Tax treatment of dividend received from company

B (Above). Taxability in case of non-resident shareholders including FPIs

A non-resident generally invests in India either directly as private equity investors or as Foreign Portfolio Investors (FPIs). A non-resident person can also be a promoter of an Indian Company. A non-resident person generally holds shares of an Indian company as an Investment and, therefore, any income derived by way of dividend is taxable under the head other sources except where such income is attributable to Permanent Establishment of such non-resident in India.

As regards FPIs, securities held by them are always treated as a capital asset and not as stock-in-trade. Thus, in case of FPIs also, the dividend income shall always be taxable under the head other sources.

Tax rate on dividend income

• The dividend income, in the hands of a non-resident person (including FPIs and non-resident Indian citizens (NRIs)), is taxable at the rate of 20% without providing for deduction under any provisions of the Income-tax Act.
• However, dividend income of an investment division of an offshore banking unit shall be taxable at the rate of 10%.
• Further, where the dividend is received in respect of GDRs of an Indian Company or Public Sector Company (PSU) purchased in foreign currency, the tax shall be charged at the rate of 10% without providing for any deductions. *

*The relevant sections under which tax is charged are as under:

Withholding tax

Where the dividend is distributed to a non-resident shareholder, the tax shall be required to be deducted as per section 195 of the Income-tax Act. However, where the dividend is distributed or paid in respect of GDRs of an Indian Company or Public Sector Company (PSU) purchased in foreign currency or to Foreign Portfolio Investors (FPIs), the tax shall be required to deducted as per section 196C and section 196D, respectively.

As per section 195, the withholding tax rate on dividend shall be as specified in the Finance Act of the relevant year or under DTAA, whichever is applicable in case of an assessee. Whereas, the withholding tax rate under section 196C and 196D is 10% and 20%, respectively.

The withholding tax rate on dividend distributed or paid to a non-resident shareholder can be explained with the help of following table:

*If the withholding tax rate as per DTAA is lower than the rate prescribed under the Finance Act then tax shall be deducted at the rate prescribed under DTAA.

Taxability under DTAA

• Dividend income is generally chargeable to tax in the source country as well as the country of residence of the assesse and consequently, country of residence provides a credit of taxes paid by the assesse in the source country. Thus, the dividend income shall be taxable in India as per provisions of the Act or as per relevant DTAA, whichever is more beneficial.

• As per most of the DTAAs, India has entered into with foreign countries, the dividend is taxable in the source country in the hands of the beneficial owner of shares at the rate ranging from 5% to 15% of the gross amount of the dividends.

• In DTAA with countries like Canada, Denmark, Singapore, the dividend tax rate is further reduced where the dividend is payable to a company which holds specific percentage (generally 25%) of shares of the company paying the dividend. However, no minimum time limit has been prescribed in these DTAAs for which such shareholding should be maintained by the recipient company. Therefore, MNCs were often found misusing the provisions by increasing their shareholding in the company declaring immediately before declaration of the dividend and offloading the same after getting the dividend. India does not face this situation as dividend income is exempt from tax in the hands of the shareholders. However, after the proposed amendment, India too will face the risk of tax avoidance by the foreign company by artificially increasing the holding in the dividend declarant domestic company.

• India is a signatory to the Multilateral Convention (MLI) which shall implement the measures recommended by the OECD to prevent Base Erosion and Profit Shifting. MLI is a binding international legal instrument which is envisaged with a view to swiftly implement the measures recommended by OECD to prevent Base Erosion and Profit Shifting in existing bilateral tax treaties in force. With respect to dividend income, Article 8 (Dividend Transfer Transactions) of MLI provides for a minimum period of 365 days for which a shareholder, receiving dividend income, has to maintain its shareholding in the company paying the dividend to get the benefit of the reduced tax rate on the dividend.

Inter-corporate dividend

As the taxability of dividend is proposed to be shifted from companies to shareholders, the Government has introduced a new section 80M under the Act to remove the cascading effect where a domestic company receives a dividend from another domestic company. However, nothing has been prescribed where a domestic company receives dividend from a foreign company and further distribute the same to its shareholders. The taxability in such cases shall be as under:

Domestic co. receives dividend from a foreign co

Dividend received by a domestic company from a foreign company, in which such domestic company has 26% or more equity shareholding, is taxable at a rate of 15% plus Surcharge and Health and Education Cess under Section 115BBD. Such tax shall be computed on a gross basis without allowing deduction for any expenditure.

Dividend received by a domestic company from a foreign company, in which equity shareholding of such domestic company is less than 26%, is taxable at normal tax rate. The domestic company can claim deduction for any expense incurred by it for the purposes of earning such dividend income.

No MAT on dividend income of a foreign company

Provisions relating to MAT apply to a foreign company only when it is a resident of a country with which India has DTAA and it carries on business through a PE situated in India. However, it should not be taxable under the presumptive taxation schemes of Section 44B, Section 44BB, Section 44BBA or Section 44BBB. Once it is determined that the foreign company is liable to pay MAT, certain adjustments are made from its profits.

However, the following incomes (and expenses claimed in respect thereof) are added back to (or reduced from) the net profit if same is credited (or debited) in the profit and loss account, if such income is taxable at a rate lower than the rate of MAT:

Capital gain from securities; (b) Interest; (c) Royalty;(d) FTS.

Thus, a foreign company is not liable to pay MAT on the aforesaid incomes.

Considering the taxability of dividend in the hands of the foreign company, the Finance Bill, 2021 has amended section 115JB to provide that dividend income and expenses claimed in respect thereof to be added back or reduced from the net profit if such income is taxed at lower than MAT rate due to DTAA.

It should be noted that the dividend income shall be taxable in the hands of a foreign company in accordance with the provisions of the Act or relevant DTAA, whichever is more beneficial. Advance tax liability on dividend income If the shortfall in the advance tax instalment or the failure to pay the same on time is on account of dividend income, no interest under section 234C shall be charged provided the assessee has paid full tax in subsequent advance tax instalments. However, this benefit shall not be available in respect of the deemed dividend as referred to in Section 2(22) (e).

MCQ ON TAX TREATMENT OF DIVIDEND RECEIVED FROM COMPANY

5 (a) Any distribution if such distribution entails the release of all or any part of the assets of the company to the extent of accumulated profits of the company (b) Any distribution made on liquidation of accompany to the extent of accumulated profits of the company (c) Any distribution on the reduction of capital of a company to the extent of accumulated profits of the company (d) Any payment made by a company on purchase of its own shares from a shareholder in accordance with the provisions of section 77A of the Companies Act, 1956

Conclusion

I wrote another article on the same subject that appeared on CAclubindia site on 28^th December 2020. To quote the conclusion portion of that article it runs as follows.

'Though dividend taxable in the hands of the shareholders is a welcome feature, in 'the concept of capacity to pay', it would have been ideal to extend the tax exemption for dividend in the hands of the receiver for a specified amount at least for senior citizens above 80 years - say, a lakh or around and beyond that will be taxed at the applicable rate to the individuals".

I am prompted to write this article in more columnar format for easy reference and understanding.