Section 194K of Income Tax Act

In the budget for 2020, Nirmala Sitharaman recommended the addition of Section 194K to the Finance Act. This clause lets any resident individual deduct the amount paid on mutual fund units up to a specific limit. 

What is the 194K of the Income Tax Act?

Dividend Distribution Tax (DDT) was eliminated as part of Budget 2020, which is effective as of April 1, 2020, or FY 2020–21. The dividends paid on the equity shares and mutual funds that were formerly exempt under Section 10(35) of the Income Tax Act are consequently now subject to slab rates of taxation.

In the shareholder's hands, it is taxable. TDS would be required because the income would be taxable in the shareholder's hands. In order to deduct TDS on Mutual Fund, the Finance Minister created a new Section 194K TDS.

The payer of mutual fund dividends is required to deduct TDS pursuant to Section 194K. If a resident shareholder receives more than INR 5,000 in dividends within a fiscal year, a deduction of 10% on the total amount of dividends is only applicable. Beginning on April 1, 2020, or beginning with FY 2020–21, Section 194K will be in effect.

Types of Income from Mutual Funds Investments

1) Capital Gain

Capital gains would be taxed in the hands of the taxpayer under the income tax law of the government. If the long-term capital gains from equity-oriented mutual funds are more than a lakh for a year, then the profits would be taxed at the rate of 10%.

Likely, any short-term capital gains that are made through STT-eligible equity-oriented mutual funds would be taxed at a 15% rate. 

However, under Section 194K, a mutual fund is not needed to deduct the TDS on capital gains from the holder's redemptions.

2) Dividend

The existing income tax law does impose a tax on the dividends paid on behalf of the investor by the fund houses or AMCs. Based on the budget for 2020 - DDT is no more valid. Dividend income would be taxable to the receiver. The new TDS Section of the Finance Act compels mutual funds to withhold the TDS while issuing dividends to the unit holders in excess of Rs. 5,000.

Who is Eligible for Section 194K

Anyone who has the responsibility of paying a resident any income that concerns the following could deduct TDS while crediting such income to the payee's account or making the payments by the mode:

  1. a) Mutual fund units
  2. b) Specific or any particular company's units.
  3. c) Administrator units from a specified undertaking.

Exceptions of Section 194K

In the following circumstances, TDS under Section 194K is not required to be withheld:

  • If the dividend income is lesser than Rs 5,000 in a fiscal year, no source deduction of tax of 10% is necessary.
  • Income from capital gains is likewise exempt from Section 194K's application.

Rate of Section 194K

10% is the applicable rate of deduction as specified by section 194K. The TDS deduction will appear in Form 26AS after it has been made. If the ultimate tax due is less than what was actually deducted or if there is no overall tax burden, investors may file their income tax return.

If the investor has given the deductor their PAN and Aadhar number, the rate of 10% is applied. The relevant rate of TDS is 20% when the deductor is not furnished with a PAN or Aadhaar Number. Since a PAN must be provided in order to create a mutual fund, higher TDS cases are uncommon.

Penalties for Non-Deposit of TDS

All dividend payments from mutual fund schemes must adhere to the requirements of section 194K. The investment will incur interest and a penalty if the TDS is not paid or deducted. The same specifics are listed below.

  • If TDS is not deducted, interest at the rate of 1% is assessed. For every month or a part of the month, this interest is levied from the day the tax was deductible until it is really deductible.
  • If TDS is not paid after the tax is devoted, interest at a rate of 1.5% is assessed. Every month or portion of a month, this interest is charged from the moment the tax was deducted until the time the tax is paid to the government.
  • For failure to pay or failure to deduct TDS, a penalty under section 271C is also payable in addition to the interest amount. The fine will be in an amount equal to the TDS that was not withheld or paid to the government.
  • The disallowance of the expenses under section 40(a) will also result from the non-deduction and non-payment of TDS (ia).
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