Foreign Investment

Tax Implications of Overseas Investment

It’s usually a good idea to diversify the assets in your financial portfolio, especially during unpredictable periods like the one the Indian and global markets are currently experiencing. In reality, you can spread your risks across different asset classes and geographical areas, as many wealthy Indians are doing more frequently these days. For instance, according to data from the Reserve Bank of India (RBI)^[1], resident Indian investments in foreign stocks and bonds have been steadily increasing, going from $422.90 million in 2018–19 to $746.57 million in 2021–22. Here we discuss Tax Implications of overseas investment.

Many people decide to invest their money abroad to offer international exposure, boost profits, and diversify their risk. When attempting to diversify their portfolio across geographies, one should be aware of the tax regulations on overseas investment and the tax on capital gains from money invested in foreign markets.

Taxability for various types of Individual

On the tax front, the Income Tax Act has established residence guidelines that establish the taxpayer’s residency status. To understand the tax implications on the earnings from overseas investment, let’s first assess the taxpayer’s residency status. Three categories of residence status for people are defined under the Income Tax Act, namely: 

Resident and Ordinary Resident: Global income is taxable in India for residents and those who are ordinarily residents (ROR).

Resident Not Ordinarily Resident (RNOR): Taxability only arises when overseas income is received in India or accumulated there from a business or profession that is controlled by or established in India.

Non-Resident Indian: NRIs are subject to the same taxation as RNORs.

According to the guidelines outlined in the Income Tax Act, the residence status described above will be calculated on the number of days an individual spent in India during the relevant year and previous years.

Tax rules for overseas investment

Even though Indian citizens are permitted to remit up to $2,50,000 abroad each year, they should only do so after doing their research to guarantee a profit. When preparing to invest in foreign equities, one should take tax into account as well since the returns from such investments are taxed.

Tax rates on domestic (Indian) equities differ from those on capital gains from equity shares. Taxes must be paid on dividends and foreign rental income in addition to gains from the sale of stocks. Here’s a closer look at the tax implications of selling equity, real estate investment trusts, tangible properties, and other asset classes of overseas investment.

Tax on overseas equities

It includes mutual fund investments in overseas investment on assets as well as direct investments in shares listed on international stock exchanges. Both types of income are taxable in India. Therefore, citizens are required to declare them when submitting their yearly tax forms.

Taxes of 20%, plus cess and surcharge, are applied to long-term capital gains (two years or more) from the sale of foreign equity shares. Gains from the sale of foreign stocks that were held for a short-term period (less than two years) are subject to tax at the individual’s slab rates.

Regarding mutual funds with foreign holdings, the same as debt funds in India, the threshold for considering an investment long-term is three years, and the returns are taxed at a 20% rate after indexation. Less than three years, short-term capital gains are taxed at the slab rate. It is also possible to take benefit of the indexation benefit brought on by the conversion of prices from international to Indian currency. Mutual funds and international equity shares’ dividend income are taxed at the slab rate.

Tax on overseas debt Instrument

Indian citizens can invest in some foreign fixed-income or debt securities to earn interest and capital gains. These include debt mutual fund programmes that invest in stocks and foreign markets.

Gains from overseas debt mutual funds are taxed at the same rate as domestic debt mutual funds. Foreign debt fund long-term capital gains that have been held for three years or more are subject to a 20% index-based tax. Gains made quickly are subject to slab taxation.

Tax on Foreign Real Estate & REITs

Here is how your gains will be taxed if you invested in real estate in a foreign market directly (via the purchase-sale of actual properties) or through REITs:

• In contrast to short-term gains (those made in less than two years), long-term capital gains (those made in two years or more) on the sale of foreign real estate are taxed at a 20% rate after indexation. Foreign rental income will also be subject to slab-rate taxation.
• You can get income through dividends, interest, rentals, short-term capital gains, and long-term capital gains if you have invested in overseas REITs. Foreign REIT dividend, rental, and interest income will be taxed at the individual’s slab rate. Short-term capital gains will be taxed at the slab rate, while long-term gains (two years or longer) from the sale of overseas REITs will be taxed at 20%.
• One should be aware of potential tax breaks and rebates when engaging in international real estate or REIT. For starters, rental income earned from international real estate is not eligible for a 30% deduction like the rental revenue earned from a property in India. Also, loans taken for property outside of India are not eligible for tax deduction benefits (up to Rs 1.5 lakh on capital and up to Rs 2 lakh on interest).
• By using the proceeds from the sale of a residential property to purchase another home within a year, property owners in India can also reduce their tax obligations. This benefit is not available if the money is used to purchase real estate outside of India.

Reporting foreign investments in your income tax return

Your annual income tax returns must include a disclosure of your foreign investments. You must fill out Schedule FA in ITR-2 or ITR-4 with the relevant information. These foreign assets must be reported based on the calendar year of the nation in which such assets are possessed. A taxpayer must provide details of the country name, nature of ownership, details of the asset, income generated from such asset, etc.

Additionally, you must disclose the information in the Assets and Liabilities Schedule if your income for the fiscal year was more than Rs 50 lakh, which is probably the case for wealthy investors.

You risk getting into problems if you don’t accurately report your overseas income. “India has negotiated information-sharing treaty with a number of nations, and those nations are now providing India with financial data regarding their assets and revenue. The Indian tax authorities are closely monitoring this, so taxpayers must carefully declare their international income and accurately disclose their foreign assets to prevent penalties.

The Black Money (Undisclosed Foreign Income and Assets and Imposition of Tax Act, 2015) may impose penalties if you fail to register income and assets abroad to make appropriate disclosures. “An erroneous disclosure may result in a Rs. 10 lakh fine. Therefore, while making investments abroad, one must not only adhere to the rules but also make sure that all relevant details are disclosed in their tax return.

The income tax regulations offer relief to prevent double taxation if you have paid taxes abroad already. If credit for any taxes paid abroad is to be obtained, remember to complete Form 67 as directed, including any treaty relief data.

Agreement to Avoid Double Taxation

With more than 95 counties, the Indian government has signed the Double Tax Avoidance Agreement (DTAA), making obtaining a tax credit easier in the event of double taxation. The DTAA typically gives two types of relief: (i) the exemption method and (ii) the tax credit method. 

The exemption method exempts income from taxation in one nation while taxing it in another. The tax credit technique, in contrast, enables the taxpayer to deduct the tax paid in one nation against the tax burden emerging in another.

Conclusion

The specifics of the Overseas investment, tax treaties, and exclusions or concessions may all affect the applicable tax rules and reporting requirements. It is important to stay updated with the most recent tax rules and reporting obligations because tax laws and regulations are subject to change. To ensure compliance with tax laws, it is advised to consult with a trained tax advisor or chartered accountant who can offer personalised advice.

Read our Article: Tax Implications of Foreign Venture Capital Investments in India