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Taxing dividends in hands of investors to benefit those in lower bracket

Feb 1, 2020

• Investors in higher tax bracket left worse off
• Investor in 10% bracket who earlier paid DDT at 29% on debt fund dividends will now only pay 10%

MUMBAI: Companies and mutual funds will no longer have to pay dividend distribution tax on shares and mutual funds. The 2020-21 Union Budget has instead made them taxable in the hands of investors, as per their slab rate. This stands to benefit investors in low tax brackets while those in higher brackets have been left worse off. In addition, TDS will be deducted at 10% for dividends above ₹5,000 in a year. Investors will also be able to claim a deduction for expenses incurred for the realization of the dividend up to 20% of the dividend amount.

At present direct stock investors face a DDT deduction of 20.56%. Equity mutual fund investors pay two layers of DDT. First, dividends paid by companies to the mutual funds are taxed at an effective rate 20.56%. Investors in the growth option of mutual funds pay only this rate. However those who have opted for the dividend option in mutual funds, additionally pay DDT at an effective rate of 11.65 %. This second layer is applicable for dividends paid by equity funds to their investors. In case of debt fund investors, this tax is deducted at 29.12%. These figures include surcharge and cess.

“Since dividends have been axed for both stocks and mutual funds, this will be favourable for investors who are in the lower tax brackets while resulting in additional outgo for higher tax bracket investors,” said Mrin Agarwal, founder Finsafe India Pvt Ltd. “Particularly in debt funds, abolition of dividends will vastly improve returns for investors in the lower tax brackets,” she added. An investor in the 10% tax bracket who earlier paid DDT at 29% on debt fund dividends will now only pay 10%. Capital Gains which are the other way of getting returns in debt funds, are taxed at slab rate for holding periods less than 3 years. This makes a lower DDT highly beneficial to low tax bracket investors.

Roopali Prabu, head of investment products at Sanctum Wealth Management said that since dividends are relatively low compared to stock values, abolition of DDT will not make a huge difference to either stock or equity fund returns. However there could be some benefit on high dividend yield stocks (stocks with high dividends relative to stock prices).

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