TAX PLANNING WITH REFERENCE TO

FINANCIAL MANAGEMENT
DECISIONS
TAX PLANNING RELATING TO CAPITAL STRUCTURE
DECISION
TAX PLANNING RELATING TO DIVIDEND POLICY
TAX PLANNING RELATING TO BONUS SHARES
TAX PLANNING THROUGH PURCHASE OF OWN
SHARES INSTEAD OF DISTRIBUTION OF DIVIDEND
SUBMITTED BY
REMYA S
M.COM TAXATION
ROLL NO:20172012
 TAX PLANNING RELATING TO CAPITAL
STRUCTURE DECISION
• CAPITAL STRUCTURE:
Capital structure refers to the mix of sources from
which funds required for the business are raised.
Capital structure decisions are considered before
making any new investment in any venture. To
finance the investment, money has to be raised
through various sources of finance viz.,loans,
debentures, preference share capital and equity
share capital. So there are different options to raise
money. The option which maximizes return on
equity capital is considered the best option.
 TAX POINT OF VIEW
• Expenses incurred on raising loans or debentures and
interest payable on loans are deductible in computing
taxable income of the assessee.
• Amount of interest paid in respect of loan for
acquisition of an asset for extension of existing
business(whether capitalized in the books of account
or not)for any period beginning from the date on which
loan was taken for acquisition of the asset till the date
on which such asset was first put to use , shall not be
allowed as a deduction. It will be added to the cost of
asset
• Expenses incurred on raising share capital and dividend
on share capital are not deductible in computing the
taxable income of assessee.
The following expenses in relation to capital are
deductible:
• If the assessee is a partnership firm, the interest
on capital and loan taken from partners is
deductible to a maximum of 12%.
• If the assessee is an Indian company and in
connection with the issue for public subscription
of shares or debentures of the company, incurs
expenses (being underwriting commission,
brockerage and charges for drafting, typing,
printing & advertising of prospectus) 20% of such
expenses are allowed for each of the five
successive year.
 TAX PLANNING
• Where rate of return on investment is less than the
rate of interest, the minimum loan capital must be
used.
• Where rate of return on investment is more than the
rate of interest, it will increase the rate of return of
equity capital. However the legal requirements for
raising capital through any means of finance cannot be
ignored.
• The capital may be utilized for acquisition of non-
depreciable assets like land, goodwill etc. and
borrowed funds may be utilized to acquire depreciable
assets. The interest on loans for the period after setting
up of business but before the asset was put to use will
be capitalised and a higher amount of depreciation will
be allowed.
• If the gestation period in an industry is more it is better to
use capital rather than loans.
• If interest is paid outside India tax must be deducted at
source. If tax is not deducted at source the amount paid as
interest will not be allowed as a deduction in computing
business income.
• The term interest is defined as “interest payable in any
manner in respect of any money borrowed or debt incurred
and included any service fee or other charge in respect of
the money borrowed or debt incurred or in respect of any
credit facility which has not been utilized”.
Hence not only interest but also service fee or other charge
on loans, whether utilized or not should be claimed as
revenue expense in computing the business income.
 TAX PLANNING RELATING TO DIVIDEND
POLICY
DIVIDEND:
In ordinary language dividend means the sum
received by a shareholder of a company on the
distribution of its profits, whether out of
taxable income or tax-free income. It is
immaterial whether it is received in cash or in
kind.
But as per different clauses of section 2(22), some distributions or payments
are termed as “Deemed dividend”. Following payments or distributions by
a company to its shareholders are deemed as dividends to the extent of
accumulated profits (whether capitalized or not) of the company –

a) any distribution entailing release of all (or any part) of the assets of the
company; 99
b) any distribution of debentures, debenture-stock, or deposit certificates in
any form (whether with or without interest), and any distribution of bonus
shares to preference shareholders of the company;
c) any distribution on liquidation of the company;
d) any distribution on the reduction of capital of the company;
e) any sum of money paid by a closely-held company after May 31, 1987, by
way of advance or loan to a shareholder having substantial interest.

The following will not be termed as dividend –

1. Any payment made by a company on purchase of its own shares from a
shareholder in accordance with the provisions of section 77A of the
Companies Act, 1956;
2. Any distribution of shares pursuant to a demerger by the resulting
company to the shareholders of the demerged company (whether or not
there is a reduction of capital in the demerged company).
Accumulated Profits:
1. It shall not include capital gains arising till March 1946, or during
April 1, 1948 and March 31, 1956.
2. For the purpose of section 2(22)(a), (b), (d) and (e), ‘accumulated
profits’ include all profits of the company up to the date of
distribution or payment referred to in those sub-clauses.
3. For the purpose of section 2(22)(c), ‘accumulated profits’ include all
profits of the company up to the date of liquidation. However,
where the liquidation is consequent on the compulsory acquisition
of its undertaking by the Government (or a corporation owned or
controlled by the Government) under any law for the time being in
force, ‘accumulated profits’ does not include profits of the company
prior to 3 successive previous years immediately preceding the
previous year in which such acquisition took place. For example, if
an accounting year of a company is financial year and compulsory
acquisition takes place on January 21, 2016, its accumulated profits
will exclude profits accumulated up to March 31, 2012.
Taxability of dividend
1. Dividend received from a foreign company:
Dividend received from a foreign company is taxable in the hands of
shareholders.
2.Dividend received from a domestic company:
• Actual dividend:
Actual dividend received from a domestic company is exempt in the
hands of shareholders under section 10(34). However, the company
declaring dividend has to pay corporate dividend tax under section
115-O @ 20.358% (12% + 3%) for the assessment year 2017-2018.

• Deemed dividend:
i. Deemed dividend under section 2(22)(a), (b), (c) and (d):
If deemed dividend is covered under clause 2(22)(a), (b), (c) or (d),
then it is exempt in the hands of shareholders under section 10(34).
However, the payer company has to pay CDT/ DDT (corporate
dividend tax/ dividend distribution tax) under section 115-O @
20.358% for the assessment year 2017-18.
 ii. Deemed dividend under section 2(22)(e): Deemed dividend
under this clause is taxable in the hands of shareholders under the
head “Income from other sources”. On such dividends, company
paying dividend has to deduct tax at source under section 194 @
10% on behalf of the assessee and assessee has to include this
income as deemed dividend income under the head “Income from
other sources” which will be taxable depending upon the tax slab
applicable for the assessee.
• With effect from assessment year 2017-18, aggregate dividend
income from domestic companies [except deemed dividend under
section 2(22)(e)] in excess of Rs. 10,00,000 is chargeable to tax @
10% + Surcharge (if applicable) + Cess @ 3% under section
115BBDA. This section is applicable for resident individuals,
resident HUFs and resident firms.
 TAX PLANNING
1. A domestic company may issue bonus to its equity shareholders in
lieu of dividend in cash. By this method it can avoid the tax u/s 115-
O on dividend distributed. However it will increase the tax liability
of its shareholders.
2. Payment made by closely held company to a shareholder who is the
beneficial owner of not less than 10% of the equity shares of the
company or on his behalf or on his benefit, it is deemed to be
dividends to the extent of accumulated profits. This deemed
dividend is not exempted from tax. Such a shareholder should not
take loan from the company or ask the company to make payment
on his behalf or for his benefit. However he should reduce his
shareholding to less than 10% of equity share capital to avail such
facilities.
3. Where a loan in the hands of a shareholder , mentioned in 2,has
been taxed as deemed dividend, such loan should not be repaid to
the closely-held company. It should be adjusted against the
dividends declared by the company in future. The dividend declared
in future and adjusted against the loan is not treated as dividend
declared . Thus double taxation liability can be avoided.
 INTER- CORPORATE DIVIDENDS
• When a company receives dividend from another
company it is known ad inter-corporate dividend.
TAX LIABILITY:
When a company receives dividend(including
deemed dividend)from another domestic
company(except loan from closely-held
company)it is exempt u/s 10(34). However
domestic company who is declaring, distributing
or paying dividend is liable to pay tax on such
amount u/s 115-O in addition to tax on its total
income.
 TAX PLANNING RELATING TO BONUS
SHARES
• BONUS SHARES:

 Bonus shares are those shares issued by the company to its existing
shareholders for free of cost by capitalizing companies profits and
reserves.
 When bonus shares are issued to equity shareholders, the value of such
shares is not taxed as dividend distributed. However when redeemable
preference shares are issued as bonus shares,on their redemption, the
amount shall be taxed as dividend distributed.
 Where the bonus shares are issued to preference shareholders, on their
issue it is deemed to be dividend and liable to tax.
 But for the purpose of capital gains, cost of acquisition of bonus shares
received on or after April 1 ,2001 is taken as nil. But cost of acquisition of
bonus shares received before April 1, 2001 is taken as fair market value of
such shares on April 1, 2001.
 TAX PLANNING
 A preference shareholder may first convert preference shares into
equity shares and thereafter receive bonus shares. This will reduce
the tax liability at least at the time of bonus issue.
 A company may capitalize its profits by converting partly paid
shares into fully paid shares instead of issue of bonus shares. This
conversion will not be a deemed dividend. Further, the benefit of
indexation for the price paid by the shareholder will be available
from the date of allotment of shares.
 An equity shareholder may transfer his bonus shares after 1year
from allotment to a firm /AOP as capital contribution. The amount
recorded in the books of firm or AOP for such shares will be the
cost of acquisition for the firm /AOP and long term capital gain to
the transferor. Now when the firm/AOP sell these shares as long
term capital asset it will be entitled to deduct the indexed cost of
acquisition instead of nil cost as applicable to equity shareholders(if
bonus shares received on or after 1st April 2001).
 Where bonus shares are received by a firm it may
transfer such shares to partners by sale. When
such shares are transferred by sale, the buyer will
get the benefit of indexation of cost.
 When company issue equity shares as bonus
shares. If the shareholder sells these shares after
holding for more than 12months and pays
securities transaction tax, the LTCG will be
exempt u/s 10(38). If he sells these shares as
short-term capital asset and pays securities
transaction tax, the STCG will be liable to tax
@15%+ surcharge if any+ education cess.
 TAX PLANNING THROUGH PURCHASE OF OWN
SHARES INSTEAD OF DISTRIBUTION OF DIVIDEND
• Where a domestic company distributes dividends to its
shareholders, the company is liable to pay tax on dividend
distributed u/s 115-O. However, purchase of own shares by
a company from shareholders is not deemed to be dividend
distribution.
• Thus if a company purchases its own shares instead of
distributing dividend, it can reduce its tax liability.
• If an unlisted company purchases its own shares, the
consideration paid in excess of the sum received by the
company at the time of issue of such shares will be charged
to tax. The company shall be liable to pay tax @ 20% plus
12% surcharge and 3% education cess u/s 115QA.
• A company can also issue bonus debentures instead of
bonus shares so that it can reduce future tax liability. This is
because interest on debentures is deductible expense for
tax purpose while dividend is not a deductible item.