Tax implication on NRIs selling property in India

[ecis2016.org] Properties in India sold by NRIs are liable for taxation under the Indian income tax laws. We look at the applicable tax rates and the exemptions available

Under the Indian income tax (IT) laws, an owner is liable to pay taxes to the government, on the sale of their immovable property, based on the holding period and profit earned (known as capital gains). The same rule applies to property sale by non-resident Indians (NRIs). Discussed in detail are the tax implications on property sale by NRIs in India.

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All NRI property transactions have to comply with FEMA rules

Before we proceed any further, it begs mention here that all property transactions, where an NRI is involved, have to meet the guidelines established under the Foreign Exchange Management Act (FEMA), 1999. The Act establishes rules and procedures for all foreign exchange transactions taking place in India. The Enforcement Directorate (ED) is the agency responsible for enforcing the FEMA.

RBI approval for NRIs selling Indian properties

The sale or gifting of a property by foreign nationals, such as NRIs (non-resident Indians), must have a previous approval by India’s banking regulator RBI to have legal validity, the Supreme Court has ruled. The SC’s judgement came in February 2021, in the John Divianathan verus Vikram Malhotra case, where one FL Raitt gifted a Bengaluru-based property owned by her late husband, Charles Raitt, a foreigner, to Malhotra in 1977, without obtaining the previous permission of the Reserve Bank of India (RBI).

Under Section 31 of the Foreign Exchange Regulation Act, 1973, people who are not Indian citizens and companies which are not incorporated in the country, are required to get prior permission of the RBI to acquire, hold, transfer or dispose of an immovable property here.

While summing up the section, the then finance minister, YB Chavan, who introduced the Bill in the Lok Sabha, said: “As a matter of general policy, it has been felt that we should not allow foreign investment in landed property/buildings constructed by foreigners and foreign-controlled companies, as such investments offer scope for considerable amount of capital liability by way of capital repatriation. While we may still require foreign investments in certain sophisticated branches of industry, there is no reason why we should allow foreigners and foreign companies to enter real estate business.”

The top court, in its ruling, said: “Until such permission is accorded, in law, the transfer cannot be given effect to; and for contravening that requirement, the person concerned may be visited with penalty under Section 50 and other consequences provided for in the 1973 Act.”

Recall here that the FERA Act of 1973 has been replaced by the Foreign Exchange Management Act, 1999 (FEMA, 1999). However, the SC exercised its plenary power under Article 142 of the Indian Constitution to pass this verdict.

“In our opinion, the requirement of seeking previous general or special permission of the RBI, in respect of transactions covered by Section 31 of the 1973 Act, is mandatory. Resultantly, any sale or gift of property situated in India by a foreigner in contravention thereof, would be unenforceable in law,” the SC said.

“Until permission is accorded by the RBI, it would not be a lawful contract or agreement within the meaning of Section 10 read with Section 23 of the Contract Act. For, it remains a forbidden transaction unless (the) permission is obtained from the RBI. The fact that the transaction can be taken forward after grant of permission by the RBI, does not make the transaction any less forbidden at the time it is entered into. It would nevertheless be a case of transaction opposed to public policy and thus, unlawful,” it added further.

While passing this judgement, India’s top court has overruled several judgments by high courts, which had taken a contrary view on the matter, albeit prospectively. The apex court has also clarified that cases, where transactions have already been finalised by the decision of a court, need not be opened.

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Who can an NRI can sell his property to?

While resident Indians enjoy a greater level of freedom in this regard, the rules applicable on NRIs, with respect to the sale of immovable properties, are slightly stringent. An NRI, for example, cannot sell his farmhouse, agricultural land or plantation property to a non-resident or a person of Indian origin (PIO). This is not true in case of residential and commercial properties. An NRI can sell his residential or commercial property to a resident Indian, another NRI or a PIO.

NRI property holding period: Long-term versus short-term

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A key determinant of the taxes that an NRI seller will have to pay on a realty transaction, is the holding period of the said property. The rate of tax on the capital gains is lower, if the holding period of the property is considered as long term, while the rate is higher for a property held for a short term. Under the revised rules in India, if a property is sold after two years from its acquisition, it would attract long-term capital gains (LTCG) tax. A property sold before that period would attract short-term capital gains (STCG) tax.

It is pertinent to note here that before changes in this regard were announced in Budget 2017, the holding period for a long-term asset was three years. It was reduced by a year in Budget 2017, to make sales and purchases more attractive for investors.

In case an NRI is selling an inherited property, the holding period would be calculated from the period when the original owner acquired the immovable asset. Also, if the property was inherited, the cost paid by the original owner to acquire the property would be used as the benchmark for calculating the tax liability.

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TDS on property sold by NRI

With an aim to put a stop to tax evasion by NRI investors, the government has made buyers responsible for deducting various taxes on property purchases from NRI. This is done for the reason that the buyers, who are likely to be Indian residents, are easy to track in case of any wrongdoing. Tracking the NRI seller might become a difficult task, for various reasons.

If you are buying a property from a resident Indian, you are responsible for deducting 1% of the deal value as TDS (tax deducted at source), if the overall cost of the property is more than Rs 50 lakhs, and submitting it to the Income-Tax Department.

In the case of NRI sellers, the buyer has to deduct tax at the rate of 20%, post indexation in case the transactions fall under the category of long-term capital gains. In the case of short-term capital gains, TDS will be deducted at the rate of 30%. We will talk about this in detail in another section of this article.

In case the seller is an NRI, the buyer has to deduct and submit to the authorities an amount that includes both, TDS and LTCG or STCG. Also, they have to do this even if the property is worth less than Rs 50 lakhs.

Capital gains tax for property sold by NRI

In case the transaction qualifies to attract long-term capital gains (LTCG), a tax rate of 20% will be applicable on the sale. Do note here that the NRI seller will have to pay 21% tax on the sale amount and not the profit money as LTCG. They have to undergo a lengthy process to claim refund.

If the transaction is considered as a STCG, 30% of the money earned as profit will have to be paid in taxes. If an NRI was to sell a property for Rs 1 crore that he bought for Rs 75 lakhs within one-and-a-half-years of its purchase, he will have to pay 30% or Rs 7.50 lakhs of the Rs 25-lakh profit, as STCG.

There is a common misconception that the tax rate in case of STCG would depend on the tax slab the NRI falls under, based on his total income in India. This is a wrongly held notion.

NRIs selling property in India must apply for a lower TDS certificate from the tax department using Form 13, so that the buyer does not deduct the entire TDS.  Even though the buyer can apply for a lower TDS certificate, it is ideal that the NRI seller applies for it. Once the tax department goes through the Form 13, it will advise the buyer to deduct the exact percentage of the TDS the buyer has to deduct and submit with the government.

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NRI income tax in India

An NRI’s income in India is taxed under various heads, including income from salary, income from house property, rental income, income from other sources, business income, etc.

Indian income tax slabs

Note: The Budget 2020 introduced an option where the tax payer can pay lower taxes but cannot claim exemptions. 

Tax benefits for NRIs selling property

While exemptions are available to NRI sellers under various sections of the IT law, they can claim rebates only on their LTCG liability.

Tax deduction under Section 54

The entire amount the NRI pays as LTCG could be claimed as refund under Section 54 of the Income Tax Act, if he invests an equal amount in the purchase of another property. Note that only the profits made by you have to be invested and not the entire sale proceeds. This investment must be made in a time-bound manner – one year before or two years after the sale of the previous property – to claim the benefit. In case you buy a land parcel using the profits and are planning to build a house, the construction must be completed within three years of the sale, to claim the rebate.

Note here that the exemption under this section is capped at the entire LTCG amount. Any excess money you put in your new investment will not get you any additional rebate.

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Terms and conditions

• From the assessment year 2014-15, it was put forth that only one house property can be purchased or constructed from the capital gains, to claim exemption under Section 54.
• From the assessment year 2015-16, the government clarified that the new house property must be situated in India, for the NRI seller to claim the rebate. NRIs cannot invest the proceeds on the sale of a property in India, in a foreign property.
• The rebate would stand retracted if the new property is sold within three years of its purchase.

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Tax deduction under Section 54EC

Under this section, if an NRI sells a long-term asset and invests the amount of capital gains in bonds of the NHAI and REC, within six months of the date of sale, they will be exempt from capital gains tax. The bonds will remain locked in for a period of three years.

Terms and conditions

• You cannot claim this investment under any other deduction.
• To claim this rebate, you will have to invest before the due date for filing the tax returns.
• The Budget 2013-14 has capped an upper limit of Rs 50 lakhs in a financial year, in these bonds.

Tax deduction under Section 54F

In case the NRI has generated long-term gains on any asset other than a residential property, they would be able to save taxes by investing in a residential property in India. This could be done by way of buying one house/property one year before or two years after the profit was generated. In case of construction, the NRI tax payer has three years’ time, after the date of transfer of the capital asset, to claim the deductions. The rebate would stand retracted if the house property is sold within three years of its purchase or construction.

Terms and conditions

• The entire sale proceeds and not just the profit amount must be invested. If only a part of the proceeds is invested, the tax liability would arise in proportion to the non-invested part.
• The NRI should not buy any property, except the one he has purchased. He also should not make any new purchases within two years of buying or three years of constructing the new house.

Quick tips

It is ideal for the seller to be present in India to conclude the sale, even if he cannot be present when selecting a buyer. However, if that is not a possibility, only entrust someone reliable and well known to you, to perform this highly legal and financially complex transaction, by providing them with a power of attorney. This document must also be registered, to make it legally enforceable.

FAQs

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