Sep 4, 2009

NRIs Tax Planning - Residential Status (#1)


There is widespread confusion among the Indian diaspora (Indians or PIOs making a living abroad) about their residential status (resident vs non-resident) in India. After reading this post you’ll have a clear picture and know all the answers to the following questions (FAQs) about residential status:

1. Who is a non-resident Indian (NRI)?
2.What’s the difference between residential status (resident in India / non-resident in India) and citizenship (Indian citizen vs Foreign citizen)?

3. How many types of residential status are there under various Indian laws?

4. How to determine the residential status under Indian Income Tax Act, 1961?

5. How the residential status under IT Act differs from residential status under FEMA?
6. What's the significance of different residential status under Income Tax (IT) Act and under Foreign Exchange Management Act (FEMA)?

7. What’s the difference between non-resident and non-resident Indian (NRI)?

8. Whether residential status of an individual is to be determined every year?

9. Is it possible to be resident of more than one country at the same time?

10. What are different ways in which non-resident Indians (NRIs) can plan their residential status to minimize tax liability under IT Act?

11. How does residential status affect the tax liability of a non-resident Indian (NRI)?

12. What happens if you lose your NRI status? What are the other escape routes provided under IT Act?


Determining the Residential Status
First, residential status and citizenship is not the same thing. You may be an Indian Citizen but a non-resident in India. It is also possible that a foreign citizen is resident / non-resident in India for tax purposes. For instance, acquiring foreign citizenship, say, of US or Canada doesn’t mean that you can’t be a non-resident Indian (NRI).

Second, you can be resident of more than one country (as per the tax laws of the respective countries) at the same time.

In common parlance, an Indian living abroad is known as a non-resident Indian (NRI). But the legal position is entirely different. The term 'non-resident' and 'non-resident Indian' has been defined separately under the Foreign Exchange Management Act, 1999 (FEMA) and Income Tax Act, 1961.

But what is the significance of different residential status under FEMA and IT Act? While residential status under FEMA is for the purpose of banking and investments in India, residential status under IT Act is for the purpose of determining your tax liability in India.


Residential status under FEMA
Under FEMA, the day you leave India (for taking up employment outside India, or carrying on business/vocation outside India or for any other reason) with an intention to stay outside India for an uncertain period, you become a non-resident Indian (NRI) and the day you come back to India (for taking up employment in India, or carrying on business/vocation in India or for any other reason) with an intention to stay in India for an uncertain period you lose your NRI status.


Residential status under Income Tax
Unlike FEMA, where the residential status is determined based on your ‘intention to stay,’ the residential status under Income Tax Act is determined based on the ‘actual stay’ in India / abroad.

To be a non-resident Indian (NRI) under IT Act, you’ve to satisfy two conditions:

1. You should be a ‘non-resident’ as per the definition provided u/s 6(1) of the Income Tax Act, 1961.

2. Furthermore, you need to be either an Indian Citizen or a person of Indian Origin. Under section 115C(e) of the Income tax Act, a NRI is defined as a ‘non-resident’ individual who is a citizen of India or a person of Indian origin (PIO). You’re deemed to be of Indian origin (according to IT Act) if you or either of your parents or any of your grand-parents was born in undivided India.

Here, for the purpose of determining the residential status of an individual under the IT Act, I’m limiting the discussion to only Indian citizens / PIO who are already working abroad or the Indian citizens going abroad for taking up employment outside India.

Put another way, this discussion is not relevant for foreign citizens, Indian citizens going abroad for tourist purposes and Indian citizens making foreign trips in connection with their employment in India.

Under IT laws your residential status is determined every year as it may change from year to year and is dependent on your physical stay in India during a financial year. For counting the number of days of stay in India, your day of entry / departure should be counted as stay in India.

Now, for the purpose of determining the residential status, your physical stay in India / abroad can be broadly divided into three different periods:

i) The first year when an Indian citizens is going abroad to take up employment abroad.

ii) Subsequent visits to India after becoming NRI

iii) Final return to India to permanently settle down in India.

First Year of leaving India
If you leave India for the purpose of taking up employment abroad, you become an NRI in the year of your departure if your total stay in India is less than 182 days. In other words, the cut off date is 29th September of the relevant financial year.

So, ensure that you leave India before 29th September to acquire NRI status and avoid paying tax on your foreign income of the relevant FY.


Subsequent years
To maintain your NRI status in all the subsequent financial years, you have to just ensure that

i). You stay abroad and do not visit India at all during the FY, or

ii).Your stay in India during the FY is less than 182 days.

In other words, you can come to India every financial year (FY) and can stay here for a maximum period of 181 days (i.e., around 6 months) without losing your NRI status.

Now, if you wish to stay for more than 181 days, you should so plan your visit that stay of more than 181 days (up to a maximum of 362 days) should fall under 2 FYs and stay during each FY should not be more than 181 days.


Year of your final return to India
The residential status of returning non-resident Indians (NRIs), i.e., those who are coming back to finally settle down in India shall be discussed in next part.

Meanwhile, in case of any doubts regarding the definition of NRI, feel free to ask in the comment box.


Also see:

1. NRI Bank Accounts – Difference between NRO & NRE

2. NRIs Tax Planning: A Brief Overview

8 comments:

  1. How about buying immovable properties by NRI other than agricultural farm? what rules applies?

    ReplyDelete
  2. Real estate investment norms for NRIs will be discussed in a separate post.

    ReplyDelete
  3. Dear Fisher,

    Does an Indian student abroad come under NRI category for Income Tax purpose?

    GD

    ReplyDelete
  4. GD,

    It depends upon duration of stay in India during the financial year. From tax point of view, there’s no difference between students studying abroad and other individuals.

    ReplyDelete
  5. ... and from banking and investing point of view? I have two brothers who are abroad - one a student, the other on work-permit.

    Their tax returns are being filed as 'Non-residents'.

    Do we need to designate their earlier accounts here as 'NRO'?

    To buy ELSS for 80C benefit, will they buy as NRI (permitted only from NRO/NRE accounts) ??

    Thanks,

    GD

    ReplyDelete
  6. GD,

    Yes, the existing normal bank a/cs need to be designated as NRO account.

    NRO / NRE accounts should be used to invest in ELSS.

    ReplyDelete
  7. AnonymousJuly 30, 2010

    Fisher, thank you for this very useful article. Would appreciate your advice regarding below

    I have been an NRI for more than 10 years and my employer is relocating me back to India in Sept or October this year. Assuming I relocate back to India sometime in October 2010 then my stay for the FY will be < 182 days. Does this mean that the salary earned in India from 15th October to 31 March 2011 is not taxable ?

    ReplyDelete
  8. Good insight and realiable post! NRIs cannot claim tax benefits on Home Loan in India as they have to pay tax in the nation where they are actually employed and earn. However, if they pay tax in India for income earned in India, they can claim tax rebate for the Home Loan.

    ReplyDelete

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