldwide income in India.

When to Tax Dividend Income

Dividends are payments made to shareholders of a company. They are often paid out as cash but can also be paid in stock. Dividends are taxed at your ordinary income rate, meaning they're taxed at the highest tax bracket rate you pay on your other income.

If you receive dividends from an individual retirement account (IRA), they're not taxed until you withdraw them. If you receive dividends from a Roth IRA, they're never taxed.

Advance Tax and Dividend Income

Tax on dividends is calculated at the time of dividend payment by the company. The tax rate on dividend income depends upon the rate of income tax applicable to the shareholder. If a shareholder is a resident in India, his income from dividends is taxable at the average tax rate applicable to him. If a shareholder is not a resident in India, his dividend income is taxable at 20% without any deductions or exemptions.

A shareholder who has received a dividend under section 115A of the Income Tax Act, 1961 shall be liable to pay advance tax for the assessment year in which such dividend is received. Such advance tax payable by a shareholder includes the amount deducted at source on such dividend as well as any other amount which may be required to be paid by him about such dividend under this Act or any other law for the time being in force.

Double Taxation Relief

Double taxation relief is a tax exemption for dividends paid to companies and individuals. It allows business owners to claim the deduction for the dividend paid as a tax credit.

The tax credit is based on the income tax the company has paid. The amount of double taxation relief depends on whether or not you are eligible for it.

Inter-corporate Dividend

The tax treatment of inter-corporate dividends differs from that of other dividends. It is taxed only at the level of the company paying out the dividend. The recipient does not have to pay any tax on it.

If you receive an inter-corporate dividend from a company where you own 10% or more of the shares, it is taxed at 30%.

Submission of Form 15G/15H

Form 15G/15H is a form that an assessee resident must submit outside India. The assessee who has received a dividend from an Indian company must submit Form 15G/ 15H to the income tax authorities. One should submit the form within 90 days of receiving the dividend.

The assessee can claim exemption from Tax if he is not a resident of India or if he does not have a permanent establishment in India. If the assessee does not meet any of these criteria, he will have to pay Tax on his dividend income.

Tax rates on Dividend Income