An individual taxpayer may have multiple sources of income that are subject to tax in India. Income that isn't covered under salary, house property, capital gains and business or profession, can be classified under ‘other sources’. For an individual, this head primarily includes incomes earned on savings and investments. This may be in the form of interest income from bank accounts, fixed deposits and dividends earned from investments made in India.

The applicable tax rates on such incomes may vary under the provisions of the Income-tax Act, 1961 (Act) and the applicable Double Taxation Avoidance Agreement (DTAA)/ tax treaty which India has with various countries for an individual who qualifies as a Non-resident (NR) of India (and a Resident of any other country) vis-à-vis an individual who qualifies as a Resident of India (not having any cross-border tax implications). Here, it is important to understand who qualifies as an NR of India under the Act.

An NR not only includes an Indian citizen who stays outside of India (commonly referred to as Non-resident Indians or NRI) due to educational, employment, or business reasons but it also includes all individuals (including foreign nationals) who may have visited India in a particular financial year but do not satisfy the physical presence test as laid down in the Act.

To assess the residential status, an individual must refer to Section 6 of the Act which lays down the principles based on which residential status is determined in India for each financial year. This assessment is important to correctly determine the scope of taxability, rate of applicable tax, disclosure requirements and type of tax return form to be used for filing the Income-tax Return (ITR) in India.

Once the residential status is assessed, an individual should identify different sources of income in India to ensure appropriate disclosure in the ITR form and payment of tax at applicable rates in the case of NR. The two most common types of income for an NRI under the head ‘other sources’ are (i) interest income from bank accounts and fixed deposits; and (ii) dividend income from investments made in India in shares of Indian companies and units of mutual funds. The impact on taxability, disclosure requirements in the ITR form and other caution points have been discussed below.

TAXABILITY

1. INTEREST INCOME FROM BANK ACCOUNTS AND FIXED DEPOSITS:

An Indian citizen going abroad for education/employment/ business reasons is required to convert his savings bank account into specified non-resident accounts as per the provisions of the Foreign Exchange Management Act, 1999 (FEMA). Some of the commonly used accounts are Non-resident Ordinary (NRO) account and Non-resident External (NRE) account whereas Foreign Currency Non-resident (FCNR) account is used to open a fixed deposit account in foreign currency.

Interest income earned on the NRO account is fully taxable in the hands of the NR at applicable rates and is subject to TDS deduction by the bank. Interest income earned on an NRE account is exempt from tax as per Section 10(4)(ii) of the Act provided that the individual qualifies as an NR as per the provisions of FEMA or is permitted by the Reserve Bank of India to maintain such account. Further, interest income earned on the FCNR account is exempt from tax as per Section 10(15)(iv)(fa) of the Act for an individual who qualifies as an NR or Resident but is Not Ordinarily Resident of India as per Section 6 of the Act.

One may also refer to the provisions of applicable DTAA to see if the interest income is taxable at a more beneficial rate for the NR. For example, as per DTAA between India and the US, interest income arising in India and paid to an individual who qualifies as an NR of India and also as a Resident of the US may be taxable at the rate of 15% as per the DTAA even though the maximum rate of tax in India as per the Act maybe 30% plus surcharge (as applicable) and cess. In this case, the NR can avail benefits under the DTAA as it is more beneficial for him. However, the NR will need to obtain a Tax Residency Certificate (TRC) from the US tax authorities and furnish the same to Indian tax authorities in case asked for. Further, one also needs to check whether a Form 10F is required to be filed in addition to TRC. The NR, however, may need to analyze the cost and effort of obtaining a TRC in the US vis-à-vis the tax savings in India if a beneficial tax rate as per DTAA is opted for.

2. DIVIDEND INCOME FROM INVESTMENT MADE IN SHARES OF AN INDIAN COMPANY OR UNITS OF MUTUAL FUND:

For an NR, dividend income from investments made in India is usually taxable at 20% without providing for any deductions available under the Act. For example, an NR who has only a dividend income in India of INR 10,00,000 will be liable to pay taxes of INR 2,08,000 (20% tax + 4% cess) without deducting any amount towards investment made in the form of life insurance premium, public provident fund, national pension system etc.

Continuing with the example of DTAA between India and the US, a dividend paid by an Indian company to an individual who qualifies as an NR of India and a Resident of the US may be taxable at 25%. Under this scenario, the NR may opt to pay taxes at the rate of 20% (plus cess) as per the provisions of the Act, as those provisions are more beneficial for him.

Any balance taxes remaining payable after deduction of TDS, as applicable, by the payer of the above incomes can be discharged by paying advance tax or as self-assessment tax before filing ITR in India. Any delay in payment of advance tax or self-assessment tax will attract interest for late payment of tax, as per the relevant provisions under the Act.

DISCLOSURE IN ITR FORM

While the payment of taxes at the correct rates is most important, disclosure of income under appropriate schedules of the ITR form is also very important to ensure administrative compliance which will help to avoid unnecessary queries from the Indian tax authorities. For example, the NR should report dividend income under the column ‘income chargeable at special rates in the schedule for Income from other sources to ensure that the tax return utility of the Indian tax authorities calculates the applicable taxes at 20% of such dividend income. Similarly, where a beneficial tax rate under the applicable DTAA is opted, the NR should report the income under the schedule ‘Special Income’ of the ITR form. Even if the income is exempt in the hands of the NR, the same should be appropriately reported under the schedule ‘Exempt Income’ to ensure compliance.

OTHER CAUTION POINTS

1. With the introduction of the Annual Information Statement (AIS) and Taxpayer Information Summary (TIS), the Indian tax authorities have access to extensive information regarding the financial transactions of a taxpayer during a financial year. The individuals, especially NRIs living outside India, may have inadvertently omitted to report savings bank interest income or dividend income in their ITR due to a lack of access to their financial accounts in India.
However, the new AIS and TIS capture the details of all such incomes in one place making it easier for both the taxpayer and Indian tax authorities to have visibility of the source and quantum of income during a financial year. Thus, one must reconcile the information reported in AIS and TIS documents before filing the ITR, failing which, there is an increased risk of receiving a notice from the Indian tax authorities to explain the omission or variance in such documents vis-à-vis details reported in the ITR and the consequent impact of paying interest and penalty along with additional taxes on such income not disclosed earlier.

2. In case the NR estimates that his total income during a financial year will be taxable at a lower rate vis-à-vis the rate at which TDS is required to be deducted by the payer of income under the provisions of the Act, the NR can make an application before the India tax authorities to obtain a lower withholding certificate which will allow the payer of income to deduct TDS at a lower rate and thus save the administrative hassle for the NR to claim a refund in his ITR.

3. Selection of the correct type of ITR form is necessary to ensure administrative compliance. An NR is not eligible to file ITR-1 and ITR-4 forms since the same is applicable only to individuals who qualify as Resident and Ordinarily Resident of India. Therefore, an NR should carefully analyze his sources of income and select the correct type of ITR form which is applicable to him for a particular financial year.

Given the multifarious complexities in reporting requirements, it is always recommended to exercise caution while filing ITR which can help taxpayers to avoid the risk of not complying with the provisions of the tax laws.
With inputs from Akshay Sharma, Manager, People Advisory Services, EY India