Dividend Under Dividend: A Comprehensive Guide to Indian Income Tax Implications

Understanding the tax implications of receiving dividends, especially "dividend under dividend," can be complex. This article aims to provide a clear and comprehensive guide to navigating this area of Indian income tax law. We will explore the definition, taxability, and relevant sections of the Income Tax Act, 1961, applicable to dividends received from dividends.

What is a "Dividend Under Dividend"?

A "dividend under dividend" refers to a dividend received by a company (let's call it Company A) that was itself derived from another company's (Company B) profits. This happens when Company A holds shares in Company B, and Company B declares and pays a dividend. Company A then receives this dividend and, subsequently, distributes a portion or all of it as a dividend to its own shareholders. Essentially, the dividend received by Company A is further distributed, creating a "dividend under dividend" scenario.

This situation differs from a company simply distributing its own profits as dividends. In a "dividend under dividend" scenario, the tax implications are layered, involving the taxation at both Company A and Company B's level, as well as the ultimate shareholders of Company A.

Taxability of Dividends under the Income Tax Act, 1961

The Income Tax Act, 1961, governs the taxation of dividends in India. The relevant sections are crucial for understanding the tax implications of a "dividend under dividend" situation.

Section 115BBDA: This section deals with the taxability of dividends received by a domestic company. Importantly, it specifies that dividends received by a domestic company are generally exempt from tax. This exemption, however, has certain conditions. The dividend must be received from a domestic company. Moreover, this exemption is applicable only to the extent that such dividend is not from a company which is a specified company. The relevant definition of specified company is laid down in the Act.

Section 115-O: This section specifies the tax rate applicable to the dividend distributed by domestic company to its shareholders which includes the company itself. The tax is levied at the hands of the company and is thus known as dividend distribution tax or DDT. However, it is relevant to understand that with the amendment in Finance Act, 2020, DDT is no longer applicable.

Taxation at the hands of the recipient of dividend: Section 115BBDA only provides exemption to the recipient company from paying tax on the dividend income. Taxability for the shareholders receiving dividends from the recipient company (Company A) will still apply. This means that when Company A distributes its dividend (which includes the dividend it received from Company B), the shareholders of Company A will have to include it in their income and pay tax as per their respective income tax slabs.

TDS on Dividend Distribution: Tax Deducted at Source (TDS) provisions apply to dividend payments. The company distributing the dividend is required to deduct TDS at the prescribed rate before making the payment to the shareholder. This TDS is then deposited with the government. The shareholder can claim credit for this TDS while filing their income tax return.

Specific Implications of "Dividend Under Dividend"

The "dividend under dividend" situation introduces a layered approach to taxation. It's essential to understand the following:

• Company B's Taxation: Company B pays tax on its profits before distributing dividends to Company A.
• Company A's Taxation: While Company A generally enjoys exemption from tax under Section 115BBDA on the dividend received from Company B (subject to conditions mentioned earlier), this dividend forms part of Company A’s income and thus becomes part of their profit before paying any dividend to its shareholders.
• Company A's Shareholder's Taxation: The shareholders of Company A will be taxed on the dividends received from Company A, including the portion that originated as a dividend from Company B. The tax liability will depend on the individual shareholder's income tax slab.

Inter-Corporate Dividend and its tax implications

Inter-corporate dividends are subject to certain specific considerations, which can have significant implications in cases involving "dividend under dividend." One key aspect is the treatment of dividends received from a company that is not considered a "domestic company".

This can impact the exemption available under Section 115BBDA, which could reduce or even eliminate the tax benefits enjoyed by the recipient company.

Furthermore, the tax treaties between India and other countries need to be considered if the dividend originates from a foreign company or is paid by an Indian company to a foreign shareholder. These treaties often include provisions for withholding taxes, which significantly impact tax calculation and optimization strategies.

Documentation and Compliance

Maintaining accurate records of all dividend receipts and distributions is crucial for complying with tax regulations. This includes:

• Dividend statements: These statements should detail the source of the dividend and the amount received.
• Tax deducted at source (TDS) certificates: These certificates verify the amount of tax deducted at the source.
• Financial statements: Detailed financial statements showing the income and expenditure of the companies involved are necessary for accurate tax computation.

Failing to maintain proper documentation can lead to penalties and legal complications.

Seeking Professional Advice

Navigating the complexities of "dividend under dividend" taxation requires careful consideration of numerous factors. The information provided here is for general understanding and shouldn't be considered a substitute for professional tax advice. It's recommended to consult with a qualified chartered accountant or tax advisor to analyze the specific circumstances and ensure compliance with the Income Tax Act, 1961. They can help determine the most tax-efficient strategies for your specific situation.

Conclusion

Understanding the tax implications of "dividend under dividend" is crucial for both companies and shareholders. The interplay between Sections 115BBDA, 115-O and other relevant sections of the Income Tax Act, 1961, dictates the tax liability at each stage. While certain exemptions exist for domestic companies receiving dividends, careful planning and proper documentation are vital to ensure compliance and optimize tax efficiency. Seeking professional advice is highly recommended to navigate the complexities of this area of tax law and avoid potential penalties. The ever-evolving tax landscape necessitates regular review and updates to ensure compliance with the latest regulations.