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In a significant ruling, the Supreme Court has ruled that taxpayers can legally
reduce their liability through dividend-stripping, a term used for selling
mutual fund units at a discount post-dividend. An apex court bench headed
by Chief Justice SH Kapadia has said there is nothing wrong in dividend-stripping
after getting the tax benefits. The bench further said such dividend stripping after
availing of the tax rebates cannot be termed as abuse of law.
The court further said the income tax department cannot term the loss
occurred after such transaction is not a valid transaction as it has been
pre-planned one.
The court also said only in certain cases where the purchase price includes the
right to receive “crystallised and accrued dividend, that have already accrued and
become due for payment before the date of purchase of the units, that the same
has got be reduced from the purchase of the investment”.
The order came over a petition filed by the IT department challenging the orders
of the Bombay High Court. The case dates back to 2000, when the brokerage
house Walfort Share & Stock had bought tax-free dividends from Chola Freedom
Technology Mutual Fund at a unit price of Rs 17.23. As per the terms and
conditions, the brokerage house got 40 percent tax concession from the deal.
Three days after the deal, they sold it at Rs 13.23 a unit, thus incurring losses.
When the firm filed its annual returns then it got the benefits under section 10
(33) of the Income Tax Act, but the department declined to adjust the loss
suffered in dividend-stripping, contending that it was not a business transaction
but a pre-designed artificial loss.