Have one query with respect to tax implications of reliance retail capital reduction. They have cancelled shares and returned only 40% of capital, that they have shown as dividend. Should we pay dividend on this? So even though as you said the "distribution to its shareholders by a company on the reduction of its capital, to the extent to which the company possesses accumulated profits is considered as Deemed Dividend" , we can show the amount paid as dividend, but won't we be able to show capital loss also? if we have bought shares at X/- price and didn't get any other money than the deemed income, how much can we declare the entire amount as capital loss?
Ans: The situation you described involves two main tax considerations: deemed dividend and capital loss. Let's break this down step-by-step.
Deemed Dividend
When a company reduces its capital and returns part of the capital to shareholders, the distribution to the extent of accumulated profits is considered a deemed dividend under Section 2(22)(d) of the Income Tax Act.
Deemed Dividend: The amount distributed from accumulated profits is treated as dividend income.
Taxation: Dividends are taxed in the hands of shareholders as per their applicable income tax slab rates.
Capital Loss
The reduction of capital also affects the capital structure of your investment. Here's how you can account for this:
Determine Cost Basis: If you bought shares at Rs X, your initial cost basis is X per share.
Capital Reduction: If only 40% of the capital is returned and the rest is canceled, your cost basis is proportionally reduced.
Calculating Capital Loss
Let's assume:
Initial cost per share: Rs X
Shares reduced by 40%: Rs 0.4X returned as deemed dividend.
Your adjusted cost basis per share would now be:
Adjusted cost basis = Initial cost - Amount returned as deemed dividend
Adjusted cost basis = X - 0.4X = 0.6X
Declaring Capital Loss
Remaining Shares: If you hold the remaining shares, their adjusted cost basis is 0.6X.
Sold Shares: If you sell the remaining shares, any difference between the selling price and the adjusted cost basis (0.6X) would be your capital gain or loss.
Example
Initial Purchase Price: Rs 100 per share
Capital Reduction: Rs 40 returned as deemed dividend
Adjusted Cost Basis: Rs 100 - Rs 40 = Rs 60 per share
If Shares Sold at Rs 50:
Capital Loss: Rs 60 - Rs 50 = Rs 10 per share
Steps to Declare in Tax Returns
Dividend Income:
Report the amount returned as deemed dividend under "Income from Other Sources".
Capital Loss:
Calculate the adjusted cost basis of the remaining shares.
Report any capital loss under "Capital Gains" if shares are sold.
Key Points to Remember
Maintain Records: Keep detailed records of your transactions, including the original purchase price, amount returned as deemed dividend, and the adjusted cost basis.
Consult a Professional: Taxation can be complex, especially with corporate actions like capital reduction. It's advisable to consult a Certified Financial Planner or tax consultant for precise calculations and compliance.
Final Insights
Managing tax implications of corporate actions like capital reduction requires careful consideration of both deemed dividends and potential capital losses. By maintaining accurate records and consulting with professionals, you can ensure compliance and optimize your tax outcomes.
Best Regards,
K. Ramalingam, MBA, CFP,
Chief Financial Planner,
www.holisticinvestment.in
