What NRIs need to know about Indian income tax rules

NRIs can improve financial results in India by knowing the tax implications of various investments and taking strategic approaches.

Navigating financial planning as a Non-Resident Indian (NRI) involves understanding various tax implications and leveraging available exemptions to optimise returns. Investment options are plenty for NRIs in India, but effective financial management boils down to choosing tax-efficient strategies.

Taxable income for NRIs in India

Income earned or accrued in India is taxable for NRIs. Unlike resident Indians, whose taxes are based on global income, NRIs are only liable to pay taxes on income generated within India. Understanding this distinction helps NRIs structure their investments more effectively.

Further, NRIs have to ascertain their residential status under the Income Tax Act for a particular financial year. The number of days spent in India determines this status, which in turn determines tax liability. NRIs must be aware of the changes in these rules.

Bank accounts and fixed deposits

NRE and NRO accounts

NRIs can opt for Non-Resident External (NRE) or/and Non-Resident Ordinary (NRO) accounts.

• NRE accounts: These account types are entirely repatriable, and they allow for all interest earned fully tax-free back in India, making them thoroughly tax-efficient means of parking one's foreign income.
• NRO accounts: Intended to manage the income generated in India, be it rent, pension, or any other form of income. The interest income from NRO accounts attracts 30 percent tax deducted at source (TDS) along with surcharges and cess, although if the income is below Rs 2.5 lakh in a year, NRIs can file their return and get back the TDS.

Fixed deposits

NRE and FCNR deposits: The interest on these deposits is tax-free, making it an attractive investment avenue as it is tax-effective.
NRO fixed deposits: The interest is taxable at 30 percent as in NRO accounts.

The other aspect that NRIs should be cautious about is the currency risk that comes with NRE and FCNR deposits as the returns are directly related to the currency fluctuation. This can be avoided with proper planning.

Mutual funds

For NRIs, investment in mutual funds in India attracts the same taxation rules as applied to resident Indians:

• Equity-oriented funds: Long-term capital gains (LTCG) above Rs 1.25 lakh and held for more than one year are taxed at 12.5 percent. STCG attracts a tax rate of 20 percent. Debt-oriented funds: The gains are added to the income and taxed accordingly irrespective of the holding period.
• NRIs can consider opting for Systematic Investment Plans (SIPs) in mutual funds to invest regularly and reduce the impact of market volatility.

Real estate

Real estate is a popular investment avenue for NRIs, but it comes with specific tax implications:

Rental income: Fully taxable as per income tax slab rates. Proper documentation of municipal taxes and home loan interest can reduce taxable income.

Capital gains

• Short-term capital gains, where the property is held for less than two years, are taxed as per slab rates.
• As per Union Budget 2024, long-term capital gains, where the property is held for more than two years, are taxed at 12.5 percent without indexation benefits. NRIs can claim exemptions under Section 54 by reinvesting in residential property or investing in Section 54EC bonds.To further optimise tax efficiency, NRIs should consider the advantages of joint ownership with resident family members, as this can better distribute tax liabilities.

Bonds

Bonds are a stable and tax-efficient investment for NRIs:

• Government and PSU bonds: Investments through NRE accounts earn tax-free interest.
• Capital gain bonds: Under Section 54EC, NRIs can invest up to Rs 50 lakh in bonds issued by NHAI, REC, etc. The income from these bonds is tax-free and locked for 5 years with a yield of about 5.25 percent per annum.Besides, NRIs can also look into sovereign gold bonds (SGBs), which bring capital appreciation with periodic interest, besides being tax-free at redemption. Additional tax-efficient options  
• Double Taxation Avoidance Agreement: The provisions under the respective DTAA will be beneficial to avoid taxing the same income in India and in the resident country.
• Tax-free instruments: One should concentrate on NRE accounts and FCNR deposits that offer tax-free returns.
• Investment planning: It would be tax-efficient if investments were done according to financial goals.
• Professional advice: Tax and financial advisors can help in keeping up with the changing tax laws and even optimise investment portfolios.

Conclusion

NRIs can improve financial results in India by knowing the tax implications of various investments and taking strategic approaches. Tax-effective options in NRE accounts, FCNR deposits, and long-term equity investments help to maximise the returns with the least possible liability. With exemptions like Section 54 and provisions of DTAA, one can ensure compliance and also be cost-effective. One should also keep oneself abreast with the changes in the tax laws and seek the help of financial advisors to achieve one's goals in India.

The writer is Founder of AUM Wealth.

Disclaimer: The views expressed by experts on Moneycontrol are their own and not those of the website or its management. Moneycontrol advises users to check with certified experts before taking any investment decisions.