Income taxes in India: The basics

One of the downsides of planning to retire to another country is that you need to be familiar with the tax systems of two different countries. This is especially challenging in the case of US and India, since tax regulations of the two countries are substantially different.

Since I never worked in India, I have never paid income taxes there, so I have no first-hand experience in this. I am planning a series of posts based on information that I gathered from different sources. This post explains some of the basic details regarding taxation of Indian residents.

  1. A basic difference in the Indian tax system compared to the US system is that income taxes are filed on an individual basis. In other words, there is no filing status such as "married filing jointly" etc. As a result of this, one of the basic rules of tax planning in India is that you should spread your income among different members of your family.
  2. Income tax is assessed based on the Financial Year (FY) which starts on April 1 and ends on March 31 of the following year. So you normally talk about the income taxes for FY 2005-06 and so on. However, since taxes are filed after the financial year is over, FY 2005-06 is also referred to as Assessment Year (AY) 2006-07.
  3. You are required to file income taxes only if your taxable income for the financial year exceeds the Basic Exemption Limit. For FY 2007-08 (AY 2008-09), the Basic Exemption Limit is Rs. 110,000 (about $2750).
  4. One of the interesting things about Indian income tax laws is that women and senior citizens (over 65) get some special tax breaks. For example, the Basic Exemption Limit above is increased to Rs. 145,000 (about $3625) for women and Rs. 195,000 (about $4875) for senior citizens.
  5. Another striking aspect of Indian tax law is that there are special provisions that apply based on which religion you belong to! For example, the notion of Hindu Undivided Family (HUF) is a special family entity that applies only to Hindus, Jains and Sikhs. This is an exception to item #1 in that it allows a HUF to be treated as a single unit for tax purposes.
  6. Every person who files income taxes is required to get a Permanent Account Number (PAN) from the Income tax department. This is the equivalent of the social security number in the US.
  7. Tax deadline is normally July 31. For example, tax returns for FY 2006-07 must be filed by July 31, 2007.
  8. Much like in the US, a number of deductions are available that may be excluded from your income for tax purposes. Your taxable income is computed by subtracting these deductions from your gross income.
  9. Tax rates are progressive as they are in the US. The tax rates for FY 2007-08 are as follows:
    • For taxable income from Rs. 110,001 to 150,000, the tax is 10% of the amount greater than Rs. 110,000. (Lower limit is Rs. 145,001 for women).
    • For incomes in the range Rs. 150,001-250,000, the tax rate goes up to 20% (Lower limit is Rs. 195,001 for senior citizens).
    • The highest tax bracket of 30% applies to taxable incomes above Rs. 250,000 (about $6250).
  10. There are two additional "surcharges" that apply in addition to the above. These add to your tax bill as an additional percentage of your already computed tax amount. First, a 10% surcharge applies if your income is above Rs. 1,000,000 (about $25,000). An additional education surcharge of 3% also applies to all taxpayers. After including the surcharges, the highest tax bracket is almost 34%.

One thing to keep in mind is that tax evasion is widespread in India. According to some reports, there are only 30 million taxpayers in India, which is remarkable for a country of over 1 billion people. The majority of taxpayers in India are salaried employees whose taxes are withheld from their paychecks. Many rich farmers and business owners pay little or no income taxes. The tax collection and enforcement system is long overdue an overhaul.

Related links:

20 comments:

Prasanth said...

The issue in India are not the Income Tax rates and laws which are actually pretty OK. The issue is a lack of enforcement of the existing laws - only people who regularly pay taxes are the salaried class - mainly because the tax is deducted at source.

Nigel said...

Prasanth,
You are right. It is the tax collection and enforcement system that needs reform. Thanks for pointing this out. I have updated the post.

Anonymous said...

I believe there is also a 10% surcharge that one pays on the computed tax.

Nigel said...

Anonymous,
Thanks for the tip. I had no idea about this. I have updated the post now.

Anonymous said...

Hmm so it is 10% only for certain range of salaries, I stand corrected.

I am new on the US/India finance thing - your site is very informative.

While on the tax, I think investing (when in India, with US tax laws, you end up paying more) is better for 2 reasons, Long term tax is negligible (or inexistent?). Dividend taxes are unheard of.

Keep up the good work.

Kartik said...

good write-up...this was very informative. thanks..

Nigel said...

Anon, Kartik,

Thanks for stopping by.

Anonymous said...

You can't spread your income by giving it to your wife or minor children or grandchildren because that income will still be added to yours and taxed in your hands.

Though the assessment year is next year, tax has to be paid almost in full by way of deduction or in advance within this year of earning the income.

Tax is taken away even before you earn the income in case of dividends from mutual funds except equity funds

The deductions you get are very few
if your income is mostly salary.

Nigel said...

Anon,
Thanks for your comment.

Non-salary income (investments, rental income etc.) can be in the name of your spouse/child, right? This is different from how it is in the US, where you file a tax return for the whole household, not for each individual.

You are right about tax withheld from income. I did not mention this since it works much the same way in the US. The same with deductions from salary income (normal deductions for salaried people in the US are: retirement contributions, home loan interest, charitable contributions, state and property taxes).

Avinash said...

Very informative. Thanks for good work.

Revathi said...

Usually, only salaried employees are subject to the slabs of taxation.
"Consultants" on the other hand are subject to a different rate, and may deduct business expenses.

And income from dividends is subject to taxes and some of them are subject to deductions if the income is from some government securities.

Murali said...

Nice Blog.Good information

I have a question about 401k left in USA by a US Citizen resident in India.
If he has 401k worth $100,000 at the start of the year, and $120,000at the end of the year ( $20,000 increase due to market ,dividends,etc), How does Indian gov tax this $20,000.

- we know that US gov does not tax this until you withdraw
- Does Indian gov tax this accrual, if yes does it tax only the dividend part or even the unrealized increase due to market

Prabhakar said...

US and India as I understand have a agreement of single taxation ie only in one country. However, I think you are taxed in a country if you reside there over 6 months. The gap between US brackets and India brackets is significant. Individuals filing jointly are taxed on income over $35000/yr but it seems in India they are taxed over Rs195,000/yr for retirees. At 30% this would amount to a significant amount if you got around $1800/month in Social security and you lived in India. Is this a correct assumption?

Nigel said...

As I mentioned in another post on social security, India does not tax social security payments.

Anonymous said...

is it not a requirement that US citizens and Legal permanent residents are required to file only US taxes even if they retire in India...on world wide income?

Nigel said...

Anon,
Yes, US citizens are required to pay tax on worldwide income no matter where they reside. I have covered US tax issues in other posts. It is possible to plan your income in retirement such that you pay little or no taxes (depending on the level and type of income). This post was about Indian income taxes.

Anonymous said...

Nigel:

///US and India as I understand have a agreement of single taxation ie only in one country. However, I think you are taxed in a country if you reside there over 6 months. The gap between US brackets and India brackets is significant. Individuals filing jointly are taxed on income over $35000/yr but it seems in India they are taxed over Rs195,000/yr for retirees. At 30% this would amount to a significant amount if you got around $1800/month in Social security and you lived in India. Is this a correct assumption?///

My question is about this post. I am unable to understand this as there is no way an US Citizen (may be Indian by birth) could be taxed in India even if s/he wants to. He should pay tax to US---No choice at all. Similarly, a green card holder if he lives for 8 of 15 years in the U.S. he is required to pay taxes only to U.S. even after filing INS 407 (abandoning US residency). That would not exclude him from paying taxes yo U.S.

Finally, even if some one has NOT renewed his green card, the STATUS of US residency does not expire--It is permanent. For example, a person who has his green card expired (read as not renewed) is supposed to pay taxes to U.S.

My questions are:
1). Whether an expired green card holder can pay taxes to India (it is another matter as he may never be able to renew his green card if taxes are NOT paid to U.S. even if lived in India for more than six months)?

2). Could you highlight these with relevant to retirees (US citizens and Green card holder for 20 years) in India.

Thanks

Nigel said...

Anon,
The US-India tax treaty does not mean that you are taxed in only one country. It just means that the same income will not be taxed by both countries. Also, as mentioned in earlier comments, India does not tax U.S. social security income.

I find all this concern about taxes in retirement a bit baffling. If taxes are your biggest worry about retirement, you are doing pretty well already. Consider:
- If you owe a lot in income taxes, you must have a lot of income compared to the local population. This is not a bad situation to be in. Given that the highest tax bracket is 34%, you will never pay more than 34% of your income in taxes (and in practice, a lot less).
- Taxation in India is largely limited to salaried people. I am yet to meet a retiree who pays taxes in India.

Jay Shah said...

There was a proposed legislation (don't know whether it passed or not) which would tax all global income for NRI and expat (some conditions apply but basically if you retire then you will fall in that in few years. This means file and pay taxes in India and in USA for all global income and then file for refund due to treaty. Extra hassles to go through making it little difficult as one want to age w/o extra hassles!

Jay Shah

Anonymous said...

us citizen,staying about 5.5 months in india:
1.end of four years,becomes indian resident for tax purpose.
2.have income of $50000 from interest(money landed from business sale)per year
3.have income of 5.0 lakh rupees interest in india,between husband and wife)per year, automatic tax paid app.30.8%
4.paying in US fed tax app.$6500 and state tax of $1500,totaling $8000.00

my question is,if i file tax return in india...total tax comes about 612000 rupees..which is about $12000
so,do i have to pay difference of $4000 to india tax department,do they count fedral tax and state tax together?
in us Fy jan 1 to dec 31,compare to 4-1 to 3-31 in india
in us we file as married filing joint and everything is prettymuch joint,so how to seprate in to two individule for tax purpose in india.
looks like i have to forget coming to india only because of income tax mess or is there easy solution from dtaa/tax treaty,please help explain about tax solution.
thanks