Indian Union Budget 2021-22: Finance Minister Nirmala Sitharaman, last year in her budget presentation 2020, announced the decision to abolish the Dividend Distribution Tax (DDT), while making dividend payment taxable at the hand of the recipient. The move was among the most talked-about decisions of the government at the beginning of 2020. Although this helped the cash-starved India Inc save some and increase cash-flow, for investors this meant more taxes. This was also trouble for promoters with high shareholdings, as a higher dividend would result in them paying more as taxes.
Dividend payment increased in FY20
For the financial year 2019-20, the dividend payout for the Nifty 500 constituents rose to 42.5%. This was higher than the dividend for the last seven years. Data from Capitaline showed that the increase in dividend payout was seen in firms with a higher promoter holding. This change has also moved investors away from the dividend theme. Gaurav Rastogi, Founder & CEO, Kuvera — a new age investment platform for investing in Mutual Funds — said that investors are now moving towards growth schemes from dividend schemes.
What changed after Budget 2020
Dividends earned by investors with an annual income of Rs 5 crore or more are now taxed at 43%. Dividends were preferred by listed entities, as in 2019 with the introduction of Taxation Law Amendment Act, 2019, the Government extended the applicability of Sec 115QA to Listed Companies, which was earlier applicable to only private companies, according to Mohnish Wadhwa, Founder, Wadhwa & Shah, Chartered Accountants. “After this, the dividend paid in the form of buybacks was taxable at 20%. Effectively, this made the companies shift to the dividend payout model since that was more beneficial considering the effective rate of tax,” he added.
The change made shareholders who were in the higher tax slab pay more tax on the dividend received. “Since the dividend is taxed in the hands of shareholders, investors in the higher tax bracket are liable to pay more tax on their dividend income. Especially a company with a high promoter stake would go for a share buyback offer, as the tax out is relatively less as compared to dividend payout,” Rajnath Yadav, Research Analyst, Choice Broking, told Financial Express Online.
Share buybacks in focus
After the dividend became taxable for recipients, the winds of change have helped listed firms switch to share buybacks as an efficient way to distribute wealth among shareholders. “Post the taxability of the dividend income in the hands of shareholders and abolishing of DDT, the companies shifted to share buybacks as there was no tax implication on the listed entities,” Rajnath Yadav said.
Earlier, retail investors got away scot-free without paying any taxes. Prior to the budget of 2020, dividends issued by the listed entities were taxable in the hands of the recipient if they received more than Rs 10 lakh at the rate of 10%. “Therefore, after February 2020, payout of profits in the form of dividends has become less attractive from the investors perspective and buyback has again gained more attraction,” Mohnish Wadhwa added.
Analysts do expect listed companies to increase their wealth distribution over the coming years as they saved up capital during this year while gearing up to deal with the pandemic. However, owing to the higher tax burden dividend payments would result in many analysts seeing share buybacks as the more convenient way going forward.