With the introduction of some new concepts to ensure minimal abuse of the beneficial provisions, the Direct Tax Code (Code) introduced by the Hon'ble Finance Minister, last month has a few but sweeping changes as far as taxation of Non Resident Indians is concerned.
The draft Code does not propose any changes in the basic principles of determination of taxability and scope of income as laid down in the current Income Tax Act. Currently, India follows both residence and source based taxation. The principle of residence based taxation asserts that the taxpayers are taxable in the country in which they establish their residence or domicile regardless of the source of income.
Source based taxation is generally applied to non-residents in a country and envisages the taxation of only such income, which is sourced in that country. Under the Code, the residence based taxation has been applied for residents and source based taxation has been applied for non residents.
Under the existing Income Tax Act, basis the physical presence, an individual taxpayer is classified into Non Resident (NR) and Resident and Resident is further divided into Resident and Ordinarily Resident (ROR) and Not Ordinarily Resident (NOR).
The RORs are subject to tax in India on their worldwide income but the NORs/ NRs are taxable in India only on their India sourced income. One of the biggest change that the Code has proposed, which will impact the NRIs is the removal of the NOR category of residential status. So now an individual would either be a Resident or a Non Resident based on the rules, which are similar to the existing provisions of the Income Tax Act.
The concept of NOR has been replaced by providing exemption to the individual with respect to the income, which is sourced outside India and not derived from a business controlled or profession set up in India. This exemption will be available to the taxpayer from the financial year in which such individual becomes a resident and the immediately succeeding financial year, if such individual was a non resident for nine years immediately preceding the financial year in which he becomes a resident.
So typically, in case of a returning Indian who has been out of India for a long period of time, he may become liable to tax on his worldwide income (if he retains sources of income overseas) from 3rd or 4th year of coming to India. This provision will need to be considered for cross border movements of NRIs who typically come back to India on say short term assignments so that appropriate planning of the assignment duration can be done in case of any proposed secondment to India.
Also, in order to simplify the existing provisions, a unified concept of 'financial year' has been introduced and the existing concept of 'previous year' and 'assessment year' has been done away with. This will specifically put an end to the confusion that generally arises in the minds of non residents (having a tax filing requirement in India) around the fact that while, taxes are paid and compliances are completed for the previous year, filing of the tax return is done in the assessment year.
The draft Code has maintained most of the benefits available to the non residents under the existing law. The interest on deposits in Non-Resident (External) bank accounts is still exempt as per the draft Code subject to satisfaction of certain conditions. The amount of interest payable by a scheduled bank to a non resident on deposits in foreign currency where acceptance of such deposits is approved by the Reserve Bank of India is also exempt from tax.
The Code also exempts the non-resident taxpayer from capital gains tax arising in case of any transfer of Global Depository Receipts (GDRs) between two non-residents outside of India, similar to the provision in the current Income Tax Act. Although the draft Code has extinguished the difference between the long term capital gain and short tem capital gain, it has not restricted the indexation benefit available to non residents at the time of calculation of capital gains tax on transfer of shares, debentures of an Indian company held for more than 12 months.
Once the Code becomes the law of the land, the non-resident taxpayers can continue to file their returns and handle other tax related matters through a Representative Assessee, which can be an authorised agent of the individual. The Code also provides the special rates of withholding tax applicable to non-residents for calculating tax on investment income by way of interest, dividend on which distribution tax has not been paid by the company, capital gain income etc.
Very often Non Resident Indians are subject to double taxation because of taxability in India as a result of sourcing rule. An NRI may be living say in the US for last twenty years and may have a US citizenship now. If he retains some property back home in India which fetches him some rent, he may be liable to pay in the US on his global income based on his citizenship and shall also be liable to pay tax in India because of the sourcing provision. He would be eligible to claim relief from double taxation under the Double Taxation Avoidance Agreement (DTAA) between India and the US.
There was no requirement so far for such an individual to obtain any tax residency certificate from the US tax authorities in order to avail the benefit under the DTAA. The Code adds the additional burden for claiming any relief under the DTAA by requiring the tax payer to obtain the Tax Residency Certificate on mandatory basis to be able to claim the relief from double taxation under the applicable DTAA.
One of the pro-Revenue provisions of the Code provides that any taxes due from the non-residents could be recovered from any of his assets even if they are situated outside of India. Further, if there is any amount payable by any person to the non-residents, such payments can also be used for recovery of due taxes.
It is important for the Non resident community to be aware of the provisions in store for them in the Direct Tax Code since, these provisions will have far reaching impact on their tax situation and tax compliances in India once the Code becomes the law of land.