Dividend Stripping Definition : Dividend stripping is a tax liability reduction strategy, wherein investors take advantage of Income Tax laws. The investor gets tax free dividend by investing in securities (shares, units) before the record date and exiting after the record date, at a lower price thus incurring a short-term capital loss. This loss is set off (or carried forward) as per tax laws to reduce tax burden. Explanation: The payment of dividends brings down the share price to reflect the dividend payout. By buying shares when they are cum-dividend and selling when they become ex-dividend, investors incur a short-term capital loss. The investor earns a tax-free/exempt dividend or income [under sections 10(34) and 10(35) of the IT Act]. However, Section 94(7) of the IT Act disallows set-off benefits on any short-term capital loss if the shares were acquired within three months before the record date or sold within three months after the record date. Record date is the date fixed by a Company or Mutual Fund for the purposes of entitlement of the holders of the securities/units to receive dividends or income. Example : A person buys a company’s share at Rs. 105 and the company declares a dividend of Rs. 3 per share (for which income tax is exempt). He exits from the shares post dividend, when the share price goes down to Rs. 102 per share. In this case the investor achieves two benefits: Receives the tax-free dividend of Rs. 3 and also takes advantage of a short-term capital loss of Rs. 3.
Posted on: Sun, 04 Jan 2015 03:40:32 +0000
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