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Home / IAS Preparation / Dividend Distribution Tax

Dividend Distribution Tax: Abolition, DDT Rate, Provisions & More Explained!

Last Updated on Nov 24, 2023
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The Tax deducted by the Central Government on the distribution of its dividend by the corporation is called Dividend Distribution Tax (DDT). DDT is also known as a source tax. It was introduced as Section 115-O under Chapter XII-D in the Finance Act 1997 by amending the provisions relating to direct taxes. A dividend is a part of a company’s profits that it distributes to all its shareholders. Simply put, a dividend distribution tax is a tax levied on dividends paid to shareholders from a company's profits. DDT has been discontinued in India since 2020.

It falls under General Studies Paper 3 in the Economics section. Know about Dividend Distribution Tax, Applicability, DDT Rate, Provisions Related to Dividend Distribution Tax, Impact of Abolition of DDT & more for the UPSC Exam.

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What is Dividend Distribution Tax?

Dividend Distribution Tax (DDT) is a tax imposed on companies distributing dividends to their shareholders. It is the responsibility of the company to pay DDT before distributing dividends.

The tax is deducted at the source, meaning the company deducts the tax from the dividends before distributing them. DDT is levied to ensure shareholders pay tax on the dividends received rather than separately tax individual shareholders. The rate of DDT and its applicability may vary depending on the country's tax laws.

Background of Dividend Distribution Tax

In 1997, the Indian government introduced Dividend Distribution Tax (DDT) under Section 115O of the Income Tax Act. DDT is a tax imposed on Indian corporations based on the dividends paid to shareholders. Dividends are payments made by corporations to shareholders from their annual profits. Shareholders' dividends are considered income and should ideally be subject to income tax. Corporations were initially required to pay 15% of the gross dividend within 14 days of its declaration, payment, or distribution.

  • The actual rates increased to 20.5% after adding surcharge and cess.
  • In 2018, the Finance Minister proposed DDT on Equity Mutual Funds, and in 2020, DDT was abolished in the Budget.
  • Under the new provisions, individual investors are now responsible for paying dividend taxes as part of their income.
  • This shift transfers the burden of dividend distribution tax from corporations to individual shareholders.
  • Other taxes, such as Securities Transaction Tax (STT) and Long Term Capital Gains Tax (LTCG), were introduced separately to prevent tax evasion. They are different from DDT and apply to different market instruments.

DDT Rate

  • DDT is used at the rate of 20.5%.
  • The percentage is based on the amount paid.
  • However, the appropriate rate would be 35 percent in the above cases. Following are the instances which are specified below:
    • The company should not be such that the general public has a significant stake. Businesses should only make it.
    • The corporation must pay a shareholder as a loan or advance. Even if the payment does not represent any part of the company’s assets, it may be considered for incorporation.
    • The beneficial owner of the owned shares must be the shareholder.
    • Shareholder’s shares should not be eligible for a fixed rate of dividend.
    • The shareholder must have more than 10% voting power.
    • Payment can be made directly to the shareholder. Alternatively, the company may make the payment in which the shareholder is a member or partner.
    • On the other hand, the company whose membership is deemed an indirect beneficiary of the dividend should have a significant stake in the company.
    •  Must be paid by the corporation for the benefit of the particular shareholder in question.
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Provisions Related to Dividend Distribution Tax
  • According to Section 14A of the Income Tax Act, any expenses related to income not included in the total income cannot be claimed as a deduction.
  • Dividend income is not taxable for shareholders and is not considered part of their total income.
  • Income tax on dividends is levied under Section 56 of the Income Tax Act.
  • Furthermore, Section 57 of the Income Tax Act permits certain deductions when calculating income from other sources.
  • Starting 01-04-2020, companies can no longer pay Dividend Distribution Tax (DDT) on distributed dividends.
  • Key changes to consider:
    • Shareholders are now liable to pay tax on the entire dividend amount.
    • If the dividend exceeds Rs. 5,000, the company deducts tax at 10% under section 194.
    • The exemption under section 10(34) has been withdrawn for Assessment Year (AY) 2021-22.
    • The provisions of section 115BBD are no longer applicable.

Abolition of Dividend Distribution Tax

The Finance Minister has repealed the Dividend Distribution Tax (DDT) under the Finance Act 2020. Indian corporations are no longer required to pay DDT on dividends to shareholders.

Instead, shareholders will be taxed on dividends based on their individual tax brackets. This change aims to reduce the burden on businesses and make India more attractive to international investors.

  • Under the new system, dividends will be taxed at the shareholder's applicable tax rate. For example, a shareholder in the 30% tax bracket will be taxed 30% on the received dividend.
  • Foreign investors in their home countries did not have access to DDT financing, resulting in a decrease in their equity capital's rate of return.DDT is considered a tax barrier that hampers foreign direct investment flow. Removing this tax can significantly boost investments.
  • Hence, eliminating DDT can potentially attract more international investment into the country.
  • In 2018, Akhilesh Ranjan, the chairman of the Direct Taxes Code Panel appointed by the Government of India, was the first advocate for repealing the DDT tax. The panel was responsible for drafting a new direct tax code to replace the existing Income Tax Act.

Benefits of Abolition of the Dividend Distribution Tax or DDT

According to economic experts, the elimination of the Dividend Distribution Tax (DDT) will be beneficial for the country in many ways, including

  • The Indian equity market will be more attractive.
  • Alleviating the plight of a large group of investors.
  • It is seen as a good effort to make India a more attractive investment destination.
  • The idea behind the removal of DDT was to reduce the impact of taxation, with no preferential treatment to any class of investor.

Applicability of Dividend Distribution Tax
  • The Dividend Distribution Tax (DDT) applies to Indian companies.
  • It is a tax levied on the dividends distributed by these companies to their shareholders.
  • The company itself pays the tax before the dividends are distributed.
  • DDT applied to both domestic and foreign companies in India.
  • However, with the Finance Act 2020, DDT has been abolished for Indian companies.
  • Now, shareholders are liable to pay tax on dividends based on their individual income tax rates.
  • This change aims to reduce the burden on companies and promote ease of doing business in India.
  • As per the Income Tax Act, Dividend Distribution Tax (DDT) must be paid within fourteen days from the earliest of the following events:
    • The date of declaration of dividends,
    • The date of distribution of dividends, or
    • The date of payment of dividends.
  • If the dividend is not paid within the due date, an interest of 1% per month (or part thereof) will be charged on the unpaid tax amount.
  • The interest is calculated from the day after the last date the tax was originally due until the actual payment date.

Income Tax Slab

At present, the applicable rate is the same as the normal income of the assessee, the tax rates are indicated in the table below:

Taxable Income in Rupees

Tax Rate

0-2.5 Lakhs

Nill

2.5-5 Lakhs

5 Per-cent

5-7.5 Lakhs

10 Per-cent

7.5-10 Lakhs

15 Per-cent

10-12.5 Lakhs

20 Per-cent

12.5-15 Lakhs

25 Per-cent

Above 15 Lakhs

30 Per-cent

Impact of Abolition of DDT on Companies

  • The abolition of dividend distribution tax by the central government has affected not only domestic companies in India but also foreign companies with Indian subsidiaries.
  • Abolition of DDT will benefit multinational companies (MNCs), foreign investors, and holding companies in a lower income bracket.
  • Now, domestic companies are not required to pay DDT on dividends distributed to shareholders with effect from 01-04-2020.
  • However, domestic companies will be liable to deduct tax under section 194.

Impact of Abolition of DDT on Individuals

  • By eliminating the dividend distribution tax, Now it is directly affecting the pockets of the taxpayers.
  • Debt fund investors who are in a lower tax bracket will benefit from the removal of DDT.
  • However, it will encourage low-income people to invest in the capital market.

Considerations for Dividend Distribution Tax

Here are some considerations for Dividend Distribution Tax in India:

  • Dividend Distribution Tax (DDT) is a tax paid by Indian companies on dividends paid to its shareholders. It is a form of indirect tax.
  • DDT aims to avoid double taxation of profits - once at the corporate level and then again in the hands of shareholders. It helps attract investment and improve India's ranking on ease of doing business.
  • Currently, companies are required to pay DDT of 20.56% on the total amount of dividend paid to shareholders. This raises the tax burden for companies.
  • Some experts argue that the burden of DDT should be lowered to encourage higher levels of dividend payouts and investment. Reducing DDT could boost the stock market.
  • However, lowering DDT may lead to revenue loss for the government. It may also give rise to concerns over double non-taxation if the effective tax rate falls significantly.
  • An alternative view is to credit the DDT paid against the final tax liability of shareholders. This would avoid double taxation while protecting government revenues.
  • Overall, balancing the objectives of encouraging investment, protecting shareholder interests and maintaining tax revenues is important while deciding DDT rates.
  • Consultation with industry and expert stakeholders may help determine the appropriate DDT structure for the long term.

लाभांश वितरण कर (DDT) हिंदी में भी पढ़ें!

Conclusion

Removal of DDT is a welcome and much-awaited step in line with the recommendations of the Direct Taxes Code Panel which will bring in vertical equity among the taxpayers. However, the earlier provisions imposed a flat tax rate on profits distributed across the board, regardless of the marginal rate at which the recipient would have been otherwise taxed. Therefore, these provisions were regressive for corporations which were rectified by amendments to the tax regulations.

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Dividend Distribution Tax FAQs

Yes, Now the burden of dividend distribution taxation has been shifted from corporations to individuals (shareholders) on their dividends and mutual fund income at applicable income-tax slab rates.

If the total annual income of an individual is only up to Rs 2.5 lakhs, or the total annual income including dividend income is less than Rs 2.5 lakhs, one can claim a refund by filing a return of income on tax deducted and TDS levied on dividend income.

DDT is used at the rate of 20.5% of the gross amount paid.

Yes, the Dividend received from the domestic company is taxable in the hands of the shareholders. However, foreign corporations are not liable to pay DDT payments.

At present, domestic corporations will be obliged to pay DDT equal to 15% of the gross dividend amount.
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