FAC202

Group 3
Ishvam Jindal Sejal Rohatgi

Jai Malhotra Prabesh Giri

Rudransh Tiwari Kaustabh Jash

Dividends vs Share Buybacks
❏ Dividend income is paid out of the profits of a corporation
to the stockholders
❏ Dividend Distribution Tax is a tax levied on dividends that
a company pays to its shareholders out of its profits.
❏ Usually paid as cash, but they may also be in the form of
property or stock.
A company may buy back its shares under the following routes:
❏ Dividend Distribution Tax was introduced in 1997
❏ The motive was to introduce an efficient manner of tax
collection. However, it was considered an unfair method to
collect tax due to double taxation and got abolished in year
2020 with the idea that profit available for distribution
would get significantly enhanced.
❏ By taxing dividend in the hands of the shareholder, double
tax avoidance agreement would be beneficial for foreign
equity investor and people who used to get lower dividend
return. As the tax rate levied on their income is now
lowered.
❏ Share buyback, also known as share repurchase, is a provision
by which companies repurchase their own shares, generally at a
premium.
❏ In India, the practice of share buyback started in 1998 with the
approval of the Securities and Exchange Board of India (SEBI),
bringing benefits to all stakeholders.
1. Fixed price tender offer: A company can issue a formal tender
offer to its shareholders, with the option of rendering /
submitting its shares at a fixed price (mostly at a premium)
within a specified period. Tender offers are resorted to when the
buyback is slightly high.
2. Open-market proposal: A corporation can buy back its market
shares through brokers. Although the firm may determine the
maximum and minimum price of buyback, the actual price is
decided by the market. Generally, open market route is used
when buyback is relatively small.
History
 Dividends
• Dividends taxation was based on tax imputation method before financial year 1958-59. Effectively, dividends were taxed only once i.e. only in
hands of the shareholder. However, there were unreported income collections as shareholders were reporting lower income than the taxable
limit. This led to major portion of dividend not getting taxed. In 1959-1960, The single taxation on dividends at shareholder level was
abolished.

• Budget dividend distribution tax was introduced for the first time in financial year 1997-98. The 1997 Finance Act revised the 1991 Income-
Tax Act and a 7.5 per cent tax was imposed on corporate households distributing dividends out of taxable profit.

Since 1997, DDT was introduced at 10% and this was in favor of shareholders who fall in a higher than 10% tax bracket. Tax at source form of
DDT was levied at the company's end. This means double taxation at corporate level if a corporation is paying dividend. All companies were
liable to be corporate tax on income but DDT is levied on those who are distributing dividends.
Right before abolition of DDT companies paid dividend distribution tax at the rate of 20.56%. This was paid in addition to income tax.
Individuals who receive dividend income in excess of Rs 10 lakh paid a dividend tax of 10%. So, dividends bear a tax of 25% at most, and this
is not an equitable way to tax people.

Budget 2020 made dividend income from shares and mutual funds taxable in the hands of recipients at the applicable income tax slabs to the
individual and abolished the DDT.

It is important to note that tax was applicable to income distribution by unlisted companies, and not listed companies. The 2013 amendment
was brought in as the government wanted to include listed companies under the purview of the provision.
 Share Buybacks
The Finance Act, 2013 introduced section 115QA of the Act, wherein any unlisted company undertaking buyback of its
shares is required to pay tax at 20% (plus applicable surcharge and cess) on the difference between the consideration paid
by the company to the shareholders on buyback and the amount received by the company on the issue of such shares.
After that, section 10(34A) was introduced, which provided that income from buyback would not be taxable in the hands of
the shareholders if the company has paid tax under section 115QA.
However, a matter of constant debate on levying tax on any person who receives any financial remuneration without
consideration or for inadequate consideration. The tax is levied on the difference between the consideration received and
the market value. Thus, it needs to be examined whether buyback for inadequate consideration will attract the provisions
of section 56(2)(x) in the hands of the company.
As per the facts of the case, in FY 2013-14, the taxpayer made a buyback offer to its shareholders at a price of Rs. 26 per
share while the book value of the shares as computed by TO was Rs.32.80 per share. The TO and the Commissioner of
Income tax (Appeals) proposed to levy tax on the difference between the book value and the buyback price of the shares
under the erstwhile section 56(2) (vii a) of the Act.
 Undervalued
shares

Why do companies

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 Attract Demand
Why do companies pay
dividend instead of
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 Scenario Dividend Distribution Tax

15% of the declared amount to be paid by the

Dividend received from domestic company
company

Dividend income received in excess of Rs. 10 lakhs

Additional 10% to be taxed in the hands of the
by an individual/HUF/Partnership firm/private
receiver
trust

10% in case of equity-oriented funds and 25% in

Dividend Distribution Tax on Mutual Funds
case of debt-oriented funds
Tax Impact on Share Repurchase before Indian Budget 2019

When excess cash is used to repurchase company

stock, instead of increasing dividend payments,
shareholders have the opportunity to defer capital
gains if share prices increase. Traditionally,
buybacks are taxed at a capital gains tax rate,
whereas dividends are subject to ordinary income
tax. If the stock has been held for more than one
year, the gains would be subject to a lower capital
gains rate. With share repurchases, participants do
not have to pay your taxes upfront. Instead, they get
to keep the money they would have to pay in taxes
compounding in the business. Dividends when
reinvested trigger a taxable event. Share repurchases
do not.
Share Repurchase scenario in India

To blunt the tax hit, more and more companies

started offering buybacks rather than
distributing dividends. The value of buybacks
went up from ₹1,724 crore in calendar year
2015 to ₹39,246 crore in 2018. Information
Technology companies, in particular, resorted to
buybacks. In 2017, Infosys Ltd, Tata
Consultancy Services Ltd, Wipro Ltd and
Mindtree Ltd announced buybacks. TCS
repeated the offer in 2018 and was joined by
majors such as HCL Technologies Ltd and
Mphasis Ltd, while Infosys announced another
buyback in early 2019 and so did Persistent
Systems Ltd.
 The promoters were using the buyback route to
enhance their wealth and effectively increasing their
shareholding in the company. In this process, the
government, however, was a loser. It was not getting
paid the DDT, tax on dividends where a single
investor was pocketing more than Rs 10 lakh.
To plug the differential tax treatment between
buybacks and dividend payouts, the Union Budget
2019 had introduced tax on buybacks for listed
companies as well. The 20 per cent tax is be levied
on the difference between the issue price and the
buyback price of the share. That would plug the
loophole and promoters now have to pay tax on
share buyback
 Change in Buyback Policy
◦ Before the Budget of 2019, companies
used to offer buybacks instead of
distributing dividends, in order to curb
the tax hit.
◦ The value of buybacks rose
dramatically after a 10% tax on
dividends > 10 Lakhs was announced.
What was the change in the Tax Regime?
o Budget 2019 proposed that share buybacks and dividends be
taxed at the same rate, therefore, allowing them to effectively
close the buyback loophole.
How does it make buyback less attractive?
o Buyback tax coupled with dividend tax will lead to lower
expected payoff from equity.
o The high-level of taxation will potentially lead to a drop in
RoE as well re-investments being done sub-optimally.
 ◦ The Union Budget of 2020-21 advocates the abolition of the
Change in Dividend Policy
broad brush treatment of the 20.56% dividend tax.

◦ Instead of a uniform being applied to people from different

economic categories, the scrapping of the DDT will ask all

equity investors to treat dividends received as income and

then pay tax at the income slab rates.

 Arguments pertaining to the change in
Policy
Governments POV
◦ It was introduced as an anti-
abusive policy change to curb the
practices of unlisted and (now)
listed companies who resorted.
◦ This practice of widespread abuse
was noted, in the past as the tax
rate for capitals gains was lower
than the rate of the Dividend
Distribution Tax.
Industry Defence
o The major problem and issue at hand is
that of – unintended double taxation, as
the computation mechanism considers
buyback price less issue price. And
additionally, the previous transfers that
have already been taxed stand in an
ambiguous position.
o Secondly, it is felt that with the change in
policy, a change in the buyback rules is
also necessary as the rules in place right
now better suit the situations for unlisted
companies.
Impact of COVID-19
 ◦ Dividend Payments
◦ The current slowdown may compel many
companies to rethink their distribution policy
◦ If dividend payments are reduced then it
would provide for an alternative source of
funding for companies.
◦ As per RBI mandate, it is likely that private
banks will face a greater impact than public
banks.
Share Buyback
o Many of the cash-rich promoters are coming out
with buyback offers to cushion falling share
prices and take advantage of the situation to raise
holdings.
o It, thus, believes while deciding on buybacks,
managements will have to conserve cash and
preserve liquidity.
The brokerage sees a higher probability of
companies in consumer, technology and
automobile sectors returning cash to their
shareholders by resorting to buybacks.
Recommendations
Covid 19 pandemic has affected business all over India, so all policies for dividend distribution and share-buy backs should be
reviewed keeping that in mind. It's recommended to cancel the planned dividend distribution and shares buybacks by all
companies.

So, for 2020 the decision on dividends and share buy backs or any such future commitments should be avoided and if possible
withdrawn. The purpose of this recommendation is to strengthen the future of the company, to be in a position to overcome the
losses incurred in this pandemic 2020 recession.
Recommended Policies for companies, at least until 1 October 2020 (can be extended, will depend on the situation of the pandemic
than)
- Do not pay dividends, do not take any commitments regarding the payment of dividends for the financial years 2019 and 2020.
- Do not carry out share buy-backs, keep the shareholders involved.

The above policies are recommendations to the government as well with respect to the share buy-back and dividends. If these policies
are implemented by the government now and all the companies follow them, this will be a great support to the businesses future as
well as the economy of the country in the future.
These decisions are very sensitive, critical to be taken specially for this unsuspected crisis and its effects. Thorough research must be
done and appropriateness of such interference in companies should be analyzed.

Covid 19 has also resulted in a huge loss of tax revenue for the government. The relief package spending has also depleted government
cash holdings. One temporary policy change to tackle this situation is to reinstate DDT at a relatively low rate of 10% for the
foreseeable future till visibility clears. All businesses are hit bad by the pandemic but there are large scale businesses which would still
pay dividends in such situations suggesting that they are not in a vulnerable cash crunch. DDT could help the government garner some
revenue in this phase. By keeping the tax rate at the lower end of the scale at 10% would also not discourage the businesses with a cash
surplus to distribute dividends.

Companies are well aware of the situation and will more likely follow the policies even without implementing them but as lockdown
was implemented to aware and prevent people. Same actions by the government can be taken to aware and prevent the companies,
overcome the 2020 recession and support the economy of the country.
Thank you