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Provisions of dividend stripping are of no use now after dividend income has become taxable under Income tax

Naman Maloo by Naman Maloo
November 20, 2020
in Income Tax News
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In Finance Act, 2020 DDT was scrapped and with that exemption available on dividend was also removed and thus any dividend declared, distributed or paid after 01.04.2020 would be taxable in the hands of the recipient.

Now let’s understand what is dividend stripping ?:

Dividend can be explained as return on equity to the shareholders. If a company earns good profit it would distribute dividend.

Because of distribution of dividend the value of share would reduce because the accumulated earning of the company would reduce which would in turn reduce the value of the share in the market for a short duration.

This was affecting tax collection because many of the shareholders what they would do is purchase share a few days before dividend is announced and after dividend is announced and received they would sell the share and record loss.

Earlier dividend was exempt in hands of recipient and therefore shareholder would get dividend and sell shares at a loss which would be less than dividend received and therefore they could earn tax free income in a short duration and their liquidity won’t get affected.

This was tracked by Income tax department and hence they introduced a section in Income tax Act u/s 94(7) whereby if a shareholder purchases and sells shares in a specific duration of dividend declaration and claim loss no benefit of such loss shall be allowed.

Section 94(7) is as under:

“Where—

 (a) any person buys or acquires any securities or unit within a period of three months prior to the record date;

 (b) such person sells or transfers—

   (i) such securities within a period of three months after such date; or

  (ii) such unit within a period of nine months after such date;

 (c) the dividend or income on such securities or unit received or receivable by such person is exempt,

then, the loss, if any, arising to him on account of such purchase and sale of securities or unit, to the extent such loss does not exceed the amount of dividend or income received or receivable on such securities or unit, shall be ignored for the purposes of computing his income chargeable to tax.”

Thus, by virtue of the above section, restriction was made on setting of loss from such sale if the loss amount exceeds dividend amount.

Thus, if someone purchases shares or securities before 3 month of record date of dividend in books of accounts and sells shares within 3 months and units of mutual fund within 9 months of record date then in that case loss if any incurred won’t be allowed which exceeds the amount of dividend.

The record date mentioned above is the date which decides who will receive dividend. Shareholder whose name is in share register on the record date will dividend even though he sell the shares on the next day of record.

 

Now the main condition for disallowing loss from such dividend stripping was that dividend received should be exempt.

However now since from 01.04.2020, dividend has been made taxable and hence and loss incurred now cannot be disallowed because of dividend stripping as dividend is now taxable in the hands of recipient.

About the Author:

Naman Maloo (C.A., B.Com.)
He is currently working as Partner – Direct Tax with Jain Shrimal & Co. in Jaipur having experience in dealing Assessments, Tax Audit, Tax planning for NRI, Business planning and consultation.
E-mail: naman.maloo@jainshrimal.in

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