The residency status as per the Indian Income Tax Act of 1961 is determined based on the number of days an individual stays in India. Indian tax laws classify individual taxpayers into two primary classifications; Resident (R) and Non-Resident (NR). The Resident category is further subdivided into Resident & Ordinarily Resident (ROR) and Resident but Not Ordinarily Resident (RNOR).
An individual's residency classification determines what (if any) of the individual's income is subject to Indian income tax. For example:
- An ROR individual is subject to Indian tax on all income earned in a fiscal year;
- An RNOR individual is subject to income tax on only Indian income and income from a non-Indian business that is controlled or set up in India; and
- An NR individual is taxed only on income earned in India.
The timing of the individual's return to India impacts the taxes not only for the current year but also taxes on some components of their income in the future years.
For example, if an NR individual returning to India stays in India for more than 181 days in the year of his return and in the past seven years has made trips to India which aggregate to 730 days or has been a resident in two of the previous 10 years, he would be assessed as a ROR in the year of return. As a result of being classified as a ROR, the individual is subject to Indian tax and all income earned in the fiscal year.
In contrast, if the same NR individual meets the requirements to qualify as a RNOR in the year of return, only the income accrued or received in India (or deemed to be accrued or received in India) and income from an overseas business controlled (or set up) in India is subject to Indian tax.
Finally, if the same NR individual is able to maintain his NR status in the year of his return, only the income accrued or received in India (or deemed to be accrued or received in India) is subject to Indian tax.
Indian citizens planning to return to India should not only plan for the Indian tax impact, but also consider other Indian tax mitigation strategies going forward. For example, interest income on debentures of an Indian public company acquired in foreign exchange may be taxed at a flat rate of 20 percent instead of a higher rate that may apply to total income. The choice of 20 percent or regular rate is at the discretion of the NR individual and can be continued even after the NR individual becomes a ROR.
Given the complexities of residency classification which yield different tax treatments and potential planning opportunities associated with an Indian citizen's return to India, it is advisable to consult a tax professional before making the move back home.