The government, on February 2, issued a clarification on the abolishment of the Dividend Distribution Tax (DDT) that was announced on February 1 in the Union Budget speech by Finance Minister Nirmala Sitharaman.
The Centre has explained that “under the corporate system of taxation, a corporate entity is always a separate legal entity and is taxed in respect of its income. In addition, shareholders are taxed on dividend income received by them, which is called the Dividend Distribution Tax (DDT).”
The government has also said that the move would encourage low income earners to invest in the capital market.
"Most countries in the world follow this classical system of taxation. There are only a few countries like Australia which allows credit of tax paid by the company while taxing dividend in the hands of shareholders. All other countries tax dividend in the hands of shareholders either at applicable rate (Canada, Japan, Mexico, New Zealand, United Kingdom) or at flat rate ranging from 10 percent to 30 percent (Argentina, China, Denmark, France, Germany, Italy, Ireland, Indonesia, Philippines, Russia, South Africa)," the note added.
It went on to say that India has always followed classical system of taxation. "However, for ease of collecting taxes and to reduce compliance burden on companies in issuing so many tax deduction certificates, it was decided to follow DDT system of taxation so that the tax is collected at one place."
The government has reasoned that a single rate of taxation is “always iniquitous as it favours taxpayers who are in higher tax brackets and work against those who are in lower tax brackets.”
"Thus, it was a case of reverse subsidy from the poor to rich taxpayers. Further, non-residents were taxed at higher rate than the treaty rate with possibility of no tax credit in the home country," the note read.
The Centre has said that in the previous system, the rate of DDT was at 15 percent, which after grossing up, came to 17.65 percent. “Taking the impact of surcharge at 12 percent and cess at 4 percent, this comes to 20.56 percent. In addition, a resident (other than company) was required to pay tax at 10 percent plus applicable surcharge and cess if the dividend income in a year exceed Rs 10 lakh,” the note added.
The government has said that before the abolishment of the DDT, the rate that was imposed on the distribution of income by debt fund, similar to the DDT, was 25 percent for and individual and a Hindu United Family (HUF), and 30 percent for others. It noted that after grossing up and including surcharge/cess, this comes to 38.33 percent and 49.92 percent, respectively.
“Thus, the new system would encourage debt mutual fund market in India as most of individuals would pay tax at lower rate on income received from debt fund in comparison to what they were paying under the old regime,” the note read.
Also read | Budget 2020: Govt abolishes DDT; experts see more participation from investors
The government further said that the move would encourage low income earners to invest in the 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.
“Similarly, under the new tax regime, persons with total income from Rs 5 lakh to Rs 7.5 lakh would pay tax at 10 percent and persons with total income from Rs 7.5 lakh to Rs 10 lakh would pay tax at 15 percent. All these taxpayers would benefit from abolition of DDT as the tax to be paid by them on their dividend income would be less than what they were earlier paying indirectly through DDT,” read the note.
FM Sitharaman in Budget 2020-21 presented on February 1 had said that "the dividend shall be taxed only in the hands of the recipients at their applicable rate."
Currently, companies are required to pay DDT on the dividend paid to its shareholders at the rate of 15 percent plus applicable surcharge and cess, in addition to the tax payable by the company on its profits.
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