How NRIs are taxed on pension they get from overseas

Indians who have previously worked outside the country or expatriates qualifying as resident and ordinarily resident (ROR) taxpayer in India are required to report foreign retirement funds that they hold and the income from such funds in India in Schedule FA of the income-tax return. When NRIs return to India, their taxation starts from the year their status changes to ROR and not from the immediate year of their return.

The taxability of income accruing from these foreign retirement funds depends on the nature of the funds and the benefits available under applicable Double Taxation Avoidance Agreements (DTAAs). Pension income from a foreign country’s social security authorities is taxable as other sources of income, whereas pension from employer-funded plans outside India is taxable as salary income. Both are taxable at applicable slab rates.

In case of double taxation, an individual may claim benefits under DTAA between India and the other country. The benefits can be in the form of (a) exemption from Indian tax or (b) foreign tax credit for taxes paid in the other country, depending on the individual’s residential status under the DTAA. For example, any benefit received from the US Social Security Authorities is taxable only in the US and exempt from Indian income tax as per the DTAA between India and the US. However, any interest, dividends, or capital gains from individual retirement account and 401K plans will be taxable in India, and the individual may claim a foreign tax credit for taxes paid in the US. If exemption is claimed under the DTAA as a tax resident of the other country, Form 10F is required to be filed electronically along with a copy of the tax residency certificate issued by the tax authorities of that country, in this case, the US IRS. If foreign tax credit is claimed, Form 67 must be filed along with proof of taxes paid outside India on or before the end of the assessment year.

In some countries, such as the US, the accretions in the retirement funds may not be taxable until withdrawal. This creates a mismatch in claiming foreign tax credit because tax liability arises in India when the income accrues, whereas the other country taxes it upon withdrawal or redemption of the retirement funds. This mismatch can potentially result in double taxation of the income in both countries.

To address this mismatch, a beneficial provision was introduced under the Act (Section 89A and Rule 21AAA) effective from fiscal 2021-22. This provision allows the deferral of Indian taxation on accrued income from eligible retirement funds to the year of withdrawal and enables claiming foreign tax credit in India in that year, subject to specified conditions. This option must be exercised using Form 10EE, which needs to be filed electronically before the due date for filing tax return. Form 10EE is a one-time compliance and once furnished for a particular year applies to that year and all subsequent years, unless the individual becomes a non-resident of India.

This rule applies to specified accounts, which means an account maintained in a notified country by a specified person for their retirement benefits. The income from such accounts is not taxable on an accrual basis but is taxed by that country upon withdrawal or redemption. Currently, only three countries are notified for this provision: Canada, the UK, and the USA.

The term accrual in the aforementioned provision, on the basis judicial precedents, implies the taxpayer has an ascertained entitlement and an enforceable right in favour of the taxpayer, and with a corresponding obligation on the other party to pay the taxpayer. Relief under Section 89A becomes relevant when the test of accrual of the income is met in case an individual is a resident in India, but taxation in a foreign country occurs only in a subsequent year when the funds are withdrawn. The accrued income for which relief is claimed under Section 89A, and the accrued income for which relief is not claimed, must be reported separately in the tax return.

Sonu Iyer is partner and national leader – People Advisory Services, EY India. Siddharth Deb, senior tax professional with EY, contributed to this article.