The dividend distribution tax has been proposed to be removed, and it will no longer be charged at the level of companies/mutual funds. Dividend tax will now be taxable in the hands of the shareholders or unitholders. For effective enforcement of such tax removal on the part of companies, the Finance Bill 2020 imposes a TDS liability on dividend paid or credited to investors. Proposed Section 194K to impose a tax on mutual fund dividend The DDT earlier paid by companies and mutual funds on the distribution of dividends to investors is set to be abolished. To materialize the abolition of DDT, the Finance Ministry proposes to make amendments in TDS provisions. The memorandum proposal provides that TDS will be levied at 10% on the dividend income paid by a company or mutual fund to its members. Such TDS will be deducted if the amount of dividend income exceeds Rs. 5,000 during a particular financial year. Dividend income is chargeable in the hands of the unit holder under the head ‘income from other sources’. The investors may also claim the credit of tax deducted on dividend income at the time of filing their returns. Before the introduction of Section 194K, DDT was chargeable at the level of mutual fund companies. In the hands of investors, tax on dividend received from a mutual fund was charged @ 10% if such income exceeded Rs. 10 lakh in a financial year. Besides this, any other dividend income was exempt in the hands of the investors. Is it a tax on mutual fund dividend only? Several income taxpayers have raised questions as to whether a mutual fund is required to deduct TDS on capital gains arising to an investor on the redemption of units. A press release is issued by the CBDT on 4th February 2020 to give clarifications on this behalf. The CBDT clarifies that 10% TDS u/s 194K is to be levied only on dividend payment by mutual funds and not on capital gains. The proposed section (Section 194K) entails that a mutual fund shall be required to deduct TDS @ 10% only on payment in the nature of dividends, and no TDS shall be required to be deducted by a mutual fund on income in the nature of capital gains. Tax on redemption proceeds TDS u/s 194K is applicable to the distribution of income made by domestic companies and mutual funds to a resident on or after 1st April 2020. The entire capital gains in the hands of the holder of the mutual fund units will not get taxed through TDS. Redemption proceeds paid by mutual funds will not get covered via Section 194K. The income on the redemption of mutual fund units is taxable as capital gains under the head ‘income from capital gains’. The gains or losses from the sale of units are directly taxed or allowed in the hands of the investor. Uncertainty resolved w.r.t tax on mutual fund dividend Post the insertion of Section 194K, certain doubts arose in the minds of unitholders as to whether capital gains or the entire redemption amounts shall be taxed at source. Many investors are relieved who were expecting outflows of tax on capital gains. Their uncertainty comes to an end when the CBDT clearly states that the TDS proposal is limited to dividend payouts only. To prevent any confusion, the CBDT also says that a necessary amendment regarding the applicability of tax on mutual fund dividend should be made in the relevant provision of income tax law. Read, Also: CBDT Notifies the Procedure of PAN Allotment for FPIs through Common Application Form (CAF).