Is an NRO Account Taxable? An Overview of Tax Rules

A Non-Resident Ordinary (NRO) account is a bank account specifically designed for Non-Resident Indians (NRIs) to manage income earned within India. This includes various forms of local earnings such as rent from properties, dividends from Indian investments, or pensions. An NRO account allows individuals living abroad to handle their financial transactions in Indian Rupees. These accounts are subject to specific tax regulations in India.

Tax Treatment of NRO Account Income

Income generated from a Non-Resident Ordinary (NRO) account in India is generally subject to Indian income tax. This includes interest earned on deposits, dividends received from Indian companies, rental income from properties in India, and capital gains from the sale of Indian assets held within the account. All such income is taxable in India at the rates applicable to resident Indians, based on their income slab.

Financial institutions in India typically deduct Tax Deducted at Source (TDS) on certain types of income accruing in NRO accounts. For instance, interest earned on NRO fixed deposits is subject to TDS. The standard TDS rate on NRO account interest is generally 30%, and may include an additional surcharge and an education cess. This deduction happens before the income is credited to the account, and the bank provides a TDS certificate.

The principal amount deposited into an NRO account differs from the income it generates. While the income, such as interest or dividends, is subject to Indian income tax, the principal amount originally deposited into the NRO account is not treated as income and therefore not subject to income tax. This distinction is important for understanding tax implications.

Repatriation from an NRO account is generally permitted, with certain limitations. Income earned and held in the NRO account, after taxes, is typically repatriable. The principal amount, however, can be repatriated up to a specified limit, which is currently USD 1 million per financial year for all bonafide purposes, after tax deductions.

Indian Income Tax Filing for NRO Accounts

Non-Resident Indians with income in their NRO accounts are generally required to obtain a Permanent Account Number (PAN) in India. A PAN is a unique, 10-digit alphanumeric identification number issued by the Indian Income Tax Department. It is necessary for various financial transactions in India, including opening bank accounts, making investments, and filing income tax returns.

NRIs whose Indian income exceeds the basic exemption limit are required to file an annual Income Tax Return (ITR) in India. Even if the income is below this limit, filing an ITR can be beneficial to claim refunds for any excess Tax Deducted at Source (TDS).

For NRIs, the most commonly applicable ITR forms are ITR-2 and ITR-3, depending on the sources of income. ITR-2 is typically used by salaried NRIs and those with income from house property, capital gains, or other sources, especially if they have foreign assets or income. ITR-3 is generally applicable for NRIs who have income from a business or profession in India.

When filing an ITR, NRIs can claim credit for the TDS already deducted by banks or other entities on their NRO account income. If the tax liability is less than the TDS deducted, the NRI may be eligible for a refund of the excess tax paid. This process involves reconciling the TDS reported in Form 26AS with the actual income and tax liability. The general deadline for filing ITRs in India for individuals, including most NRIs, is typically July 31st of the assessment year.

Reporting NRO Account Income Abroad

Individuals who are residents of the United States are generally subject to tax on their worldwide income, regardless of where that income is earned. This means that income generated in an NRO account in India, even if taxed in India, must typically be reported on the individual’s U.S. tax return. The U.S. tax system operates on a citizenship-based and residency-based taxation principle.

To prevent income from being taxed twice by both India and the U.S., Double Taxation Avoidance Agreements (DTAAs) are important. India has signed DTAAs with various countries, including the United States. These agreements outline rules for allocating taxing rights between the two countries and provide mechanisms for taxpayers to avoid double taxation.

Under the provisions of a DTAA, an NRI can claim a foreign tax credit in their country of residence for the taxes paid in India on their NRO account income. In the U.S., this credit is typically claimed on Form 1116, Foreign Tax Credit. This credit directly reduces the U.S. tax liability dollar-for-dollar, up to the amount of U.S. tax attributable to the foreign income.

International agreements like the Foreign Account Tax Compliance Act (FATCA) and the Common Reporting Standard (CRS) further facilitate the exchange of financial account information between countries. FATCA, a U.S. law, requires foreign financial institutions to report information about U.S. account holders to the IRS. CRS, an OECD initiative, involves numerous countries automatically exchanging financial account information. These frameworks enhance transparency and impact the reporting of NRO accounts to foreign tax authorities.