What are demat shares and how is it different from holding the physical form of share certificates

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Like everything else, the influx of technology made its mark on the investment market. This advancement moved holding the documentary proof of shares from physical form to electronic form, known as “DEMAT” (Dematerialisation).

This article provides a brief overview on the demat form of holding shares.

How does the Depository system of holding shares work?

Under the Depository System of holding shares, a Depository Entity registered with SEBI holds the securities of the Company in a Demat form. Currently, NSDL (National Securities Depository Limited) and CDSL (Central Depository Securities Limited)  are the main Depositories in India. These Depositories appoint Depository Participants who are the middlemen between the investors and the Depository. All communications between the investors and the Depository are done through the Depository Participants. These participants are mainly Banks, Share Transfer Agents, Financial Institutions and other parties authorized by SEBI. Here, the Depository is the registered owner of the shares while the shareholder/investor is the Beneficial Owner. Any transaction involving securities regarding purchase, sale, transfer are done through the Depository.  

Effective from 10th September 2018, it has been made compulsory for unlisted public companies to make any public offer, offer for sale or rights issue only in Demat form, with an option for shareholders to decide if they want to receive the documentary title of ownership in Physical form or in Dematerialized form.

What is the benefit of holding shares in Demat format?

For Company

Share transactions mostly involve buy, sale or transfer of shares. Under the Demat form, all transactions relating to the shares can be maintained in a single system and easily recorded, tracked, monitored with no paperwork. Since the Depository Participant maintains up to date of all the share transactions undertaken by the shareholder, the whole process is transparent, extremely systematized and safe. Further, since all transactions are routed through the participant all information relating to shares can be accessed easily and hassle free. 

For Investors

Monitoring and constantly keeping a track of the large shareholder base is extremely difficult. Having an organized entity who records day to day transactions of shareholders helps Companies to efficiently keep a track of their shares.

It is now mandatory for all unlisted public companies to transfer/sell related transactions to happen in Demat form. By having an organized structure dedicated for this, the transfer or sale can happen sooner and more efficiently.

How does the Depository system work?

Companies dematting shares for the first time have to follow these steps:

Appointment of RTA

Firstly, the Company has to pass a Board resolution to convert the physical securities to Demat followed by appointing a Registrar and Transfer Agent (RTA) and an authorised signatory to sign the documents for the purpose of Dematerialisation of shares. After appointment of RTA, the company shall file an application along with relevant documents with the depository for obtaining DEMAT connectivity. The company then has to enter into a tripartite agreement with the RTA and the depository for dematerialisation of shares. After verification of the application and other documents, the depository will provide the DEMAT connectivity to the company and allocate ISIN (International Securities Identification Number) to the securities of the company

Open Demat Account

Once this is done, the shareholder of the company must open a Demat account with a Depository Participant. He should then fill a Dematerialization Request Form (DRF) and submit the same to the Depository Participant along with the physical share certificates for dematerialization. Before submission, the share certificates have to be defaced by writing “SURRENDERED FOR DEMATERIALISATION”

Verification of Documents

The Depository Participant will then verify all details submitted and upon satisfaction of all facts, set up a Demat request on the Depository System (CDSL or NSDL). This is then sent to the RTA.

Verification

The RTA will then verify the genuineness of the certificates and confirm the request.

Deface Physical Certificates

Once the request has been successfully made, the Depository Participant will deface and mutilate the physical certificates generating a Demat Request Number (DRN) sending an electronic communication to the Depository and couriering the Dematerialization Request Form and the share certificates to the Company.

Credit to Demat Account

On receiving confirmation, the Depository will credit the Demat account of the shareholder with the equivalent number of securities. The Depository will then electronically download the details of the demat request and communicate the same to the electronic registers maintained by the Registrar of Companies.

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Once these processes are complete, all physical share certificates will be destroyed.

How are shares transferred under the Demat form?

In a Purchase Transaction

If an investor wishes to purchase securities, the seller has to give instruction to his registered Depository Participant to debit his account and credit the purchaser/beneficiary owner account. The beneficiary owner then directs his depository participant to receive credit of the securities.

In a Sale Transaction

The shareholder wishing to sell the securities, should give a delivery instruction to the Depository Participant to debit his account and credit the purchaser’s account. These instructions have to be given to the Depository Participant at least 24 hours before receiving the payment against such sale.

The important point to note here is that the RTA must confirm from the Company and obtain the company’s approval before undertaking any transfer in the Demat mode.

Is stamp duty payable on Demat Shares?

Until recently, no stamp duty was payable on shares traded in Demat Form. However, recent amendments have made payment of stamp duty applicable on shares held under the Depository System as well.  For shares, held in Demat Form, the Depository is responsible to collect the stamp duty and remit the same to the respective government of – (i) the state where the buyer resides in case of an Indian buyer, (ii) state where the share broker or the depository participant of the buyer is located in case of a foreign buyer. Such stamp duty is payable by the Company on the market price of shares in respect of all share allotments made in the Demat Form.

While the procedure under Demat Form of shares looks more tedious, the benefits of transacting in this form are more. Demat Forms of shares are user friendly and most investors and stock brokers prefer dealing in Demat securities. This has also proven beneficial in foreign investment transactions.

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