Many taxpayers invest in shares and mutual funds using borrowed funds. Till now, the Income-tax law allowed a limited deduction of interest paid on such borrowings against dividend income. The Finance Bill, 2026 has removed this benefit. Though the change looks small, it can materially increase the tax outflow for several taxpayers. This article explains the amendment in simple terms.
What Was Allowed Earlier?
Earlier, interest paid on money borrowed for earning dividend income or income from mutual fund units was allowed as a deduction.
However, the deduction was restricted to 20% of the gross dividend income.
This provision provided partial relief to taxpayers who had borrowed funds for investments.
What Has Changed Now?
The Finance Bill, 2026 has proposed that no interest deduction shall be allowed against dividend income or income from mutual fund units.
In other words, even if the investment is fully funded through borrowings, the entire dividend income will now be taxed without any reduction for interest cost.
Who Will Be Affected the Most?
This change will mainly impact:
- Individuals who have taken loans to invest in shares or mutual funds
- HUFs earning regular dividend income
- Taxpayers using overdraft or margin funding facilities
- Family investment structures where leverage is used
For such taxpayers, dividend income will now be taxed on a gross basis.
Simple Example
An individual earns dividend income of ₹5,00,000 during the year.
Interest paid on borrowed funds used for investments is ₹1,50,000.
Earlier position:
Maximum deduction allowed = 20% of ₹5,00,000 = ₹1,00,000
Taxable dividend income = ₹4,00,000
New position:
No interest deduction allowed
Taxable dividend income = ₹5,00,000
The entire interest cost becomes a dead expense for tax purposes.
Does This Affect Capital Gains?
No.
This amendment applies only to dividend income and income from mutual fund units.
Interest relating to shares or units sold may still be considered while computing capital gains, subject to existing provisions.
Practical Points to Consider
- Dividend income will now increase taxable income directly
- Loan-funded dividend strategies become tax-inefficient
- Taxpayers may need to revisit leveraged investment structures
- Advance tax calculations should factor in higher tax liability
Conclusion
The withdrawal of interest deduction against dividend income under Finance Bill, 2026 is a clear shift towards taxing dividends on a gross basis.
Taxpayers who rely on borrowed funds for investments should reassess their strategy and factor in the higher tax cost going forward.
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