Many people of Indian origin have dreamed about spending more time in India after they retire. Under the changes taking place in the U.S. and Indian tax laws, this dream may result in much higher taxes (sometimes more than double).
To understand all the changes that have taken place recently, as well as the severe civil and criminal penalties for non compliance, we are providing a quick snapshot in this article. This is not to be taken as tax or legal advice, but intended to guide readers on the relevant issues.
1. Tax coordination between US and India
Both countries have agreed on reporting of tax information to each other. Points of interest include:
- The United States requires each U.S. citizen or permanent resident to report worldwide income. This includes reporting of foreign financial assets in excess of $10,000.
- The foreign financial assets have to be reported annually on a form known as FBAR.
- The foreign income has to be reported in the normal income tax filings on the Form 1040.
- Special attention has to be paid to completing form 8938.
- The penalties for not reporting are from 5% to over 100% of your foreign assets and may include criminal penalties.
- Sometimes, people think that the U.S. government cannot find out about your foreign assets. This has also changed. Banks and financial institutions in India are required to report your earnings to the IRS under the FATCA (foreign account tax compliance act).
- Once this information is reported, you may receive a letter from the IRS. There are severe penalties for every day that you do not respond.
2. Residency and taxation in India
The Indian government will normally tax foreign citizens only on income in India. However, this changes when you become a resident in India. In such a case, you will be taxed on your worldwide income.
Most people think that if you stay in India for less than half the year (182 days) you are not a resident. This may not be true. India has multiple tests that determine residency. In many cases, you will be deemed to be an Indian resident if you stay for more than 360 days over a four-year period. As a consequence of becoming an Indian resident is that your total tax bill may more than double. This is in spite of the double-taxation treaty between the two countries.
Take the example of a senior couple with a gross income of $100,000 per year. After personal exemptions and deductions, their taxable income would be about $75,000, resulting in a Federal Income Tax between $10,000-11,000 per year.
If they are also deemed to be residents of India, their taxable income in India would be above $22,000 per year. Under this situation, the couple would pay $11,000 to the U.S. treasury and an additional $11,000 to the Indian treasury.
3. Selling property in India
If an NRI sells property in India, the withholding of taxes is much higher than what is required for Indian citizens. In most cases, the buyer has to withhold and deposit up to 30.6% of the sales price. For Indian citizens, this requirement is only 1%. You are told that you can get the refund from the Income tax department, but that is very cumbersome. There are proactive ways to avoid this situation from happening to you.
4. Taxation of ancestral inherited or gifted property in India
If you inherit a property in India, you are required to pay normal capital gains in taxes. These gains are calculated as the difference in sales price minus the indexed cost price of the property. However you could have a big windfall under the U.S. tax laws.
In the U.S., the profit for inherited or gifted property is calculated as the difference in sales price and the stepped up cost basis of the market value of the property on the date of inheritance (or gifting). This treatment could result in a windfall of many thousands of dollars and the refund comes from the U.S. treasury and/or is given as a lifetime foreign tax credit.
5. Investing in India
Interest rates are higher in India, but so is the rate of inflation. If you keep money in a NRE account in India, there are no taxes to be paid in India, but they must be paid in the U.S. The same thing is true for capital gains and dividends in India. No taxes are due in India, but they must be paid in the U.S. With the coordination of taxes between the two countries, there is no possibility of avoiding these taxes. Also, many institutions will not accept investments from U.S. citizens because of the cumbersome reporting requirements.
I hope this article provides a brief summary of the new rules on income and taxes that have emerged. We will be covering some of these issues in greater detail in future issues. If you need additional information, please feel free to contact us for a no-obligation, initial review of your individual situation.
A resident of Texas for over 40 years, Ranvir Mohindra has been involved with many issues that are relevant to the South Asian community living in the United States. Whether you have money in India that you did not report or have inherited an ancestral property, there are new rules of compliance. Mr. Mohindra’s expertise is built on personal experiences and access to tax and legal professionals, both in Houston and in India, who can provide additional support to bring you in compliance and protect your assets. He can be reached at 713-805-0915 or firstname.lastname@example.org