Foreign Subsidiary Dividends: Tax Treatment, FTC Mechanics, and the Section 80M Gap for AY 2025-26
Introduction: A Structural Fault Line in India's Dividend Taxation Framework
When India dismantled the Dividend Distribution Tax (DDT) regime and transitioned to the classical system of dividend taxation beginning from A.Y. 2021-22, the move was heralded as a landmark structural overhaul of the country's direct tax architecture. Under the classical system, dividends flow into the hands of shareholders and are taxed at the recipient's applicable rate — a departure from the earlier regime where the distributing company bore the tax burden.
To cushion the blow of potential multi-layered taxation within domestic corporate groups, the legislature introduced Section 80M of the Income Tax Act, 1961. This provision was designed to prevent the same pool of profits from being taxed repeatedly as dividends cascade upward through a chain of Indian companies.
However, a glaring structural asymmetry persists — one that strikes at the heart of India's ambition to nurture globally competitive multinationals. When an Indian parent company receives dividends not from a domestic subsidiary but from a foreign subsidiary, the protection offered by Section 80M simply does not extend to it. The result is a layered tax burden that the Foreign Tax Credit (FTC) mechanism attempts — but often fails entirely — to neutralize.
This article offers a detailed examination of how dividends received from foreign subsidiaries are taxed for Assessment Year 2025-26, the role and limitations of the FTC framework under Sections 90 and 91 of the Income Tax Act, 1961, and the unresolved policy gap that continues to disadvantage Indian multinationals operating across borders.
The Classical System: How Dividends Are Taxed Today
Taxability in the Hands of the Recipient
Under the current regime, any dividend declared, distributed, or paid by a company — whether Indian or foreign — is chargeable to tax in the hands of the recipient assessee under the head "Income from Other Sources" as per the provisions of the Income Tax Act, 1961.
For Indian corporate assessees, this translates into taxation at the applicable corporate rate:
- 22% + surcharge + cess for companies opting under
Section 115BAA - 25% + surcharge + cess for eligible domestic companies under
Section 115BABor the standard corporate slab
Permissible Deduction Under Section 57
The only expense-related relief available against dividend income is governed by Section 57 of the Income Tax Act, 1961, which permits a deduction for interest expenditure incurred exclusively for earning such dividend income. Critically, this deduction is capped at 20% of the total dividend income received. No other expenditure — administrative, managerial, or otherwise — qualifies for deduction.
This framework applies uniformly to dividends from both domestic and foreign companies, but the absence of additional relief mechanisms for foreign dividends is where the asymmetry begins to bite.
Section 80M: A Domestic Shield with No Foreign Cover
What Section 80M Provides
Section 80M of the Income Tax Act, 1961 was reintroduced with effect from A.Y. 2021-22 with a focused objective — to break the chain of cascading dividend taxation within domestic corporate structures.
The provision operates as follows: where a domestic company receives dividend income from another domestic company, and it in turn declares, distributes, or pays a dividend to its own shareholders on or before the due date for filing its return of income, a deduction equal to the dividend so paid out is allowed from the dividend income it received. The net effect is that only the retained portion of the dividend — the amount not passed on — is ultimately subject to tax in the hands of the intermediate holding company.