Dividend Tax

What Is Dividend Tax?

Dividend tax is the tax imposed on distributions of profit from an Indian company to its shareholders. Until March 31, 2020, companies paid Dividend Distribution Tax (DDT) at approximately 20.56% before distributing dividends — shareholders received tax-free dividends. The Finance Act 2020 abolished DDT and shifted taxation to the shareholder's hands. Now, dividends are taxed at the shareholder's applicable income tax rate, and the company deducts TDS before payment.

For foreign investors receiving dividends from Indian companies, this change has significant implications. The withholding rate, DTAA applicability, and repatriation mechanics all changed.

Legal Framework

• Section 115-O of the Income-tax Act, 1961 — The DDT provision. It was abolished from April 1, 2020 and has no counterpart in the Income-tax Act, 2025; it is relevant only to distributions made before that date
• Section 92 of the Income-tax Act, 2025 (section 56(2)(i) of the Income-tax Act, 1961) — Dividends are taxable as "Income from Other Sources" in the hands of shareholders
• Section 393(1) (Table, Sl. No. 7) of the Income-tax Act, 2025 (section 194 of the Income-tax Act, 1961) — TDS on dividends paid to resident shareholders at 10%; the exemption for individual shareholders is INR 10,000 a year under section 393(4) (Table, Sl. No. 10(f))
• Section 393(2) of the Income-tax Act, 2025 (Table, Sl. No. 17; section 195 of the Income-tax Act, 1961) — TDS on dividends paid to non-resident shareholders, at the rates in force (20%, or the DTAA rate where lower)
• Section 207(1) (Table, Sl. Nos. 1–3) of the Income-tax Act, 2025 (section 115A of the Income-tax Act, 1961) — Tax rate for non-residents receiving dividends (20%)
• Sections 159 and 160 of the Income-tax Act, 2025 (sections 90 and 91 of the Income-tax Act, 1961) — Relief under a DTAA (the treaty-more-beneficial rule is section 159(4)) or unilateral relief for double taxation

Current Dividend Tax Structure

DTAA Rates on Dividends

Many DTAAs provide lower withholding rates on dividends than the 20% domestic rate. Here are the treaty rates for common investment source countries:

To claim a DTAA rate lower than 20%, the foreign shareholder must provide a Tax Residency Certificate from their home country and a self-declaration in Form 41.

How Dividend Tax Affects Foreign-Owned Indian Companies

• Double taxation risk — The Indian company pays corporate tax on its profits. When it distributes the remaining profit as dividends, the foreign shareholder pays dividend tax. This creates two layers of taxation on the same earnings. The DTAA credit mechanism in the shareholder's home country is the only relief.
• Withholding creates cash flow impact — A 20% (or DTAA rate) withholding on dividends means the foreign parent receives less cash. In a 100% subsidiary, this reduces the cash available for the parent's operations abroad.
• Section 148 deduction for holding structures — If an Indian holding company receives dividends from an Indian subsidiary and distributes them further, section 148 of the Income-tax Act, 2025 (section 80M of the Income-tax Act, 1961) allows a deduction for the inter-corporate dividend received, preventing triple taxation.
• No DDT means higher effective distribution — Under the old DDT regime, the company paid approximately 20.56% DDT on top of dividends. For foreign shareholders entitled to a 10% DTAA rate, the new system is cheaper: only 10% withholding instead of 20.56% DDT.

Process for Paying Dividends to Foreign Shareholders

1. Board resolution — The board recommends the dividend (interim) or shareholders approve it at the AGM (final dividend).
2. Check distributable profits — Dividends can only be paid from current year profits, accumulated profits, or money provided by the central/state government. Section 123 of the Companies Act 2013 governs this.
3. Collect TRC from foreign shareholder — Without a TRC, the company must withhold at 20%. With a valid TRC and Form 41, the lower DTAA rate applies.
4. Deduct TDS — Withhold at 20% or the DTAA rate on the gross dividend amount.
5. Deposit TDS — Within 7 days of the end of the month in which the deduction was made.
6. File Forms 145 and 146 (formerly Forms 15CA and 15CB) — Before remitting the net dividend to the foreign shareholder's overseas bank account.
7. Issue Form 16A — TDS certificate to the foreign shareholder.
8. Report in Form 144 (formerly Form 27Q) — Quarterly TDS return for payments to non-residents.

Penalties

• Non-deduction of TDS on dividend — The company is treated as "assessee in default" under section 398 of the Income-tax Act, 2025 (section 201 of the Income-tax Act, 1961). It must pay the TDS amount plus interest under section 398(3)(a) at 1% per month (if not deducted) or 1.5% per month (if deducted but not deposited).
• Expense disallowance — Not applicable for dividends specifically, but non-deduction of TDS on any payment to non-residents triggers disallowance of the expense under section 35(b)(ii) of the Income-tax Act, 2025 (section 40(a)(i) of the Income-tax Act, 1961).
• Late filing of Form 144 — Fee for default in furnishing TDS statements under section 427(1) of the Income-tax Act, 2025 (section 234E of the Income-tax Act, 1961).

Common Mistakes

• Withholding at 20% when a lower DTAA rate is available — The company is the deductor and has the responsibility to apply the correct rate. If the foreign shareholder provides a TRC but the company still withholds at 20%, the shareholder must file an Indian tax return and claim a refund — a process that takes 12-18 months.
• Not filing Form 145/Form 146 for dividend remittance — Banks in India will not process the foreign remittance without Form 145 (filed online) and Form 146 (CA certificate). Some companies forget this step and face delays in repatriating dividends.
• Declaring dividends without sufficient distributable profits — Section 123 of Companies Act prohibits paying dividends out of capital. Companies that accumulated losses cannot declare dividends even if they had profits in the current year, unless the current year profits exceed the accumulated losses.
• Not considering the surcharge on non-resident withholding — The 20% rate is the base rate. Surcharge and cess apply on top, making the effective rate approximately 20.8% to 21.84% depending on the dividend amount.
• Ignoring the Multilateral Instrument (MLI) impact on DTAA rates — India signed the BEPS MLI, which modifies many DTAAs. The Principal Purpose Test (PPT) can deny treaty benefits if the arrangement's main purpose is to obtain the reduced rate. Treaty shopping through shell companies in Singapore or Mauritius is riskier now.

Practical Example

A Japanese company holds 100% of an Indian subsidiary in Pune. The subsidiary earned INR 2 crores in profit after corporate tax. The board recommends a dividend of INR 1 crore. The Japanese parent provides a TRC issued by the Japanese National Tax Agency. Under the India-Japan DTAA, the dividend withholding rate is 10%. The Indian company deducts TDS of INR 10 lakhs (10% of INR 1 crore) and deposits it with the government by the 7th of the following month. The company files Forms 145 and 146 and remits INR 90 lakhs to the Japanese parent's bank account. The Japanese parent claims credit for INR 10 lakhs of Indian tax against its Japanese corporate tax liability under the DTAA. Form 144 is filed for the quarter reporting this payment.

Related Terms

• Corporate Tax — Paid before dividends are distributed
• Withholding Tax — The mechanism for collecting dividend tax
• Tax Residency Certificate — Required for claiming DTAA rates
• Forms 145 and 146 — Required before remitting dividends abroad

Planning a dividend distribution to foreign shareholders? Beacon Filing ensures correct TDS, treaty application, and FEMA-compliant remittance.