8/9/2019 Dividend Stripping - Supreme Court Ruling

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DIVIDEND STRIPPING SUPREME COURT RULING:

In a significant ruling, the Supreme Court has ruled that taxpayers can legallyreduce their liability through dividend-stripping, a term used for sellingmutual fund units at a discount post-dividend. An apex court bench headedby Chief Justice SH Kapadia has said there is nothing wrong in dividend-strippingafter getting the tax benefits. The bench further said such dividend stripping after

availing of the tax rebates cannot be termed as abuse of law.

Even assuming that the transaction was pre-planned there is nothing toimpeach the genuineness of the transaction, said the bench agreeing with anearlier Bombay High Court order.

Dividend-stripping is purchase of shares just before a dividend is paid, andsale of the same after that payment, when they go ex-dividend. This is oftendone by investors and corporate houses as an investment strategy toavoid/reduce income tax liability.

The court further said the income tax department cannot term the lossoccurred after such transaction is not a valid transaction as it has beenpre-planned one.

The bench further said the interest/dividend received on such investmentsare regarded as return on investment and not return of investment.

The court also said only in certain cases where the purchase price includes theright to receive crystallised and accrued dividend, that have already accrued andbecome due for payment before the date of purchase of the units, that the samehas got be reduced from the purchase of the investment.

But mere receipt of dividend subsequent to purchase of units merely on thebasis of a person holding units at the time of the declaration of the dividend onthe record date cannot go to offset the cost of acquisition of the units, pointedout the court.

The order came over a petition filed by the IT department challenging the ordersof the Bombay High Court. The case dates back to 2000, when the brokeragehouse Walfort Share & Stock had bought tax-free dividends from Chola FreedomTechnology Mutual Fund at a unit price of Rs 17.23. As per the terms andconditions, the brokerage house got 40 percent tax concession from the deal.

Three days after the deal, they sold it at Rs 13.23 a unit, thus incurring losses.When the firm filed its annual returns then it got the benefits under section 10(33) of the Income Tax Act, but the department declined to adjust the losssuffered in dividend-stripping, contending that it was not a business transactionbut a pre-designed artificial loss.