Dividend paid to foreign shareholders
Punit Bhandari
Punit Bhandari, is a Qualified Chartered Accountant-
Senior Partner, M/s Bhatia Bhandari Associates
His Expertise: Taxation, Audits, SAP Implementation & Non-Resident Investment Solutions
Dividends are a source of earnings for both resident and non-resident investors. However, the distribution of dividends is governed by various laws and, when paid to non-residents, entails additional compliance requirements.
Apart from the general provisions of the Companies Act, 2013, if the dividend is to be paid to non-resident shareholders, an application must be submitted to an authorised dealer (a person authorised by the RBI to deal in foreign exchange) for approval of remittance. If the authorised dealer approves the remittance, a copy of the application must be submitted to the RBI.
Dividends remain a critical component of investor returns, but distributing them to non-resident shareholders in India involves navigating a complex web of tax laws, RBI approvals, and international treaty provisions. In light of recent updates to compliance requirements and treaty interpretations, businesses must stay informed to optimize tax efficiency and avoid penalties. Here’s a comprehensive guide to the process as of 2025.
Starting from FY 2020-21, dividend taxation has undergone a significant change under the Income Tax Act, 1961. Previously, companies were liable to pay Dividend Distribution Tax (DDT), and dividend income was exempt in the hands of shareholders.
However, DDT has now been abolished, and dividends are taxable in the hands of shareholders. In the case of non-resident shareholders, the dividend is taxable as Income from Other Sources (unless linked to a permanent establishment (PE) in India). The company is now required to deduct TDS under Section 195 at the applicable rates, considering DTAA benefits if claimed.
Non-resident shareholders can avail themselves of the reduced tax rates under tax treaties (DTAs) between their home country and India. These treaties aim to eliminate double taxation and, in many cases, prescribe lower withholding tax rates on dividend income than those prescribed under the Indian Income Tax Act.
For example:
| Country | Treaty Rate |
|---|---|
| Myanmar | 5% |
| Sri Lanka | 7.5% |
| Austria | 10% |
| Australia | 15% |
However, treaty benefits come with conditions, including the following:
a) Beneficial Ownership Test – The shareholder must be the actual recipient of the dividend.
b) Principal Purpose Test (PPT) – The main purpose of the investment must not be solely to obtain tax treaty benefits.
c) Minimum Holding Period– Applicable under certain treaties; for example, some treaties require the shareholder to hold shares for at least 365 daysto qualify for concessional rates.
Additionally, to claim these benefits, shareholders must furnish a Tax Residency Certificate (TRC), Form 10F, and, often, a valid PAN in India.
Important Shifts in Dividend Taxation from 2020 to 2025
Dividend Distribution Tax (DDT) elimination:
- Before 2020, companies paid 15% DDT (plus a surcharge and cess), and dividends to shareholders were tax-free.
- Dividends are taxable in the hands of shareholders after 2020. Companies are required to deduct TDS under Section 195 at a rate of 20% (default) for non-residents, plus a 4% Health and Education Cess and any appropriate surcharge (10% for corporates, for example).
MLI-based Treaty Overrides:
- The Principal Purpose Test (PPT) was introduced by the Multilateral Instrument (MLI), which amended India’s tax treaties. If gaining a tax advantage is the main goal of the arrangement, benefits under DTAAs are refused.
Tighter Beneficial Ownership Regulations:
- To receive treaty benefits, shareholders must prove economic substance (such as offices and employees) in their nation of residence.
Step-by-Step Compliance Process for Dividend Payments to Non-Residents
- Section 195: TDS Deduction
- Default Rate: 20% plus 4% cess and any relevant surcharge.
- Lower DTAA Rate: Only applicable if the shareholder presents:
(a) A current Tax Residency Certificate (TRC) from their nation of residence.
(b) Form 10F, which needs to be submitted online through the Income Tax Portal.
(c) Beneficial Ownership Declaration.
Due Date:
- TDS must be deducted at the time of dividend payment or credit to the shareholder’s account, whichever occurs earlier.
🔹 Note: Section 206AA may be applicable if the shareholder lacks a PAN, in which case higher TDS may be enforced and DTAA benefits may be denied.
- RBI Approval for Remittance
File Form A2 with an Authorized Dealer (AD) Bank, along with:
- Board Resolution authorizing a
- Form 15CB: CA certificate confirming no tax dues.
After the AD bank approves, the company should remit the dividend, preferably within seven days.
- Reporting to the Income Tax Department
- Form 15CA/15CB:
- Mandatory for most foreign remittances.
- 15CB is required if remittance exceeds ₹5 lakh and is not in the exempt categories.
- Form 27Q:
- Quarterly filing of TDS on non-resident payments, including dividends.
.
Claiming DTAA Benefits: Conditions & Documentation
To avail lower treaty rates, shareholders must satisfy:
REQUIREMENT | PURPOSE | DOCUMENTS |
Beneficial Ownership | Prevent conduit arrangements | Shareholding pattern, bank statements |
Principal Purpose Test | Deter tax avoidance | Business plans, investment rationale |
Substance Test | Ensure genuine business operations | Office leases, employee records |
Country-Specific DTAA Rates (2025):
- USA: 15% (no ownership threshold).
- Germany: 5% (if shareholder holds ≥10% equity)
- Japan: 10% (if ≥10% ownership).
- Mauritius: 5% (≥10% ownership + 12-month holding period).
Note: Surcharge (e.g., 10% for corporates) and 4% cess apply to all rates.
Case Study: Dividend Payment to a Singaporean Shareholder
- Scenario: A Singapore-based entity owns 12% of an Indian tech startup.
- DTAA Rate: 10% (vs. 20% default).
Compliance Steps:
- The shareholder submits a Tax Residency Certificate (TRC) along with Form 10F.
- The company deducts 10% TDS (vs. 20%).
- RBI approves remittance after verifying Form A2 and the CA certificate.
Resulting Tax Savings: This yields a tax saving of ₹10 lakh for every ₹1 crore of dividend distributed (due to a 10% versus 20% TDS rate).
Penalties for Non-Compliance with Dividend Distribution Regulations
- Late TDS Payment: 1.5% monthly interest.
- Incorrect DTAA Claims: 100–300% penalty on evaded tax + prosecution under the Black Money Act.
- Missed RBI Reporting: ₹10,000–₹50,000 per instance.
Recent Updates (2024–25)
Digital TRC Verification:
- The Income Tax Department’s portal now allows real-time validation of TRCs.
Relaxed Holding Periods:
- Treaties like India-France no longer mandate a 365-day holding period for dividends.
PPT Guidance:
- CBDT’s 2024 guidelines clarify that commercial rationale (e.g., market expansion) overrides tax motives.
Recommendations for Businesses
Pre-Declaration Review:
- Audit share registers to identify non-resident shareholders early.
Automate Compliance:
- Use tools like Clear-Tax or Deloitte Tax-Max to track TDS and treaty deadlines.
Consult Experts:
- Engage cross-border tax advisors to navigate PPT and substance requirements.
Conclusion
Navigating dividend payments to foreign shareholders requires balancing RBI mandates, TDS obligations, and DTAA provisions. With the 2025 emphasis on substance over form and digital validations, businesses must prioritize documentation and proactive compliance. By leveraging treaty benefits and adhering to updated guidelines, companies can minimize tax outflows while maintaining regulatory goodwill.
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