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Dividend tax may be abolished

By Alok Mukherjee

NEW DELHI FEB. 21. With an eye on the Assembly elections this year, the Union Finance Minister, Jaswant Singh, might want to cheer the middle class up a little. There is widespread expectation that this year's budget might reverse the practice of taxing corporate dividends at the hands of shareholders.

Mr. Singh has two proposals before him on corporate tax reforms. Both contain the recommendation that there should be no tax on dividend in the hands of the shareholder. The choice for him lies in abolishing dividend distribution tax on companies at one go or to phase it out over the next two years — that is 15 per cent distribution tax in 2003-04 and 7.5 per cent in 2004-05. The tax rate would be nil from the third year onwards.

Tax on dividends in the hands of the shareholder had been abolished and reintroduced by two successive Finance Ministers in the past. P. Chidambaram withdrew the tax on the grounds that it amounted to double taxation — once at the level of company's profits and then again in the hands of the shareholder. He introduced a distribution tax for companies instead.

Yashwant Sinha, in his budget last year, gave a different logic. He felt that the 10 per cent distribution tax that companies or mutual funds paid on dividends had an inherent inequity, that is, people in the high tax bracket got away with paying 10 per cent tax on their earnings through this mode whereas their individual tax liability was much higher. He abolished the 10 per cent distribution tax on companies and announced that henceforth such income would be taxed in the hands of the recipients at the rates applicable to them.

The result of Mr. Sinha's action was that against a 10 per cent tax on dividend, which was being deducted earlier, individuals receiving such income had to pay 20 per cent or 30 per cent, depending on their tax slab. This made dividend income unattractive with yields going below other returns.

There is logic in both Mr. Chidambaram's and Mr. Sinha's arguments, unless a case is made that dividend income should not be taxed. Depending on revenue considerations, any Finance Minister can choose any of the two arguments and justify his action.

For Mr. Singh, a decision on this subject could be easier if he decides to revamp the entire corporate taxation system so that the Government does not suffer on revenues while abolishing dividend tax in the hands of the shareholders.

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