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Sowmya Sundar

THE Government has reverted to the system of exempting dividend tax in the hands of the receiver and instead levying a distribution tax of 12.5 per cent in the hands of the company.

Who benefits?

The move will benefit all equity investors. Those in the higher tax bracket would benefit the most as they need not pay a high tax of 20 or 30 per cent as the case may be on dividends received. Instead, they will pay a notional tax of only 12.5 per cent.

Preference shareholders too benefit, as the preference yield will rise. In fact, preference shares could be attractive vis-à-vis other fixed income securities, say, for instance, fixed deposits as the tax-free return on preference shares could be higher than that earned on a fixed deposit. A one-year bank fixed deposit earns less than 6 per cent, whereas a preference shareholder of Timken India earns 7.8 per cent post tax.

Companies receiving high dividend income, for instance Ashok Leyland Finance, Bajaj Auto, Larsen & Toubro, ONGC and State Bank of India would be major beneficiaries. Most banks and financial institutions would benefit as they have higher exposures in equities as against any other company. For instance, State Bank of India received Rs 3055 crore as dividend income for the year 2002.

The promoter class would be a major gainer as they receive huge amounts, as dividends from their share holdings. They would definitely come under the highest tax bracket and would have otherwise paid a 30 per cent tax on dividends received. Promoters of companies such as Reliance Industries, Hero Honda, Bajaj Auto, Tata Steel and Tata Power would be major beneficiaries. For instance, promoters of Reliance Industries received Rs 230 crore as dividends alone for the year ended March 2002.

Dividends Vs Buyback

Cash-rich companies might find declaring dividends as a better method of distributing surplus cash than a share buyback. Companies such as Procter & Gamble and Hero Honda, who are flush with cash might choose to opt for this route.

Dividend yields attractive

Companies that declare high dividends would be an attractive investment for those in the high tax bracket as their dividend yield would be higher according to the new taxation rate as against the existing system. Most banking stocks such as Canara Bank and also certain financial companies such as First Leasing would become more attractive. For instance, the dividend yield post distribution tax for Revathi Equipment works out to 14 per cent and that for Salzer Electronics to 10.9 per cent. But investors should be cautious while picking up high dividend yield companies, as one should not be saddled with capital losses later.

Impact on corporate India

Corporates that pay high dividends would now pay more to the Government. Corporate India (3,533 companies were included in the database and out of them only 991 companies paid dividends for the year 2001-02) would have to pay Rs 2,200 crore as dividend taxes for the year 2003-04 if dividends are declared at the same rate as in 2002. For the year 2002-03, the corporates don't have to pay any taxes.

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