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Return of capital v/s dividends : tax impact

Jatin (Retired) (43 Points)

18 September 2011

My query is regarding the tax impact that should beconsidered for receipt of "Return of Capital" vis a vis Dividends.

I.e. in case a company instead of distributing dividends from its current year profits, decides to instead distribute to its shareholders out of its reserves, a Return of Capital, should it withold TDS or not - as its not a dividend being distributed.

In countries like Switzerland, USA etc. such distribution is exempt from income tax in the hands of the shaareholders - appreciate a revert on its impact in India.

Many thanks, Jatin

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4 Replies

CA RICHA BADALIA (CA,CS) (1682 Points)
Replied 18 September 2011

Whether it is distributed from current years profit or from reserves it will be considered as Dividend only.It is exempt in the hand of shareholders and the company is required to pay Dividend Distribution Tax.

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Jatin (Retired) (43 Points)
Replied 18 September 2011

thanks - however, the way this is treated in the us/switzerland as being tax exempt, even for the co is that its considered as per the following:

What Does Return Of Capital Mean?
A return from an investment that is not considered income. The return of capital is when some or all of the money an investor has in an investment is paid back to him or her, thus decreasing the value of the investment.

Investopedia explains Return Of Capital
This is not considered an investment gain of any type because it is not in excess of the original investment. Investors are not taxed on this return until it begins to exceed their original investment value.

So in effect, the share capital is reduced by the sums and not the reserves (which maybe accumulated profits). Is there a similar no tax impact in India, when a company returns its capital to its shareholders.

* Krishna * (CA Student) (6149 Points)
Replied 19 September 2011

As per Sec.115O of IT Act, Domestic Company has to pay tax on distributed profits, if dividend is paid either out of current or accumulated profits, @ 15%, within 14days from the date of declaration/distribution/payment whichever is earlier. DDT is to be paid even if company has no taxable income.

However, undertakings in SEZ are not required to pay any DDT even if they have declared, distributed or paid the dividends on or after 1-4-2005. It is not even taxable in the hands of shareholders.

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Jatin (Retired) (43 Points)
Replied 19 September 2011

thanks - however, seeking clarity on when co distributes part of its capital and not profits/accumulated profits/reserves.

any thoughts on taxation impact for the same - views in switzerland/usa are that since co is returning part of its capital which belongs to shareholders, the same is a tax free distribution for both the co as well as the shareholder.