Dividend Tax Scrappage to Heavily Benefit Foreign MNC Parent Companies – An In-depth Income Tax Law Analysis on Changes by Budget 2020

Applicable Income Tax Provisions :- Section 10(34), Section 115O, Section 115A, Section 115BBDA, Section 90/90A, DTAA’s and Article 10 of most tax treaties

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  • Dividend distribution tax (hereinafter referred to as ‘DDT’) was always considered a bottleneck for all Foreign Direct Investors in India as it was clearly a case of Double Taxation where the already taxed profits were made subject to another tax in the name of DDT under Section 115O of Income Tax Act, 1961. Not only this but the fact that claiming this DDT’s benefit under Double tax avoidance agreement (hereinafter referred to as ‘DTAA’ or ‘Tax Treaty’) was in itself a massive challenge for the foreign investors in their Home countries.
  • Now this article aims to understand the financial and commercial impact on removal on DDT by government in this budget 2020 vide amending and adding a sunset time of 31.3.2020 in the Section 115-O of Income Tax, 1961. So hereonwards, the dividend so received will be taxed in the hands of the recipients. It is a win for some and lose for another case ! .. How ?, because the earlier effective tax rate of DDT was around 17.5% but now when the super rich will receive such dividend, it will be taxed in their upper slab which is currently taxable around 42.75% and hence the tax cost will increase drastically for domestic super rich.
  • At the same time for foreign MNC’s this DDT scrapping is a great news in most cases due to the tax treaties effective which reduces the dividend tax rate drastically subject to conditions off course. Let’s discuss the provisions of the Act to understand the situation better.

Law Prior to 1st April, 2020

  • Earlier Section 10(34) exempted the dividend income where the DDT was paid under Section 115O.
  • As per Section 10(34), any income by way of dividends referred to in section 115-O was exempted subject to conditions prescribed in Section 115BBDA.
  • Section 115BBDA restricted the exemption to 10 Lacs and beyond 10 Lacs it was still chargeable to tax. It is noteworthy that this provision of Section 115BBDA was only applicable to Resident of India.
  • For non residents and foreign companies, there are specific provisions to tax dividend received under Section 115A which prescribes a rate of 20%. Importantly this was applicable to only cases of dividend on which DDT was not payable under Section 115O.

Amendments and Position after 1st April, 2020

  • Section 115O has been amended to close the applicability on the section on to Dividends declared, distributed or paid upto 31.3.2020. So note that where the dividend is declared before 31st March, 2020 but paid after 1st April, 2020, still the dividend distribution tax shall apply as per Old Regime only.
  • Now, for the foreign Parent companies, Clearly the applicable governing section for such dividends shall be Section 115A as the words ‘other than dividends referred to Under Section 115O’ has been deleted. Hence now any and all dividend paid to foreign MNC by Indian Domestic subsidiary company shall be governed by Section 115A.
  • The rate prescribed under Section 115(1)(A) is 20%. Further, it gives relief to file Income Tax return also to such parent company if there is only dividend income of such parent company and the domestic subsidiary company has duly deducted the TDS a the applicable tds rates. {Section 115A(5)}
  • Now, the tax rates in the treaties also become relevant as any beneficial rate to 20% rate of Section 115A shall become applicable to tax such dividend. Here it is noteworthy that most treaties do not allow the beneficial rates in case of permanent establishment and hence we are currently assuming the PE is not applicable.
  • Article 10 prescribes the tax rates. In most cases these are significantly lower than current 15% under DDT or 20% of Section 115A. For Instance it is as low as 5% for Netherlands or Mauritius. For jurisdictions like Singapore, United Kingdom or United States of America the rates could vary from 10% – 15%.   
  • Remember DTAA benefit shall be allowed only where the Tax residency certificate is duly obtained by the MNC as per Section 90(4) r.w Rule 21AB of ITR Rules, 1962.
  • At the time of remittance, the tax so applicable shall be deducted in form of TDS u/s 195 and due compliance of Chapter XVII-A shall be ensured. Better to file Form 15CA/CB as well.

Conclusion: – For Foreign MNC Parent companies, there is no doubt that it is a matter of big relief with more affordable repatriation of profits. Welcome step by government which is surely going to attract better and bigger FDI’s to Indian markets.  Thanks for reading !  

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Avadhesh Jain
4 years ago

Ankit Ji, Where our Holding parent company is in singapore, what shall be rate applicable ?