Shah Rukh Khan [ITAT] – Income from UAE property is taxable in India

A contentious issue that NRIs who return from tax haven countries like UAE face is regarding the India taxation of their properties back in UAE.

In this regard, the Mumbai Bench of the Income Tax Appellate Tribunal [ITAT] has delivered a judgment in the case of Shah Rukh Khan v. Assistant Commissioner of Income-tax, Cen. Cir. 29, Mumbai [2017] 79 taxmann.com 227 (Mumbai – Trib.) which gives a very pertinent clarification on the issue.

Let us discuss on taxation of UAE property income under Income Tax Act, India UAE DTAA and the ITAT decision on this issue.

Taxation of overseas immovable property under Income Tax Act

Under the Income Tax Act (ITA), taxation of income from overseas property will depend on a person’s residential status as per Section 6 of the Income Tax Act as follows:

Non Resident (NR) or Resident and Not Ordinarily Resident (RNOR): Not taxable in India
Resident and Ordinarily Resident (ROR) in India: Taxable in India

Please note that if the income is directly credited to India (for e.g. tenant credits the rent directly to your Indian bank account), it is taxable to you in India irrespective of your residential status for that financial year.

As regards computation of such foreign income, the provisions are well defined in Section 23 of ITA. The computation has to be done in the same was as one would do in case of an Indian house property. Similarly, as regards conversion of income from foreign currency to INR, Rule 115 of Income Tax Rules has well defined provisions for doing the same.

It may be noted that even a vacant property is taxable at full notional value under the ITA – in this regard, you can also check my review of a recent High Court decision here: NRI having vacant property in India, pl. read this [2016 Sushma Singla HC]

Double tax avoidance provisions on immovable property in UAE

I’ve already discussed in a previous post that how can one claim benefit of India UAE DTAA even if there is no “actual” tax in UAE – read here: Can a UAE resident claim relief under India-UAE DTAA?

Hence, let us now explore what the DTAA says regarding such income and any benefit that can be derived from the DTAA to reduce tax liability in India. In the India UAE DTAA, Article

ARTICLE 6: INCOME FROM IMMOVABLE PROPERTY

1. Income derived by a resident of a Contracting State (INDIA) from immovable property (including income from agriculture or forestry) situated in the other Contracting State (UAE) may be taxed in that other State (UAE).

2. The term “immovable property” shall have the meaning which it has under the law of the Contracting State in which the property in question is situated (UAE). The term ‘shall in any case’ include property accessory to immovable property, livestock and equipment used in agriculture and forestry, rights to which the provisions of general law respecting landed property apply, usufruct of immovable property and rights to variable or fixed payments as consideration for the working of, or the right to work, mineral deposits, sources and other natural resources. Ships, boats and aircraft shall not be regarded as immovable property.

3. The provisions of paragraph (1) shall also apply to income derived from the direct use, letting, or use in any other form of immovable property.

4. The provisions of paragraphs (1) and (3) shall also apply to the income from immovable property of an enterprise and to income from immovable property used for the performance of independent personal services.”

(emphasis and additional words supplied to establish context)

Now, an analysis of the above definition especially clause 1 will give the reader an impression that the income from the property will be taxed in UAE and due to the fact that it is not expressly mentioned that income will be taxable in India (i.e. country in which person is resident), the income is not taxable in India. Given that as of now, personal income tax is not levied by UAE, in effect, this income will remain a tax free income even after a person becomes an ROR as per Indian domestic law.

However, what is notable here is that in 2008, CBDT released a notification clarifying meaning of words “may be taxed” in the DTAA – text of those notifications are as follows:

“NOTIFICATION NO. 91/2008, DATED 28/8/2008

In exercise of the powers conferred by subsection (3) of section 90 of the Income Tax Act, 1961 (43 of 1961), the Central Government hereby notifies that where an agreement entered into by the Central Government with the Government of any country outside India for granting relief of tax or as the case may be, avoidance of double taxation, provides that any income of a resident of India “may be taxed” in the other country, such income shall be included in his total income chargeable to tax in India in accordance with the provisions of the Income Tax Act, 1961 (43 of 1961), and relief shall be granted in accordance with the method for elimination or avoidance of double taxation provided in such agreement.”

(emphasis supplied)

This is a very important notification clarifying the interpretation of DTAA provisions – this means, that in such cases, exemption from India tax will NOT be available – India will retain its right to tax that income however suitable credit of tax deducted in the foreign country can be claimed in India.

Facts of the case

Now let us come to the facts of the case in question which are as follows:

Assessee (SRK) was gifted a villa in Dubai by Nakheel PJSE and possession was received by the assessee on 18/06/2008.
The Assessing Officer (AO) show caused the assessee to explain as to why the deemed annual letting value within the meaning of section 23(1)(a) of the Act should not be adopted in respect to the said property.
Before the AO assessee contended that in view of the provisions of Para -1 of Article -6 of the DTAA between India and UAE, no income in respect of the said property was required to be assessed.
However, AO did not accept the plea of the assessee and estimated the annual letting value at Rs.96.00 lacs and thereafter, allowing the deduction under section 24(a) of the Act amounting to Rs.28,80,000/-, the income from house property was assessed at Rs.67,20,000/-.
Before the CIT (A), assessee reiterated the submissions put forth before the Assessing Officer.
The CIT(A) has upheld the stand of the AO in the light of the Notification Nos.90 & 91 of 2008 dated 28/08/2008 issued by the CBDT.
Against such decision of the CIT(A), assessee came in further appeal before the ITAT.

Arguments of assessee before ITAT

Below were the main points of argument by the assessee’s representative:

Assessment of notional income from Dubai Villa is not as per the provisions of ITA and DTAA and, therefore, the orders of the authorities below be set-aside.
Article-6 of the Double Taxation Avoidance Agreement between India and UAE prescribes that income derived by a resident of a contracting State from immovable property situated in the other contract State may be taxed in that other State.
Therefore, the income from the property situated in Dubai is liable to be taxed in UAE and, therefore, the assessee did not offer the income to tax in India.

Decision by ITAT

In its decision, the ITAT unequivocally relied on the Notification No. 90 (as discussed above) for purpose of interpreting Article 6 of DTAA between both countries. ITAT also held that the Notification is not contradictory to the ITA and Central Government has full power to enact such a notification, and the DTAA will have to be interpreted in line with the notification. Below is an extract from the decision:

“………..

If phrase is used in a statute, then ‘any interpretation given by the High Court or the Supreme Court is binding on all the subordinate Courts and has to be reckoned as law of the land. However, the meaning assigned by Government of India for a phrase or term used in the agreement through notification will prevail at least from the assessment year 2004-05. Because while interpreting the treaty, the intention of the parties to the agreement has to be given primacy and has to be understood in that manner only. Therefore, the notification is not contrary to the provisions of the Act. Consequently, the earlier judgments rendered in assessee’s case prior to assessment year 2004-05, will not have binding precedence in this year or subsequent year;

………”

(emphasis supplied)

My views on this case:

This case very much clears the air on the following issues:

Income from immovable property in UAE is taxable for a resident of India
Even in case the overseas house property is “vacant”, its full notional value can be brought to tax in India
Interpretation of the term “may be taxed” in DTAA is that India will tax it fully, however allow “credit” of tax paid in UAE (effectively, nothingJ)
CBDT notifications No. 90 and 91/2008 stand the test of judicial scrutiny

One may ask – why did the AO did not press for penalty for “concealment of income” as we’ve seen in some other cases involving DTAA (for e.g. check this case). Also, income being foreign income, why were Black Money Act provisions not invoked?

Perhaps the reason I can think of is that the assessment year in question is 2007-08 – it is this year when the notification was released hence may be the AO did not in all fairness thought it a fit case for penalty. Also, Black Money Act has come into effect only very recently i.e. 01/07/2015 and was not in vogue for the assessment year in question.

India Black Money Law Implications on income from UAE property by an Indian resident (ROR)

However, if the same issue arises now, then the undisclosed foreign income will come under the harsher Black Money Act. To give an overview, in 2015, India enacted Black Money (Undisclosed Foreign Income and Assets) and Imposition of Tax Act (known as Black Money Act). This law is effective July 1, 2015 and requires a person who is a resident and ordinarily resident (ROR) under the ITA to disclose foreign income and assets in his tax return in India.

Also Read: Black Money Act: An Analysis

Black Money Act is a draconian Act by any standard. Generally, it is a settled legal principle that penalty and prosecution can be imposed when mens rea i.e. a culpable state of mind is established. The most draconian element in Black Money Act is that the court will assume a culpable state of mind and onus is on the assessee to prove that non disclosure was inadvertent and not with a malicious motive to avoid tax. Also, there is no provision for compounding of offence like it exists in FEMA and ITA.

Also, corresponding changes have been made in Section 139 of ITA making any person having ROR status in India and holding foreign assets/beneficial interest to mandatorily file a return of income in India irrespective of the income in that financial year. A separate schedule named Schedule FSI and FA are given in the tax return where these income/asset disclosures need to be made.

Also Read: Guide to help Returning NRI/PIOs declare their foreign income/assets in Indian tax returns

So, if you are an ROR, and not earning an income above the qualifying limit, you are still required to file a tax return in India if you earn income from property in UAE. This is especially relevant to senior citizens who were working in UAE for long time and after having retired, have returned to India and since no longer working in India, do not have any taxable income in India.

Possible tax situations w.r.t. overseas property taxation

Below I have tried to capture some permutations and combinations and tricky issues that can arise for taxation of overseas property in India:

Scenario # 1: For example, Mr. A has own property in UAE but returns to India and joins employment here and living in a rented flat. As regards exemption of one house property as self-occupied can be applied for the UAE property too. In such a case, UAE property can be deemed to be self occupied property and exempt from tax in India.

Scenario # 2: Again, Mr. A has two properties in UAE by name B and C, and two properties in India D & E. B and C both are vacant. D is let out. He lives in E.

In such case, property E will be treated self-occupied and exempt from tax. Property D will be treated as let out and actual rent less deduction is taxable in India. Property B and C though vacant, will be treated as deemed to be let out and notional rent will be taxable in India.

Scenario # 3: Will it make a difference in case residential status of Mr. A for that particular financial year is RNOR?

Yes, in that case, notional income from property B and C will not be added to his taxable income in India.

Scenario # 4: Continuing from scenario # 2, Mr. A got a new job in a different city in India and lives in a rented accommodation in that city. Property E as a result is vacant. Will it make a difference in tax calculation?

In this case, in my view, Mr. A will have the right to choose one property from all properties B, C and E as self occupied and rest of the properties will be taxable as let out/deemed to be let out. This can require some careful planning and analysis and if done right, can reduce tax liability considerably. Point I am trying to make is, that for India tax purposes, even a UAE property is eligible to be treated as self-occupied and claimed exempt even if assessee is staying in India – this is my view from a reading of Section 23(3)

Reverse scenario taxability: UAE resident having income from house property in India

In this case, we will have to tweak the Article 16 to this scenario as follows:

“ARTICLE 6: INCOME FROM IMMOVABLE PROPERTY

Income derived by a resident of a Contracting State (UAE) from immovable property (including income from agriculture or forestry) situated in the other Contracting State (INDIA) may be taxed in that other State (INDIA).
……..

“

As I’ve discussed in my previous post, though UAE residents are not subject to tax, they can explore benefit of DTAA. However, in such case, as we see from the wordings above, India gets the right to tax that income. This is not in view of the Notification but Section 9 of ITA that says income from any “asset”
or “source of income” will be taxable in India despite a person’s residential status.

So, in such cases, UAE resident will have to file a tax return and disclose income in India. The benefit of qualifying exemption limit of INR 2.5 lacs will be available to non-resident on such income. In case TDS is deducted by tenant, he can claim refund by filing tax return.

What if you have failed to file returns/disclose your UAE property income in Indian tax return

If you have failed to make a disclosure of UAE property income in your Indian tax return after becoming ROR, severe penal implications can follow in terms of tax, penalty and prosecution under Black Money Act as discussed above. I will advise you to not to dilly-dally and seek proper professional opinion. Some pointers here are as follows:

If you’ve not filed a tax return for that particular year, you have time to file it within 1 year from end of assessment year. File the return and disclose the foreign income and assets and pay appropriate tax. [Note that w.e.f. April 1, 2017, these rules have got changed where you can file a belated return only by end of the relevant assessment year]
If you’ve filed the tax return within due date, you can go ahead and revise it within 1 year from end of assessment year. [Note that w.e.f. April 1, 2017, these rules have got changed where you can revise even a belated return but only till the end of the relevant assessment year]
In case your return filing/revision is time barred, then it is a tricky situation as the voluntary income declaration provisions of Section 115BBE do not allow declaration of foreign income. Also, Black Money Act does not allow any amnesty/compounding window for past undisclosed foreign income. Time to pick up the phone and speak to your CA.

Also read: How can NRI safely disclose his undisclosed income (black money) in India

FEMA regulations on UAE property income for Indian residents

As per FEMA regulations, a person returning to India and becoming a resident can maintain accounts and investments outside India created out of his earnings outside India. So, post your return to India and becoming a resident of India as per FEMA (also read: NRI Definition: FEMA Act VS Income Tax Act you can keep the property in UAE and there is no requirement under FEMA to close or shift the property.

However, AFTER you become a resident of India as per FEMA, any incremental earnings by way of income from rent or capital gain by selling the property needs t be remitted to India as per the FEMA (Realisation, Repatriation and Surrender of Foreign Exchange) Regulations, 2015 which means that you CANNOT retain that money outside India.

In such a case, if you wish to keep money in £ or $, you can open a Resident Foreign Currency (RFC) account in India and keep in that account. Money in RFC account can be freely repatriated outside India without any restrictions. To know about tax treatment of RFC accounts, you can read my detailed post here: NRO, NRE, FCNR, RFC: Tax and FEMA Implications for Returning NRI

Some general points on overseas property taxation

Especially in NR/RNOR period, It is advisable to receive income in UAE bank account and then remit to India else IT authorities may tax it in India with the logic that income received in India is taxable in India
If property is being used in UAE for business purposes, then the right reference Article will be not this one but pertaining to “Business Profits”
Effective April 1, 2017, the holding period for purpose of computation of capital gain has been reduced from 36 months to 24 months. Hence, if property is sold before 12 months, it is taxable as Short Term Capital Gain (STCG) as per slab rate. If sold after 24 months, it will qualify for a special rate of 20% + SC as Long Term Capital Gain (LTCG). Also, in case of property purchased before 01/04/2001, the FMV as on 01/04/2001 will be considered.
In case the capital gain qualifies as LTCG, an exemption can be claimed by investing in another residential property in India (Section 54) or investing in specified bonds (Section 54EC). However, please bear in mind that reverse is not possible – for example, you sell a long term house property in India and buy another property in UAE and try to claim capital gains exemption u/s 54, that is NOT possible.
If you wish to retain property overseas, also keep in mind inheritance tax issues – for example, UK imposes inheritance tax @ 40% on any estate over £ 3,25,000 – in such case, suitable estate planning avenues like will, trust etc. must be explored.

Tax strategy w.r.t. UAE properties for NRIs returning back to India

Each year, many NRIs returning back to India. A question on the top of the mind for these returnees is what to do with their properties in UAE – should they retain or sell it off?

As we discussed in this post, after becoming an ROR in India (generally after 2-3 years post return), person acquires a ROR status and that is when the taxability of income and capital gain arises in India.

Also, even if you don’t bother to let out the property, the notional value of vacant property will be taxable in India.

My advice to such NRIs is to use the RNOR period to take a clear decision on the property.

If you wish to leave one property in UAE for just in case if you wish to return back, you can do so – in such case, take care NOT to buy a property in India – in such case, you can claim the UAE property as self occupied and not pay any tax on notional value in India.

However, if you had originally purchased the property in UAE for investment and/or have other properties in the UAE/India, examine the potential post tax yield from that property vis a vis other investment avenues like Indian equities in which LTCG is tax free.

Need to clarify here that though I do not know much about UAE property market, I’m not very positive on real estate as an asset class itself – I’ve talked about this in detail here: Should NRI invest in real estate in India?

In my view, if your portfolio is heavily tilted towards real estate, there is a strong case for selling it during the RNOR period. If you are a senior citizen, you can also gift it to a family member in India through a proper gift deed – if the family member is a “relative” within the meaning of Section 56 of the ITA, he will not be taxed on that gift. Another alternative is to settle that property in a trust.

Also read: Gift by NRI to Resident: Also be aware of Section 68 of ITA

However, if your plan is to continue with the property, please file income tax return and disclose income and asset in Schedule FSI and FA respectively and pay the applicable tax once you become an ROR. Since TDS is not applicable, you should also keep in mind to pay advance tax on estimated basis within the financial year.

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