A Write Up Taxation

8/2/2019 A Write Up Taxation

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A write up on Taxation and dividend decisions. Taxation and

dividend policies.

Tax considerations in dividend policy and bonus issue.

In

MANAGEMENT OF BUSINESS TAX

Submitted to: Submitted by: Dr. Madan Lal Sumit Choudhari (R.N. 15)

FMS, BHU &

Sushil Mohan (R.N. 16)

MBA ( Finance)


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TAX ON DIVIDENDS, ROYALTY AND TECHNICAL SERVICE FEES IN THECASE OF FOREIGN COMPANIES. 115A. (1) Where the total income of

(a ) a non-resident (not being a company) or of a foreign company, includes any incomeby way of (i) dividends [other than dividends referred to in section 115-O] ; or

(ii) interest received from Government or an Indian concern on monies borrowed ordebt incurred by Government or the Indian concern in foreign currency ; or

(iii) income received in respect of units, purchased in foreign currency, of a MutualFund specified under clause ( 23D ) of section 10 or of the Unit Trust of India,

the income-tax payable shall be aggregate of ( A) the amount of income-tax calculated on the amount of income by way of dividends [other than dividends referred to in section 115-O] , if any, included inthe total income, at the rate of twenty per cent ;

( B) the amount of income-tax calculated on the amount of income by way of interest referred to in sub-clause ( ii), if any, included in the total income, at therate of twenty per cent ;

(C ) the amount of income-tax calculated on the income in respect of units referredto in sub-clause ( iii), if any, included in the total income, at the rate of twentyper cent ; and

( D ) the amount of income-tax with which he or it would have been chargeable hadhis or its total income been reduced by the amount of income referred to in sub-clause ( i), sub-clause ( ii) and sub-clause ( iii) ;

(b) [a non-resident (not being a company) or a foreign company, includes any incomeby way of royalty or fees for technical services other than income referred to insub-section (1) of section 44DA] received from Government or an Indian concernin pursuance of an agreement made by the foreign company with Government orthe Indian concern after the 31st day of March, 1976, and where such agreement iswith an Indian concern, the agreement is approved by the Central Government orwhere it relates to a matter included in the industrial policy, for the time being inforce, of the Government of India, the agreement is in accordance with that policy,

then, subject to the provisions of sub-sections (1A) and (2), the income-tax payableshall be the aggregate of,

( A) the amount of income-tax calculated on the income by way of royalty, if any,included in the total income, at the rate of thirty per cent if such royalty isreceived in pursuance of an agreement made on or before the 31st day of May,1997 and twenty per cent where such royalty is received in pursuance of anagreement made after the 31st day of May, 1997 [but before the 1st day of June,2005;

( AA) the amount of income-tax calculated on the income by way of royalty, if any,included in the total income, at the rate of ten per cent if such royalty isreceived in pursuance of an agreement made on or after the 1st day of June,2005;
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( B) the amount of income-tax calculated on the income by way of fees for technicalservices, if any, included in the total income, at the rate of thirty per cent if suchfees for technical services are received in pursuance of an agreement made onor before the 31st day of May, 1997 and twenty per cent where such fees fortechnical services are received in pursuance of an agreement made after the 31stday of May, 1997[but before the 1st day of June, 2005] ; and

( BB) the amount of income-tax calculated on the income by way of fees for technicalservices, if any, included in the total income, at the rate of ten per cent if suchfees for technical services are received in pursuance of an agreement made onor after the 1st day of June, 2005; and]

(C ) the amount of income-tax with which it would have been chargeable had itstotal income been reduced by the amount of income by way of royalty and feesfor technical services.

Explanation. For the purposes of this section, (a ) fees for technical services s hall have the same meaning as in Explanation 2 to

clause ( vii) of sub-section (1) of section 9 ;(b) foreign currency shall have the same meaning as in the Explanation below item

(g) of sub-clause ( iv) of clause ( 15 ) of section 10 ;(c) royalty shall have the same meaning as in Explanation 2 to clause ( vi) of sub-

section (1) of section 9 ;(d ) Unit Trust of India means the Unit Trust of India established under the Unit Trust

of India Act, 1963 (52 of 1963).](1A) Where the royalty referred to in clause ( b) of sub-section (1) is in consideration for thetransfer of all or any rights (including the granting of a licence) in respect of copyright in anybook to an Indian concern [or in respect of any computer software to a person resident inIndia], the provisions of sub-section (1) shall apply in relation to such royalty as if the words[the agreement is approved by the Central Government or where it relates to a matter]included in the industrial policy, for the time being in force, of the Government of India, theagreement is in accordance with that policy] occurring in the said clause had been omitted :Provided that such book is on a subject, the books on which are permitted, according to theImport Trade Control Policy of the Government of India for the period commencing from the1st day of April, 1977, and ending with the 31st day of March, 1978, to be imported into

India under an Open General Licence :[Provided further that such computer software is permitted according to the Import TradeControl Policy of the Government of India for the time being in force to be imported intoIndia under an Open General Licence.][ Explanation 1 ]. In this sub- section, Open General Licence means an Open GeneralLicence issued by the Central Government in pursuance of the Imports (Control) Order,1955.][ Explanation 2 . In this sub- section, the expression computer software sh all have themeaning assigned to it in clause ( b) of the Explanation to section 80HHE. ](2) Nothing contained in sub-section (1) shall apply in relation to any income by way of royalty received by a foreign company from an Indian concern in pursuance of an agreementmade by it with the Indian concern after the 31st day of March, 1976, if such agreement is
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deemed, for the [purposes of the first proviso] to clause ( vi) of sub-section (1) of section 9, tohave been made before the 1st day of April, 1976; and the provisions of the annual FinanceAct for calculating, charging, deducting or computing income-tax shall apply in relation tosuch income as if such income had been received in pursuance of an agreement made beforethe 1st day of April, 1976.]

[(3) No deduction in respect of any expenditure or allowance shall be allowed to the assesseeunder sections 28 to 44C and section 57 in computing his or its income referred to in sub-section (1).(4) Where in the case of an assessee referred to in sub-section (1),

(a ) the gross total income consists only of the income referred to in clause ( a ) of thatsub-section, no deduction shall be allowed to him or it under Chapter VI-A;

(b) the gross total income includes any income referred to in clause ( a ) of that sub-section, the gross total income shall be reduced by the amount of such income andthe deduction under Chapter VI-A shall be allowed as if the gross total income asso reduced were the gross total income of the assessee.

(5) It shall not be necessary for an assessee referred to in sub-section (1) to furnish under sub-section (1) of section 139 a return of his or its income if

(a ) his or its total income in respect of which he or it is assessable under this Actduring the previous year consisted only of income referred to in clause ( a ) of sub-section (1); and

(b) the tax deductible at source under the provisions of Chapter XVII-B has beendeducted from such income.]

SPECIAL PROVISIONS RELATING TO TAX ON DISTRIBUTED PROFITS OFDOMESTIC COMPANIES

TAX ON DISTRIBUTED PROFITS OF DOMESTIC COMPANIES.

115-O. (1) Notwithstanding anything contained in any other provision of this Act and subjectto the provisions of this section, in addition to the income-tax chargeable in respect of thetotal income of a domestic company for any assessment year, any amount declared,distributed or paid by such company by way of dividends (whether interim or otherwise) onor after the 1st day of April, 2003, whether out of current or accumulated profits shall becharged to additional income-tax (hereafter referred to as tax on distributed profits) at the rateof [fifteen] per cent.](1A) The amount referred to in sub-section (1) shall be reduced by,

(i) the amount of dividend, if any, received by the domestic company during the financial year, if (a) such dividend is received from its subsidiary;(b) the subsidiary has paid tax under this section on such dividend; and (c) the domestic company is not a subsidiary of any other company :
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Provided that the same amount of dividend shall not be taken into account for reductionmore than once;

(ii) the amount of dividend, if any, paid to any person for, or on behalf of, the NewPension System Trust referred to in clause ( 44 ) of section 10. Explanation. For the purposes of this sub-section, a company shall be a subsidiary of another company, if such other company, holds more than half in nominal value of the equityshare capital of the company .] (2) Notwithstanding that no income-tax is payable by a domestic company on its total incomecomputed in accordance with the provisions of this Act, the tax on distributed profits undersub-section (1) shall be payable by such company.(3) The principal officer of the domestic company and the company shall be liable to pay thetax on distributed profits to the credit of the Central Government within fourteen days fromthe date of

(a ) declaration of any dividend; or(b) distribution of any dividend; or(c) payment of any dividend,

whichever is earliest.(4) The tax on distributed profits so paid by the company shall be treated as the final paymentof tax in respect of the amount declared, distributed or paid as dividends and no further credittherefor shall be claimed by the company or by any other person in respect of the amount of tax so paid.(5) No deduction under any other provision of this Act shall be allowed to the company or a

shareholder in respect of the amount which has been charged to tax under sub-section (1) orthe tax thereon.[(6) Notwithstanding anything contained in this section, no tax on distributed profits shall bechargeable in respect of the total income of an undertaking or enterprise engaged indeveloping or developing and operating or developing, operating and maintaining a SpecialEconomic Zone for any assessment year on any amount declared, distributed or paid by suchDeveloper or enterprise, by way of dividends (whether interim or otherwise) on or after the1st day of April, 2005 out of its current income either in the hands of the Developer orenterprise or the person receiving such dividend
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DEDUCTION ON DIVIDEND ( SECTION 194)

The principal officer of an Indian company or a company which has made the prescribedarrangements for the declaration and payment of dividends (including dividends onpreference shares) within India, shall, before making any payment in cash or before issuingany cheque or warrant in respect of any dividend or before making any distribution orpayment to a shareholder, [who is resident in India,] of any dividend within the meaning of sub-clause ( a ) or sub-clause ( b) or sub-clause ( c) or sub-clause ( d ) or sub-clause ( e) of clause(22 ) of section 2, deduct from the amount of such dividend, income-tax at the rates in force :

[Provided that no such deduction shall be made in the case of a shareholder, being anindividual, if

(a ) the dividend is paid by the company by an account payee cheque; and

(b) the amount of such dividend or, as the case may be, the aggregate of the amounts of such dividend distributed or paid or likely to be distributed or paid during thefinancial year by the company to the shareholder, does not exceed [two thousandfive hundred] rupees:

Provided further that the provisions of this section shall not apply to such income creditedor paid to

(a ) the Life Insurance Corporation of India established under the Life InsuranceCorporation Act, 1956 (31 of 1956), in respect of any shares owned by it or inwhich it has full beneficial interest;

(b) the General Insurance Corporation of India (hereafter in this proviso referred to asthe Corporation) or to any of the four companies (hereafter in this proviso referredto as such company), formed by virtue of the schemes framed under sub-section (1)of section 16 of the General Insurance Business (Nationalisation) Act, 1972 (57 of 1972), in respect of any shares owned by the Corporation or such company or inwhich the Corporation or such company has full beneficial interest;

(c) any other insurer in respect of any shares owned by it or in which it has fullbeneficial interest :]

[Provided also that no such deduction shall be made in respect of any dividends referred toin section 115-O. ]
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TAX CONSIDERATIONS IN BONUS ISSUE For some years now, the issue of bonus equity shares has been a common phenomenon on theIndian bourses. However, one reads about other types of bonuses being issued by companiesto shareholders. While some issue bonus dividends, while others proposes to issue bonuspreference shares. The big question: what will be the tax treatment of the different types of bonuses, and which is more beneficial?

To get a grip on the tax treatment, one needs to understand two provisions in the tax laws: thedefinition of dividend, and the manner of computing capital gains in respect of bonus issue of securities.

DEFINITION OF DIVIDENDS: Under the tax laws, if a company distributes itsaccumulated profits through the release of any of its assets to shareholders, the distributionwill be regarded as a dividend. The definition also includes the distribution of debentures ordeposits by a company, irrespective of whether the debentures or deposits are interest-bearingor not. Further, any issue of bonus shares to preference shareholders (equity shares are notincluded) is also deemed to be a dividend. Computation of capital gains: In the case of bonusshares and securities, if a person, by virtue of his holding a share or any other security, isallotted additional shares and securities without having to make any payment, then for thepurpose of computing capital gains, the cost of the new shares and securities is to be taken asnil. The cost of the original share or security remains unchanged. For example, if a companyissues bonus equity shares, there is no tax implication in the hands of the shareholders in theyear of issue of the bonus shares. But when the bonus shares are finally sold, the entire saleproceeds are taxable as capital gains. This is because the cost of the acquisition of such sharesis regarded as nil.

BONUS DIVIDENDS: This is a one-time dividend given on a particular occasion throughthe issue of dividend warrants (cheques). The company pays this out of its post-tax profits,and, therefore, does not get any deduction from its taxable income.

BONUS DEBENTURES: Since bonus debentures are covered by the definition of dividendsdue to their specific inclusion, shareholders will have to pay tax on the capital value of thedebentures they get. Further, since bonus debentures are issued out of the post-tax profitaccumulated by the company, the company does not get any deduction for the value of thedebentures that have been issued. In subsequent years, when the debentures are either sold orredeemed, the sale price or the redemption amount received by the debenture holder will notbe taxable to the extent of the capital value of the debentures already taxed as dividend in the

year of the issue of the bonus debentures.

A view is however possible that, the issue of bonus debentures is also covered by theprovisions relating to taxation of capital gains on the sale of bonus issues, since it involvesthe allotment of a security (debenture) without any payment. Since it is covered under twodifferent provisions of law, the provision that is more specific to the case will be applicable.Again, since the definition of dividends has a specific reference to the distribution of debentures to shareholders, the more acceptable view is that the issue of bonus debenturesshould be regarded as dividends, rather than be covered by the provisions relating to capitalgains from bonus issues.In subsequent years, when the company pays interest on thedebentures, the company is allowed a deduction for this while computing its taxable income;the interest is taxable as the income of the debenture holders who receive it. Therefore, where


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bonus issues of debentures are concerned, they are not tax-efficient at the time of issue, butare subsequently tax-efficient over the life of the debentures.

Bonus issues of preference shares: The issue of such a bonus to equity shareholders does notinvolve any distribution of assets by the company to shareholders, nor is it otherwise

specifically included in the definition of dividends. Such bonus issues will, therefore, begoverned by the provisions relating to capital gains from bonus issues, and will not be taxedas dividends. Therefore, at the time of the issue of bonus preference shares, neither is theshareholder taxed, nor does the company get a deduction from its taxable income for thevalue of the bonus preference shares. When the bonus preference shares are finally sold bythe shareholder or redeemed, the cost of the preference shares is to be taken as nil, and theentire sale/redemption proceeds taxable as capital gains in the shareholders hands.

In subsequent years, however, preference dividends declared by the company are taxable asdividend income in the shareholders hands; on the companys part, the dividend has to bedistributed out of its post-tax profits, for which it does not get any deduction from its taxableincome. Therefore, thi s is tantamount to double taxation of the companys profits insubsequent years, since the company pays tax on its profits, while the shareholder pays tax onthe distributed profits received as preference dividends. Bonus issues of preference sharesare, therefore, tax-efficient in the year of allotment, but not so over the subsequent life of thepreference shares.

Therefore, in the current scenario, bonus preference shares are more beneficial from ashareholders tax perspective when compared with bonus de bentures. However, when wecompare the situation over the subsequent life of the preference shares or debentures,debentures prove to be more tax-friendly.


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REFERENCES1. Direct taxes Law & Practices, By Dr. Girish Ahuja , AY 2009-10.2. Incometaxindia.gov.in

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A Write Up Taxation