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The aim of this paper is to provide a clear understandingof the concept of ‘deemed dividend’, under the income tax laws right from the Income Tax Act, 1922 to current provisions. The said analysis is done with the support of various judgments at various forums on the said aspect. After a detailed deliberation, we wish to conclude with our views on the said concept.


The term ‘Dividend’, as generally understood, Dividend generally means the sum paid to or received by the shareholder out of the total distributed profits of the company in proportion to his shareholding in that company. This kind of income is taxable income under income tax act and comes under the ambit of incomefrom other sources.

Interestingly, for the purpose of Indian tax laws, a dividend also includes ‘Deemed Dividend’ in its ambit and Income tax act deals with deemed dividend under section 2(22) (a) to 2(22) (e), which talks about the income which is considered as dividendsThis paper throws light on the taxability of deemed dividend.

However, before understanding the said aspect in detail, a few basic concepts about taxability of dividend under the income tax laws would be something of interest for the reader. The tax on any amounts which are declared, distributed or paid whether out of current or accumulated profits are to be paid by the company as per Section 115-O of Income Tax Act, 1961 (for brevity ‘Act’). This is normally known as Dividend Distribution Tax (DDT). This is in addition to the normal income tax payable by the company and not a substitute for the normal tax.

For understanding the intention for which Section 2(22) has been brought has been candidly explained by the Honourable Supreme Court in the matter of Navnit Lal C Javeri v KK Sen[1]as under:

The companies to which the impugned section applies are companies in which at least 75 per cent. of the voting power lies in the hands of persons other than the public, and that means that the companies are controlled by a group of persons allied together and having the same interest. In the case of such companies, the controlling group can do what it likes with the management of the company, its affairs and its profits within the limits of the Companies Act. It is for this group to determine whether the profits made by the company should be distributed as dividends or not. The declaration of dividend is entirely within the discretion of this group. When the legislature realised that though money was reasonably available with the company in the form of profits, those in charge of the company deliberately refused to distribute it as dividends to the shareholders, but adopted the device of advancing the said accumulated profits by way of loan or advance to one of its shareholders, it was plain that the object of such a loan or advance was to evade the payment of tax on accumulated profits under section 23A. It will be remembered that an advance or loan which falls within the mischief of the impugned section is advance or loan made by a company which does not normally deal in money-lending, and it is made with the full knowledge of the provisions contained in the impugned section. The object of keeping accumulated profits without distributing them obviously is to take the benefit of the lower rate of super-tax prescribed for companies. This object was defeated by section 23A which provides that in the case of undistributed profits, tax would be levied on the shareholders on the basis that the accumulated profits will be deemed to have been distributed amongst them.

With above in mind, let’s proceed scrutinizing Section 2(22)(e):

According to Section 2(22)(e), when a company in which the public are not substantially interested*, extends a loan or an advance to:

a. any of its shareholders who has more than 10% voting power in the company or

b. to any concern in which such shareholder is substantially interested or

c. for the individual benefit of such shareholder or

d. on behalf of such shareholder

to the extent the company has accumulated profits, such payment would be deemed as a dividend under Section 2(22)(e).

*a company in which public is not substantially interested is otherwise called a closely held company.

Thus, provisions of Section 2(22)(e) are applicable to all the corporate entities in which public is not substantially interested i.e. closely held companies only. Section 2(22)(e) of the Income Tax Act deals with the issue of “Deemed Dividend”. Nomenclature of this section connotes that this section has been brought on statue as “Deeming Fiction”. It means that the income termed as dividend is actually not dividend distributed by a closely held company but the amount paid is still treated as dividend and hence the term “Deemed Dividend”.

The fiction of deemed dividend is not restricted to a beneficial owner of shares only, but is extended to any concern also, in which such shareholder is a member or a partner and in which he has a substantial interest. Substantial interest means, that person is entitled to not less than 20% of the income of such concern.


The explanation 1 & 2 appended to Section 2(22)(e) defines accumulated profits and states that it will include all the profits i.e. commercial profits.

“Accumulated profits” mean commercial profits and not profits as assessed for income-tax purposes. From accumulated profits all “disbursements legitimately attributable to it by way of expenses, development, dividends and deemed dividends” must be reduced.

The apex court in the case of P.K. Badiani (1976)[2] has held that the term “Profits” appearing in Section 2(6a)(e) of Indian Income Tax Act’ 1922, which corresponds to Section 2(22)(e) of the 1961 Act, means profits in the commercial sense, i.e. profits made by company in the usual and true sense of the term. It has also been held that development rebate reserves created out of the company’s profits constitute a part of the accumulated profits of a company.

SC in CIT v. Damodaran[3]& CIT v. AshokbhaiChimanbhai[4]held that ‘accumulated profits’ cannot include current profits. However, Explanation 2 to section 2 (22) provides that the expression “accumulated profits” shall include all profits of the company up to the date of distribution or payment or liquidation.

These would include development rebate & investment allowance reserve. P. K. Badiani v. CIT 105 ITR 642(SC). It will even include income which is exempt from tax. Tea Estate v. CIT 103 ITR 785(SC).

Building & Machinery Depreciation fund not to be included in accumulated profits. CIT v. Jaldu Rama Rao 140 ITR 168 (Andhra Pradesh).

Depreciation calculated at income tax rates should be deducted in computing accumulated profits even if lower depreciation has been provided for in accounts. CIT v. Jamnadas 92 ITR 105 (Bom).

Share premium is not a part of accumulated profits. DCIT v. Maipo India Ltd.116 TTJ 791 (Delhi)


Therefore, it is clear that provisions of Section 2(22)(e) of 1961 Act, which is Pari-Materia with Section 2(6A) (e) of 1922 Act, plainly seeks to bring within the tax net accumulated profits which are distributed by closely held companies to its shareholder in the form of loans. The purpose being that persons who manage such closely held companies should not arrange their affairs in a manner that they assist the shareholder in avoiding the payment of taxes by having these companies pay or distribute, what would legitimately be dividend in the hands of the shareholder, money in the form of an advance or loan.


Following conditions must be satisfied:

  1. The company must be a company in which public are not substantially interested i.e. a closely held company[5]. It means that the company which is paying loan/advance should be a closely held company but the company which is receiving such loans/advances can be a public company or a listed company on the stock exchange.
  2. The borrower must be a shareholder having a substantial interest in the company on the date on which loan/ advance is given. (Not less than 10% of voting power).
  3. Loan advanced by company can be deemed to be dividend only to the extent the company possesses accumulated profits on the date of loan/advance being given.
  4. The loan must not have been advanced by company in the ordinary course of its business.
  5. Loan/advance given to a concern, in which share holder has substantial interest (entitled to 20% or more of the income of such concern).
  6. Loans and advances given during the year i.e. year under consideration can only be taken into account for the purpose of deemed dividend and loans and advances given in earlier years should not be added to the loans and advances of year under consideration.
  7. The loan or advance mentioned in Section 2(22)(e) includes any deposit including Inter Corporate Deposit (ICD).

Of all the above conditions, the condition pertaining to the ownership of shares is of contentious issue. The earlier provisions till 1961 was dealing with only shareholder and not qualified by any other phrase. Hence, issues arose, about the taxability of payments in case where companies advanced loan to beneficial shareholders but not registered shareholders.

From 1988, the definition was amended to include beneficial shareholders to plug the above loose ends. However, after such amendment, the courts have interpreted that nothing has changed post amendment and taxability arises only when the shareholders are both registered and beneficial. If shareholder is either registered or beneficial, the courts have held that there would not be any tax liability on such payments made by company. 


  • Companies to pay Dividend Distribution Tax under section 115-O of income tax act.
  • TDS under section 194- the officer of the company, which is paying dividend, is liable to deduct tax at source under section 194 of Income Tax Act before making any payment in respect of divided.
  • If a company fails to deduct the tax at source ‘S’ then such company may be liable to penalty under section 271C (1) (a) of amount equal to amount of tax which was supposed to be deducted.
  • If a company declares dividend & and such dividend is set off against the advances, then the dividend so adjusted against the advance will not be treated again as dividend.


  • Deemed dividends are to be declared as income under the head of income from other sources.
  • No special rates are charged on deemed dividends and it is charged as normal income tax rate.


Payment under circumstances specified below will not be treated as deemed dividend.

  1. Loan given by a company involved in money lending, where loans have been extended in the ordinary course of business
  2. Loan extended to shareholders, subsequently adjusted against dividend declared and distributed later.


Earlier (prior to 1 April 2018), companies that pay out deemed dividends would not pay DDT on such payments. However, Budget 2018 introduced an amendment to Section 115-O that addresses this. It mandated such companies to pay DDT at the rate of 30% plus applicable surcharge and cess on transactions carried out on or after 1 April 2018.  As a result, the shareholder doesn’t have to pay any taxes on such receipts.

This amendment has been introduced because the taxability of deemed dividend in the hands of recipient made tax collection on it from the shareholder difficult. Further, deemed dividend taxability itself was also a matter of extensive litigation. The amendment has put all this to rest.


Sadhna Textile Mills (p) Ltd. vs. CIT(1991)

Bombay High Court in the case of Sadhna Textile Mills (p) Ltd. vs. CIT 188 ITR 318 [6]has dealt with question of holding and subsidiary companies and has held that section 2(22)(e) applies to a holding company and a subsidiary company. Therefore, High Court in this case has held that loan given by subsidiary company to the holding company would fall within the ambit of Section 2(22)(e). (Explanation 3 appended to Section 2(22)(e) defines concern and it means a HUF, or a firm or an AOP or BOI or a company. Explanation 3 also defines substantial interest in a concern other than a company means beneficially entitled to not less than 20% of the income of such concern.)

Tarulata Shyam & Ors. Vs CIT[7](SC)

 “Loan advanced to a shareholder was re-paid within 23 days still deemed dividend under Section 2(22)(e)- If the assessee comes under the letter of law, he has to be taxed, however great the hardship may appear to the judicial mind to be.” (all the loan/advances given by closely held company to its shareholder are treated as deemed dividend in the hands of shareholder.)

Sarathy Mudaliar’s case

This issue has first come up before the Honourable Supreme Court in the matter of CIT, Andhra Pradesh v CP Sarathy Mudaliar[8]. The said matter was under the provisions of Income Tax Act, 1922. The phrase ‘dividend’ has been laid under Section 2(6A) of the said Act. The said definition has only stated that advance to a shareholder is considered as dividend and nowhere mentioned that the shareholder should be a registered or beneficial shareholder. In such context, the Honourable Supreme Court was called upon to interpret the phrase ‘dividend’.

In the facts of the case, the company has advanced a loan to Hindu Divided Family (HUF). The members of HUF were the shareholders of the company. The matter before the apex court is whether loan provided to HUF which is not the registered shareholder of the company can be called as dividend for the purposes of Section 2(6A).

The apex court has held the intention of insertion of Section 2(6A) on the statute book is to include certain payments which are not normally understood as dividends to be dividends. Hence, the said section requires strict interpretation. Since the definition nowhere used the phrase beneficial shareholder, it has to be understood that the definition meant only registered shareholders. Since the HUF is not and cannot be a registered shareholder of the company, the loan provided by the company to HUF cannot be called as ‘dividend’ since HUF is not a shareholder.

Madhur Housing and Development Company’s case[9]

The said matter was before the Honourable Apex Court. The Apex court after hearing the arguments made by both the parties, has confirmed the decision in the case of Ankitech Private Limited passed by Delhi High Court and agreed that the for the purposes of Section 2(22)(e) that shareholder should be both registered and beneficial and if the shareholder is beneficial and not registered, then the provisions will fail and vice versa.

National Travel Service’s case[10]

The said interpretation which was confirmed by Delhi High Court in the case of Ankitech (supra) and Supreme Court in the case of Madhur Housing and Development Company (supra), came upon for consideration again in the instant case in National Travel Service.

The apex court after considering all the above judgments has held that it will be very hard and defeating to accept the judgment in the matters of Ankitech and Madhur Housing and Development Company. The reasoning is as under:

This is why “shareholder” now, post amendment, has only to be a person who is the beneficial owner of shares. One cannot be a registered owner and beneficial owner in the sense of a beneficiary of a trust or otherwise at the same time. It is clear therefore that the moment there is a shareholder, who need not necessarily be a member of the Company on its register, who is the beneficial owner of shares, the Section gets attracted without more. To state, therefore, that two conditions have to be satisfied, namely, that the shareholder must first be a registered shareholder and thereafter, also be a beneficial owner is not only mutually contradictory but is plainly incorrect. Also, what is important is the addition, by way of amendment, of such beneficial owner holding not less than 10% of voting power. This is another indicator that the amendment speaks only of a beneficial shareholder who can compel the registered owner to vote in a particular way, as has been held in a catena of decisions starting from Mathalone vs. Bombay Life Assurance Co. Ltd., [1954] SCR 117.

The apex court has found that the judgment in the case of Ankitech (supra) and Madhur Housing and Development Company (supra) to be incorrect since the amendment has been made with an intention to bring in the beneficial shareholder into the ambit and nothing to do with the registration of such shareholder. The apex court judgment authored by Justice R F Nariman states that once a shareholder is beneficial owner, then the section attracts despite of the fact that he is not a member in the register of the company.


It was held“S. 2(22)(e) is a deeming provision & should be construed strictly. The section uses the expression "by way of advances or loans" which shows that all payments received from the sister company cannot be treated as deemed dividend but only payments which bear the characteristics of loans and advances. Under the law, all loans and advances are debts, but all debts are not loans and advances. The term 'loans and advances' is not defined & has to be understood in the commercial sense. Advances given for purely temporary financial accommodation for business purposes does not attract the deeming fiction”


As laid by the Honourable Supreme Court in the case of SarathyMudaliar’s case, the act defines certain payments as dividends even if the said payments are not understood regularly as dividends. Hence, the section dealing with the definition of ‘dividend’ has to be construed strictly. On the other hand, even the Apex Court asks us to construe the provision strictly, before taking a decision whether payments would fall under the mischief of ‘dividend’ as per Section 2(22)(e), it is highly recommended to keep the legislative intention in the backdrop. A neat balance has to be drawn between both of them and see whether the payments are falling under the ambit of this particular anti-avoidance provision.

[1]1964 (10) TMI 16 – SC - The judgment was in context of Income Tax Act, 1922 where Section 2(6A) was in place of 2(22) and 23A in place of 115 O

[2]105 ITR 642

[3]121 ITR 572

[4]56 ITR 42 

[5]The phrase ‘company in which public are substantially interested’ is defined vide Section 2(18) of Act herein used.

[6]188 ITR 318

[7](SC) 108 ITR 345

[8]1971 (10) TMI 8 - SC

[9]2017 (10) TMI 1279 – SC

[10]2018 (1) TMI 1159 – SC


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