How to Claim Tax Credit on Foreign Income of a Resident?

The tax rules applicable to your income can differ based on the source of the income and your residential status in India. While you may be familiar with claiming tax on income earned in India as a resident Indian, the process is different when a resident Indian has taxable income from foreign sources.

This quick guide will help you understand the meaning of Foreign Tax Credit and how it can be claimed on income earned abroad.

Meaning of Foreign Tax Credit

If you have paid tax in one country and your home country has a Double Taxation Avoidance Agreement (DTAA) with that country, you may claim credit for the tax paid in your home country. Foreign income refers to income earned from sources outside India or your country of residence.

Foreign Tax Credit operates based on two rules:

• Source Rule: This rule provides that income is taxed in the country where it is earned. Therefore, the income earner may either be subject to taxation as a non-resident or taxed as a resident.
• Resident Rule: This rule states that the country where a person resides can impose tax on their income.

To address the issue of double taxation, Section 90 of the Indian Income Tax Act applies to situations where India has entered into a DTAA with another country.

On the other hand, Section 91 applies in cases where India has not entered into a tax agreement with another country.

However, it is first important to understand who qualifies as an Indian resident, as explained below.

How to Determine Your Status as a Resident?

To establish your residential status in India, you must satisfy the following conditions:

• You have stayed in India for 182 days or more during the current financial year; or
• You have stayed in India for 60 days or more during the previous financial year and for 365 days or more during the four financial years immediately preceding the previous financial year.

To qualify as a Resident Ordinarily Resident (ROR), two additional conditions must also be satisfied:

• You have been a resident of India for at least 2 out of the last 10 financial years.
• You have stayed in India for a total of at least 730 days during the last 7 financial years.

If the above conditions are not satisfied, you will be classified as a Resident, Not Ordinarily Resident (RNOR). If none of the specified conditions are met, you will be considered a Non-Resident Indian (NRI).

Once your residential status has been established, the taxability of your income in India is determined as follows:

• For RNORs and NRIs, Indian income tax applies only to income earned in India.
• For residents and Resident Ordinarily Residents (RORs), income tax applies to both income earned in India and income earned outside India.

What is Rule 128 of the Income Tax Rules?

Rule 128 of the Income Tax Rules sets out the guidelines for claiming tax credits. Effective from April 1, 2017, the rule governs Foreign Tax Credit (FTC) in India and includes the following provisions:

• Only resident assessees can claim FTC when they have paid tax in a country or specified territory outside India.
• FTC is available only in the year in which the income on which foreign tax was paid is offered for taxation in India.
• Foreign tax paid or deducted on the relevant income is considered for taxation, and a credit equivalent to the applicable income tax for that year is provided.
• Foreign Tax Credit is not available for interest or penalty amounts payable.
• Where India has a DTAA with a foreign country, only eligible foreign taxes covered under the agreement qualify for the credit.
• No credit is available for foreign tax that is disputed or any disputed portion of such tax.
• Foreign tax credit is calculated separately for each source of income from a particular country.
• The allowable credit is the lower of the tax payable on the income under the Indian Income Tax Act and the foreign tax paid on that income.

However, if the assessee provides evidence showing that the dispute has been settled and the foreign tax liability has been paid within six months from the date of final settlement of the dispute, credit for the disputed tax will be allowed in the year in which the income is assessed or taxed in India.

The assessee must also provide an undertaking confirming that no refund has been claimed for the relevant amount.

How to Claim Tax Credit on Foreign Income?

To claim a foreign tax credit, you need to follow the steps given below:

• Convert the income earned outside India into Indian currency using the applicable reference exchange rates.The conversion rate should be based on the Telegraphic Transfer Buying Rate (TTBR) of the State Bank of India applicable on the last day of the month immediately preceding the month in which the income was earned.
• Report the foreign income in your tax return under the relevant income head, such as the ‘salaries’ section.
• If tax has been deducted at source (TDS) from your foreign income, you can claim credit for the tax deducted.
• Obtain a Tax Residency Certificate (TRC) as supporting evidence.
• Apply the appropriate DTAA while claiming credit for the foreign taxes deducted.
• Report your foreign income, meaning the income earned outside India, in Schedule FSI (Foreign Source Income) of your Income Tax Return (ITR).
• After entering the foreign income details in Schedule FSI, the applicable information in Schedule TR (Tax Relief) will be populated automatically.
• Following these steps will help you claim foreign income taxable in India while complying with the relevant rules and regulations.

Required Documentation for Claiming Foreign Tax Credit

For claiming Foreign Tax Credit (FTC), the assessee is required to submit the following documents:

1. A certificate stating the nature of the income and the amount of tax deducted or paid by the assessee, duly signed by the assessee. This should be obtained from the tax authority of the foreign country or the person/entity responsible for deducting the tax.However, the statement or certificate provided by the assessee will be considered valid when it is accompanied by:
   • An acknowledgment of online payment, bank counterfoil, or challan for the tax paid by the assessee.
   • Proof of tax deduction where the tax has been deducted.
2. Form 67 must be completed and submitted through the Income Tax* Portal as part of the FTC claim procedure.
3. Form No. 67 is also required to be filed when a loss in the current year results in a refund of foreign tax for which credit was claimed in an earlier year.

Tax Savings for NRIs

For insurance coverage, Non-Resident Indians can choose policies specifically designed to meet their requirements. An NRI insurance policy offers different types of protection, including life insurance, health insurance, property insurance, and more. With NRI insurance, NRIs can protect their financial interests along with their family and assets while living outside India.

Additionally, an NRI can avail of tax benefits such as:

• Tax deductions on life insurance premiums under Section 80C of the Income Tax Act.
• Tax deductions on health insurance policies or life insurance health riders under Section 80D.

NRI insurance policies provide benefits similar to regular insurance policies in India, although certain specific conditions and requirements may apply. These policies are generally available for individual NRIs as well as those with families.

Conclusion

With the information provided above, a resident Indian can claim tax on foreign income. However, maintaining the required documents and following the proper procedure is essential to avoid any difficulties.

FAQs – How to Claim Tax Credit on Foreign Income of a Resident?

1. What is Foreign Tax Credit (FTC) in India?
   Foreign Tax Credit allows eligible Indian residents to claim credit for certain taxes paid on foreign income. The credit helps prevent the same income from being taxed twice, subject to applicable rules.
2. Who can claim Foreign Tax Credit in India?
   A resident taxpayer who has earned taxable income from outside India and paid eligible foreign taxes may generally claim FTC in India, subject to the prescribed conditions.
3. What types of foreign income are eligible for tax credit?
   Foreign salary, interest, dividends, capital gains, business income, and other taxable foreign income may qualify for FTC depending on the nature of income and applicable tax provisions.
4. Is foreign income taxable in India for a resident?
   A resident and ordinarily resident in India is generally taxable on worldwide income. Therefore, foreign income may need to be reported in the Indian income tax return.
5. What is Form 67 used for?
   Form 67 is used to provide details for claiming Foreign Tax Credit in India. It contains information about foreign income and the tax paid or deducted in the foreign country.
6. When should Form 67 be filed?
   Form 67 must be filed within the prescribed time under the applicable income tax rules. Taxpayers should ensure that the form is submitted correctly to support their FTC claim.
7. Can Foreign Tax Credit be claimed without filing Form 67?
   Form 67 is generally required for claiming FTC under the prescribed procedure. Failure to comply with the applicable filing requirement can affect the credit claim.
8. How is the amount of Foreign Tax Credit calculated?
   FTC is generally restricted to the lower of the foreign tax paid on the relevant income and the Indian income tax payable on that income, subject to applicable rules.
9. Can I claim credit for foreign tax that is higher than Indian tax?
   Generally, the credit cannot exceed the Indian tax payable on the corresponding foreign income. Any excess foreign tax may therefore not be available as FTC in India.
10. Can tax deducted at source in a foreign country qualify for FTC?
    Yes, foreign tax deducted at source may qualify for FTC if it represents eligible foreign tax and the taxpayer satisfies the applicable requirements and provides supporting evidence.
11. What documents are required to claim Foreign Tax Credit?
    Documents may include proof of foreign tax paid or deducted, foreign tax statements, income statements, and other evidence required to substantiate the foreign tax credit.
12. Can a resident claim FTC under a Double Taxation Avoidance Agreement?
    Yes, where a DTAA applies, relief may be available according to the relevant treaty provisions. The taxpayer must meet the conditions specified under the applicable treaty and Indian tax law.
13. Can FTC be claimed on foreign salary income?
    Yes, eligible foreign salary income can qualify for FTC where foreign tax has been paid or deducted and the applicable conditions are satisfied.
14. Can Foreign Tax Credit be claimed on foreign dividends?
    FTC may be available for eligible foreign taxes paid on dividend income. The amount of credit depends on the applicable Indian tax provisions and DTAA, where relevant.
15. Can FTC be claimed on foreign capital gains?
    Foreign tax paid on eligible capital gains may qualify for credit in India. The taxpayer must report the income and satisfy the applicable documentation and credit requirements.
16. Does foreign income need to be disclosed in the Indian ITR?
    Yes, eligible resident taxpayers may need to disclose foreign income and foreign assets in the relevant sections of their Indian income tax return.
17. What happens if foreign income is not reported in the ITR?
    Failure to properly disclose taxable foreign income or required foreign assets can create tax and compliance issues. Taxpayers should ensure that all applicable foreign income is accurately reported.
18. Can FTC be claimed if tax was paid in a country with which India has a DTAA?
    Yes, FTC may generally be available where the applicable DTAA provides relief from double taxation, subject to the treaty’s conditions and the Indian tax rules.
19. Can unused Foreign Tax Credit be carried forward?
    FTC is generally subject to specific rules and limitations, and taxpayers should not assume that excess foreign tax can automatically be carried forward. The treatment depends on the applicable provisions.
20. Why should a resident seek professional help for claiming Foreign Tax Credit?
    Foreign income taxation can involve Indian tax provisions, DTAA rules, foreign tax documentation, exchange-rate calculations, and reporting requirements. Professional assistance can help ensure the FTC is calculated and reported correctly.