ACCA Advanced Taxation (ATX) Practice Exam

Which statement is true regarding dividends reinvested from a SIP?

1. They are taxable

2. They are tax-free if reinvested

3. They can be withdrawn at any time

4. They must be kept in a separate investment account

The correct answer is: They are tax-free if reinvested

The statement that dividends reinvested from a Systematic Investment Plan (SIP) are tax-free if reinvested is accurate because, in many tax jurisdictions, the act of reinvesting dividends does not trigger immediate taxation. When dividends are reinvested, investors purchase additional shares or units in the investment without receiving the cash, which may defer capital gains tax until the shares are sold. Tax policies often allow this deferral as reinvested dividends are not considered income at the time of reinvestment. This provides an incentive for investors to grow their investments over time without incurring tax liabilities on the reinvested amounts. Considering the other options, dividends being taxable would mean that the investor would owe tax on them immediately when declared or paid, which contrasts with the concept of reinvestment preventing immediate tax. The ability to withdraw at any time typically pertains to the overall investment rather than the reinvested dividends specifically, which may have restrictions depending on the SIP terms. Lastly, the requirement to maintain reinvested dividends in a separate investment account is not a standard practice; instead, reinvested dividends usually continue to be part of the primary investment and are not mandated to be separated. Thus, the feature of tax-free reinvestment stands