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Tata Capital > Blog > Wealth Services > What will be the Impact of Removal of Dividend Distribution Tax?

Wealth Services

What will be the Impact of Removal of Dividend Distribution Tax?

What will be the Impact of Removal of Dividend Distribution Tax?

In February 2020, India’s finance minister Nirmala Sitharaman proposed to scrap the Dividend Distribution Tax (DDT), payable by both Mutual Fund houses and companies. Instead, the tax will be levied at the end of individual taxpayers. The government has introduced TDS of 10% on dividend income, provided the amount is more than Rs. 5,000 in a given Financial Year. The finance minister, in her budget speech, made it clear that the dividend income would be taxable according to the applicable tax slabs of individuals.

The manifold changes, in the offing, after the proposed budget 2020 underlines the importance of wealth management services for selecting the right investment plans, including tax saving mutual fund investments.

  • DDT was introduced in 1997, and Section 115 O of the Income Tax Act provided for its regulation. According to the provisions, an Indian company had to pay 15% of the gross amount of dividend within 14 days of its declaration, payment or distribution. After addition of surcharges and cess, the actual rate increased to 20.5%.
  •  In the case of Mutual Funds, the DDT was applicable at the rate of 25% on debt-linked Mutual Funds. The surcharge and cess further increased it to 29.12%. From 2018 onwards, equity-linked Mutual Funds were taxable at the rate of 10% plus surcharge.
  • As per the earlier rules, individual taxpayers had to pay tax at the rate of  10%, only if the dividend income was more than Rs 10 lakh in a financial year.

The removal of DDT will have a widespread impact on various stakeholders, including domestic companies, MNCs, investors, promoters and foreign investors. Read on to know about the impact:

Divident Distribution Tax removal
  • For both domestic companies and MNCs, this means reduced costs of business. This is because the dividend paying companies had to pay more taxes because of the cascading effect created by double taxation. In addition to the 30% taxation on Profit before Tax (PBT), they had to pay DDT from profits. Further, even after having paid DDT by their Indian subsidiaries, MNCs could not claim foreign tax credit in their home jurisdiction. This resulted in higher costs, often prompting the MNCs to seek various innovative measures for repatriating profits. With the removal of DDT, market experts predict a boost in foreign investments in India.
  • For retail investors in the tax slab bracket of less than 20%, removal of DDT will have a positive effect, as they would end up paying lower taxes. For investors in the 20% bracket, the tax structure will remain unchanged as companies had hitherto paid dividends after deducting 20% as DDT. Instead, these investors have to now pay 20% taxes on the dividend income. For retail investors above the 20% tax slab bracket, however, the impact will be negative, as they now have to pay higher taxes on the dividends received. The impact will be highest for those in the 43% tax slab bracket.
  • Those Mutual Fund investors, who have opted for dividend plans, and in the higher tax bracket, would also have to pay higher taxes. As per market experts, a way out could be opting for growth Mutual Fund investment plans instead of dividend plans. For better cash flows, experts suggest opting for Systematic Withdrawal Plans (SWPs). For Mutual Fund houses, removal of DDT will have a salutary effect, as they would see an increase in dividend yields. This, in turn, would result in Net Asset Value (NAV)-appreciation.
  • Foreign investors living in tax-haven countries would benefit from the removal of DDT, while the impact on foreign investors in countries having Double Tax Avoidance Agreement (DTAA) with India, would be neutral. As for promoters in the high tax bracket, this would again result in higher taxes. High dividend paying companies with a concurrent high promoter stake are expected to set aside profits as retained earnings, instead of paying dividends. This could then be channelised into higher capital expenditure and expansion of business, which would improve businesses and create new employment opportunities. In the long-run, this would have a positive impact on India’s Gross Domestic Product.

Additional Read:- How Can Wealth Management Help You Save on Tax?

Thus, removal of DDT will encourage foreign investments, while simultaneously transforming India into a favoured destination for doing businesses. Countries, including China, Japan and the USA already have a similar tax structure, sans DDT . Amidst the changes in the tax structure, as announced in the budget proposals, selecting the right investment plan now becomes an issue of paramount importance. You can zero in on Tata Capital’s wealth management services, which has a dedicated team of experienced professionals to guide you through the best investment plans.

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