Though the tax residency rules of India & USA substantially differs from that of India, there is still a chance of resulting in certain incomes of that person taxable in both countries, or a case of dual residency whereby in the same year, the person qualifies as a tax resident of both USA and India.
For example, for a resident and ordinarily resident (ROR) as per Indian tax rules, income from sale of property in USA will also attract taxation in India in addition to taxation in USA on source basis. Or there may be a case where income of a US citizen from interest from NRE bank deposits, PPF, tax free bonds etc. which is tax free in India, is taxable under the IRS rules.
Both countries have tried to resolve this issue as well as rights to taxation of certain incomes by having in place a Double Tax Avoidance Agreement (DTAA). The DTAA is a set of rules that override the tax provisions of both countries & has the final say on which country can tax a particular income and at what rate.
In case of dual residency situations, Article 4 of the DTAA prescribes a tie-breaker rule for determining a person’s residential status. If, according to that clause, a person is a resident of India, then he is treated as a “non-resident alien” under the IRS rules & tax treatment shall follow accordingly.
The text of India USA DTAA is readily accessible at the Indian Income tax department’s website www.incometaxindia.gov.in. The document consists of 31 articles. While Article 1-3 cover the general scope and definitions, Article 4 prescribes the tie-breaker rules for residence. Article 5 onwards is based on nature of income & prescribes rules on who can tax it and at what rate. There is also a residual Article 23 on “Other Income”.
Let us understand with the help of some examples:
- Consider a case of an Indian resident working for a US employer. Now, Article 16 on “Dependant Personal Services” clarify that income will be taxable in India, except where the person physically works in USA, in which case, the income will be taxable in USA, and not India. Clause 2 of that article prescribes certain additional rules on physical presence etc. Read more here – Taxation of salary income received from US employer in India
- Consider a case of a USC (qualifying as NRI as per Indian tax rules) holding money in Indian NRO deposit. As per Indian tax rules, bank has to withhold tax at a flat @31.2% under Section 195 of the Income Tax Act. However, the person may refer Article 11 of DTAA on “Interest” which prescribes a reduced rate of 15% in such cases. Hence, the person can ask the Indian bank to withhold tax at this reduced rate subject to providing a tax residency certificate (TRC) to it requesting for the same.
Some pointers & judgements to further clarify on the general applicability of DTAA are as follows:
- DTAA applies only to the USA’s federal income tax. As for the state tax, it is debatable whether person can claim a credit under Section 91 of IT Act, in the Indian tax return (there have been some favourable court judgements on this issue though). As regards Social Security and Medicare tax though, no relief/credit is available under the DTAA or Section 91 of the Income Tax Act.
- Under the IRS rules, if the taxpayer wishes to claim treaty benefits, he has to also attach a Form 8833 to the US tax return if income is greater than USD 1, 00,000.
- The option to choose DTAA over Act provisions lies with the assessee. If assessee prefers to choose Act over DTAA, he has full right to do so. – CIT vs Hindustan Paper Corporation Ltd. [1994] 77 Taxman 450 (Cal.),
- For claiming exemption under DTAA, it is not necessary for assessee to produce proof of payment of tax – CIT vs Heinrich Wetting [2009] 222 CTR (Guj.) 83.
- DTAA will override any retrospective tax amendments that bring previously exempt income into tax purview – Sanofi vs Ministry of Finance [2013] Taxman 504/30 taxmann.com 222 (AP)
- Rates given in DTAA will override provision of Section 206AA which requires a higher TDS rate if PAN is not provided by taxpayer – Dy.DIT v. Serum Institute of India Limited [TS-158-ITAT-2015(PUN)
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