by Subsequent to the abolishment of Dividend Distribution Tax (DDT) from the statute, Finance Act, 2020 has made the dividend income taxable in the hands of the recipients (shareholders). Section 57 of the Income Tax Act, 1961 (“Act”) has also been amended to provide for deduction of interest expended for earning such dividend income. Further, a new section 80M is inserted in the Act for allowing deduction in respect of certain inter-corporate dividends.
Section 57 of the Act provides for certain deductions that are allowed against income chargeable under the head “Income from other sources”. Clauses (i), (ia), (ii), (iia), (ii) and (iv) of section 57 specifically mention the deductions available while computing the income chargeable under the head ‘Income from other sources’.
Out of these, deduction under clauses (i) and (iii) to section 57 are relevant for claiming and allowing a deduction from dividend income chargeable under the head ‘Income from other sources’.
Section 57(i) allows a deduction from any dividend income or interest on securities for any reasonable sum paid by way of commission or remuneration to a banker or any other person for the purpose of realising such dividend or interest on behalf of the assessee. This deduction is specific to dividend income or interest on securities only.
Section 57(iii) is general in nature and allows deduction of any other expenditure (not being in the nature of capital expenditure) laid out or expended wholly and exclusively for the purpose of making or earning any income which is chargeable under the head “income from other sources“.
For availing the deduction under Section 57(iii) of the Act, the assessee has to establish that the expenditure has been exclusively laid out or expended wholly and exclusively for the purpose of making or earning such income taxable under the head ‘income from other sources’.
Section 57 provides for certain deductions to be made in computing the income chargeable under the head ‘Income from other sources’ and one of such deductions is that set out in clause (iii), which reads as follows:
(iii) any other expenditure (not being in the nature of capital expenditure) laid out or expended wholly and exclusively for the purpose of making or earning such income;
The expenditure to be deductible under section 57(iii) must be laid out or expended wholly and exclusively for the purpose of making earning such income. It is the purpose of the expenditure that is relevant in determining the applicability of section 57(iii) and that purpose must be making or earning income.
When the borrowed funds have been utilized for the purpose of making the investment in shares on which dividend income is earned which is taxable under the head ‘income from other sources’, then the deduction for the interest on the borrowed funds is allowed under section 57(iii).
Deductions for expenses from dividend income – Section 57(i) and section 57(iii)
Therefore, from the dividend income, the following expenditures are allowed as a deduction under section 57:
- Collection Charges: Any reasonable sum paid by way of commission or remuneration to a banker or any other person for the purpose of realising the dividend. [Section 57(i)]
- Interest on money borrowed: Interest on money borrowed for purchasing the shares can be claimed as a deduction. [Section 57(iii)]
Note: There is no specific clause in section 57 which allows for a deduction for interest expense on loans taken for investing in shares for earning dividend income. Hence, if interest is expended wholly and exclusively for earning the dividend income it will be allowed as a deduction under clause (iii) of section 57.
- Any other expenditure: Apart from the above, if the assessee incurs any other expenditure, not being in the nature of capital expenditure, wholly and exclusively for the purpose of making or earning the income, can be claimed as a deduction. [Section 57(iii)]
Limit on deduction for interest expense from dividend income
Finance Act, 2020 has amended section 57 and a proviso is inserted w.e.f. 01-04-2021 to provide that no deduction shall be allowed from the dividend income, or income in respect of units of a Mutual Fund specified under clause (23D) of section 10 or income in respect of units from a specified company defined in the Explanation to clause (35) of section 10, other than deduction on account of interest expense, and in any previous year such deduction shall not exceed 20 per cent of the dividend income, or income in respect of such units, included in the total income for that year, without deduction under section 57.
In other words, the proviso to section 57 restricts the deduction for interest expense against gross dividend income (before allowing deduction u/s 57) and the maximum amount of interest expenses that can be allowed as a deduction in a previous year is limited to 20% of the dividend income included in the total income.
One should note that the proviso is placed below section 57 which stipulates that no deduction other than interest expense shall be allowed from the dividend income and that too maximum at 20% of dividend income included in the total income. However, section 57(i) allows a deduction for collection charges from the realization of dividend income.
However, from a plain reading of the proviso, it follows that only interest expenses, subject to the stated limit of 20%, will only be allowed as a deduction from the dividend income and no other deduction will be allowed therefrom. Does it mean that the collection charges from the realization of dividend income as stipulated in clause (i) shall also be disallowed from dividend income?
If this view is taken then clause (i) will become otiose and redundant. It should be further noted that clause (i) is also amended by the Finance Act, 2020 to amend the word ‘dividend’. Prior to the amendment, clause (i) refers to “dividends, other than dividends referred to in section 115-O”. Since section 115-O is withdrawn from 01.04.2021 (AY 2021-22) the reference was amended to refer to ‘dividends’ only. The expression “dividends, other than dividends referred to in section 115-O” is substituted with the word ‘dividends’.
Therefore, the legislature did not omit the dividend from the clause (i) but in its wisdom retained the same in clause (i).
