0% Tax on Dividends received from Indian Company/ Mutual Fund

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The dividends received from any Indian Company upto Rs. 10 Lakhs are tax free in the hands of the investors under Section 10(34). Moreover, any income received in respect of investment from any Mutual fund is also exempted upto Rs. 10 Lakhs from the levy of tax under Section 10(35).

Thus, as per Sec 10(34) and Sec 10(35), dividends received from any Indian Company or any Mutual Funds are tax free in the hands of all investors upto Rs. 10 Lakhs.

For Dividends received in excess of Rs. 10 Lakhs, Tax @ 10% is applicable with effect from FY 2016-17

tax on dividend

Reason for 0% Tax on Dividends

Earlier, tax on dividends was liable to be paid as per the Income Tax Slab Rates. However, there were very few taxpayers who used to genuinely disclose the dividends received and pay taxes thereon.

Therefore so as to ensure proper collection of taxes on dividends, the govt has changed the manner of charging tax on dividends. They have now made dividends received from any domestic company as tax free in the hands of the investors.

However to compensate the loss that would be arising from making such dividends as tax free, they have enforced an extra tax on the companies at the time of announcing dividends. As per Section 115-O, at the time of payment of dividend, they have to pay a dividend distribution tax from the profits of the company.

Although the Indian Govt has exempted the dividends from the levy of tax in the hands of the taxpayers, they have indirectly collected the tax on dividends from the companies by enforcing Dividend Distribution Tax. This can be explained with the help of an example:-

For example, a company intends to declare a dividend of Rs. 100 to its shareholders and the rate of Dividend Distribution Tax is 15%. Now, the company will first have to pay 15% of Rs. 100 i.e. Rs. 10 as Dividend Distribution Tax to the Govt. As the company has been made to pay Rs. 15 to the govt for declaring the dividend, effectively it is left with only Rs. 85 to pay as dividends to the shareholders.

Thus, with the introduction of the dividend distribution tax, the govt has indirectly collected the tax on dividends directly from the company at the time of declaration of dividends and the investors have been paid dividend from the balance amount after payment of dividend distribution tax.

Dividend Distribution Tax Rates

The Dividend Distribution Tax Rates are as follows

Particulars Rate of Tax
Domestic Companies 15% + 10% Surcharge + 3% Cess = 16.995%
Equity Mutual Funds NIL
Other Mutual Funds 25% + 10% Surcharge + 3% Cess = 28.325%

This Dividend Distribution Tax is only required to be paid by Indian Companies. In case of any foreign company, dividend distribution tax won’t be payable and tax on dividends received would be payable as per the normal Income Tax Slabs.

Dividend Stripping

Whenever the dividend is distributed, the market price of the share reduces by an equal amount.

Some people tried to buy a share before dividend, receive the tax free dividend and then sell the share. As the market price of the share would have fallen, they were able to book a capital loss. There was no loss in actual as they had already received this amount as dividend but on paper – there was a capital loss.

This practice of generating a loss on paper is called Dividend Stripping.

To ensure that people don’t take benefit of Dividend Stripping, the law was amended and now any Capital Loss is now not allowed to be claimed to the extent of Dividend received. The same has been explained with examples in this article – Tax Implications of Dividend Stripping.

Karan is CA by Qualification with the rare distinction of being awarded All India Rank 22. He is also the founder of this website and is an expert in helping people save Taxes legally. He can be reached by booking an appointment for Tax Advisory Service.