Tax residence is a critical concept in the Indian Income Tax Act as it determines the scope of tax liability for an individual or entity. The residential status of a person affects how their income, whether earned in India or abroad, is taxed. Indian tax law distinguishes between residents and non-residents to decide the tax treatment of income and the applicability of various provisions.
Definition of Resident under the Income Tax Act
Under the Income Tax Act, the term “resident” is defined in section 2(42) as a person who is resident in India within the meaning of section 6 of the Act. This means that the definition of a resident is linked specifically to the residential status criteria laid down in section 6.
Definition of Non-Resident under the Income Tax Act
Section 2(30) of the Income Tax Act defines a “non-resident” as a person who is not a resident as per the criteria in section 6. Additionally, for certain purposes such as transfer pricing provisions and deemed assessments under sections 92, 93, and 168, the term “non-resident” includes a person who is not ordinarily resident in India.
Legislative Basis and Validity of Residential Status Provisions
The legislative power to define residential status and tax income accordingly is well established and intra vires the Constitution. Indian income tax law follows the principle of “sufficient territorial connection,” which means income arising in India and income of residents from abroad can be taxed. This territorial nexus principle has been affirmed in judicial decisions and forms the foundation for residential status rules.
Importance of Determining Residential Status
Residential status plays a pivotal role in determining the tax liability of a person. It is essential to establish whether a person is a resident or non-resident in a particular previous year, as the tax liability depends on this classification. The residential status is always determined concerning the previous year, which is the financial year immediately preceding the assessment year. The determination is made based on the facts applicable to the previous year alone.
In cases where a person may be considered resident in both India and another country that has a Double Taxation Avoidance Agreement (DTAA) with India, the residential status is determined by applying the tie-breaker rules under the relevant DTAA.
General Principles in Determining Residential Status
Several principles govern the determination of residential status under Indian tax law:
- The stay in India need not be continuous; intermittent presence counts toward the period of stay.
- The location of stay within India is immaterial; presence anywhere in India counts.
- Citizenship and residential status are distinct concepts; a person may be an Indian citizen but a non-resident for tax purposes, or a non-citizen resident in India.
- Residential status is determined separately for each previous year. Being a resident in one year does not automatically imply residency in subsequent years.
- The residential status determination process includes an opportunity for the taxpayer to present their case, especially during assessments or scrutiny, and must be recorded in the assessment order for transparency and appeal.
Burden of Proof Regarding Residential Status
In matters concerning residential status, the initial burden lies on the tax authorities to prove that the assessee was present in India. Once the presence is established, the burden shifts to the assessee to prove that their visits to India during the previous year were occasional or casual and should not result in resident status.
Deeming Provision of Residential Status for Multiple Sources of Income
Section 6(5) provides a deeming rule stating that if a person is resident in India for any source of income during the previous year, that person shall be deemed resident in India for all sources of income during the same previous year. This means the taxpayer cannot claim resident status for some incomes and non-resident status for others within the same year.
Historically, this provision had practical importance when different previous years could apply to different income sources. However, since the financial year is now uniform for all sources of income for all taxpayers, this deeming provision has become largely redundant.
Residential Status of an Individual Under the Income Tax Act
The residential status of an individual under the Income Tax Act can be categorized into three types: resident and ordinarily resident (ROR), resident but not ordinarily resident (RNOR), and non-resident. The classification depends primarily on the physical presence of the individual in India during the relevant previous year and certain preceding years.
Criteria for an Individual to be Treated as a Resident in India
An individual is considered a resident in India for a previous year if any one of the following conditions is fulfilled:
- The individual has stayed in India for 182 days or more during the relevant previous year.
- The individual has stayed in India for at least 60 days during the relevant previous year and a total of 365 days or more during the four previous years immediately before the relevant previous year.
The physical presence is counted regardless of whether the stay is continuous or at different places within India.
Resident and Ordinarily Resident Status
An individual classified as resident becomes ordinarily resident if both of the following conditions are satisfied:
- The individual has been resident in India in at least two out of the ten previous years immediately preceding the relevant previous year.
- The individual has stayed in India for a total of 730 days or more in the seven previous years immediately preceding the relevant previous year.
Being ordinarily resident implies a stronger connection with India and affects the scope of taxable income.
Resident but Not Ordinarily Resident Status
An individual is classified as resident but not ordinarily resident if any of the following conditions apply:
- The individual has been a non-resident in India in nine out of the ten previous years immediately preceding the relevant previous year.
- The individual has stayed in India for less than 730 days in the seven previous years immediately before the relevant previous year.
- The individual, being an Indian citizen or a person of Indian origin, has income exceeding a specified limit and has stayed in India for 120 days or more but less than 182 days during the relevant previous year.
- The individual is deemed resident by specific provisions applicable to Indian citizens.
This classification has important implications for taxation of foreign income and exemptions available.
Criteria for an Individual to be Treated as Non-Resident in India
An individual is treated as a non-resident if neither of the two basic conditions for residency is met. That is, the individual has not stayed in India for 182 days or more during the relevant previous year and has not stayed for at least 60 days during the relevant previous yearr,, coupled with 365 days or more during the four previous years before the relevant previous year.
Non-residents are taxed only on income received or accrued in India and income deemed to accrue or arise in India.
Non-Discrimination Provision under International Tax Treaties
The principle of non-discrimination is enshrined in Article 24 of the United Nations Model Tax Convention, which India often follows in its treaties. This principle prohibits taxing nationals of one contracting state more heavily or imposing more burdensome requirements on them in the other contracting state than on its nationals in similar circumstances.
The provision aims to prevent unjustified tax discrimination based on nationality or residence while acknowledging legitimate distinctions in tax liability.
Interpretation of Non-Discrimination Principle
The non-discrimination clause ensures that nationals or residents of one country are not subjected to heavier taxation or more complex compliance than nationals of the other contracting country in comparable circumstances. It does not prohibit differential treatment justified by differences in tax liability or ability to pay.
For example, countries can treat their own public bodies or not-for-profit institutions differently without extending those privileges to foreign entities. Similarly, tax concessions granted to residents may not have to be extended to non-residents unless otherwise specified in the treaty.
Application and Scope of Non-Discrimination Provision
The provision applies to individuals, companies, partnerships, and other legal entities. It requires equality in the basis of tax charge, assessment method, rates, and administrative procedures. It is, however, carefully framed to avoid indirect discrimination and to allow for specific treaty provisions that may favor one contracting state’s nationals under special circumstances.
Counting of Days for Residential Status Determination
To determine residential status, the counting of days spent in India follows general principles established under the General Clauses Act, 1897. A day is counted as a full day if the individual is present in India at any time during that day, but the first day of arrival is generally excluded in calculations unless the context indicates otherwise.
Judicial rulings have clarified that the period is counted from the day following the arrival in India to the day of departure. This helps avoid disputes over fractions of days and ensures consistency in determining the period of stay.
Exclusions from Period of Stay in India
Certain situations warrant exclusion from the period of stay for residency purposes. For example, involuntary stay in India due to government restrictions, such as impounding of passport or quarantine requirements, may be excluded.
Similarly, temporary visits or short stays in India during deputation abroad or for official assignments may also be excluded depending on the facts and circumstances of the case.
Special COVID-19 Clarifications on Residential Status for Previous Years 2019-20 and 2020-21
In light of the global COVID-19 pandemic and resulting travel restrictions, the Indian tax authorities issued special clarifications regarding the determination of residential status for individuals in the previous years 2019-20 and 2020-21. These clarifications aimed to address the challenges faced by individuals unable to leave India due to lockdowns and suspended international flights.
Circular No. 11/2020: Adjustments for Stay in India during 2019-20
The Circular provided the following key adjustments for determining residential status in the previous year 2019-20:
- For individuals who arrived in India before March 22, 2020, but were unable to leave on or before March 31, 2020, the period of stay between March 22 and March 31, 2020, shall be excluded from the count of days for determining residential status.
- For those quarantined in India on or after March 1, 2020, and who departed India on or before March 31, 2020, or were unable to leave before that date, the quarantine period shall not be counted towards the stay.
- For individuals who departed India on evacuation flights on or before March 31, 2020, the period from March 22, 2020, until their departure shall be excluded.
These measures ensured that individuals stranded due to exceptional circumstances were not penalized by being classified as residents due to their extended presence in India.
Circular No. 2/2021: Relief Measures for the Previous Year 2020-21
The tax department recognized that many individuals intended to leave India during the previous year 2019-20 but could not due to ongoing international flight suspensions extending into the 2020-21 year. To address this, Circular No. 2/2021 provided relief for the previous year 2020-21 as follows:
- Individuals whose intended visits were interrupted due to flight suspensions were given concessions similar to those in Circular No. 11/2020.
- The counting of days present in India for residency determination was adjusted to exclude the period affected by such involuntary stays.
These relaxations were aimed at preventing inadvertent tax residency status and the resultant tax liabilities due to factors beyond the control of taxpayers.
Significance of COVID-19 Clarifications
The clarifications reflected the pragmatic approach of the Indian tax authorities in addressing unprecedented global circumstances. They underscore that involuntary stays due to government-imposed restrictions or emergencies should not negatively impact residential status and consequent tax obligations.
Overview of Section 6 of the Income Tax Act
Section 6 of the Income Tax Act is the primary provision governing the determination of residential status. It lays down specific criteria based on the duration of stay in India during the relevant previous year and preceding years. The section applies uniformly to individuals, including Indian citizens, persons of Indian origin, and foreign nationals.
Application of Section 6 for Individuals
The key criteria under Section 6 for individuals include:
- Physical presence of 182 days or more in India during the relevant previous year qualifies an individual as a resident.
- Alternatively, presence of 60 days or more during the previous year, along with 365 days or more in the four preceding previous years, qualifies an individual as a resident.
- Conditions for classification as ordinarily resident or not ordinarily resident are based on presence over the preceding 7 or 10 years as previously detailed.
Residential Status of Other Entities
While the previous sections focused on individuals, the Income Tax Act also specifies residential status for entities such as companies, firms, and other juridical persons. The criteria vary depending on factors like control, management, and place of incorporation.
- For companies, residence is generally determined based on where the control and management are situated.
- Firms and other entities are considered resident if control and management are wholly situated in India.
Importance of Residential Status in Taxation
Residential status defines the scope of taxable income. Residents are liable to pay tax on their global income, while non-residents are taxed only on income received or accrued in India. Resident but not ordinarily resident individuals may have limited tax liability on foreign income, subject to certain conditions.
Determining correct residential status ensures proper tax compliance and prevents issues such as double taxation or unintended tax liabilities.
Tie-Breaker Rules Under Double Taxation Avoidance Agreements
When an individual is considered a resident of both India and another country under their respective domestic laws, the Double Taxation Avoidance Agreements (DTAAs) provide tie-breaker rules to determine the country of residence for tax purposes. These rules help avoid double taxation and clarify tax jurisdiction.
Typically, the tie-breaker tests are applied in the following order:
- The individual is considered a resident where they have a permanent home available.
- If a permanent home is available in both countries or neither, the center of vital interests (personal and economic relations) is considered.
- If the center of vital interests cannot be determined, the place of habitual abode is considered.
- If the individual has a habitual abode in both or neither country, nationality is considered.
- If the nationality is also the same or cannot be resolved the matter, mutual agreement between the tax authorities is sought.
These rules help assign residence to one country, allowing tax authorities to apply treaty provisions for relief.
Implications of Residential Status on Taxation of Income
The residential status of a person determines the scope of taxable income under Indian income tax law.
- Residents are taxed on their global income, meaning income earned in India and abroad is subject to Indian tax.
- Residents and ordinarily residents (ROR) have the broadest tax liability.
- Residents but not ordinarily residents (RNOR) are taxable on income received or accrued in India and income derived from business controlled or profession set up in India, with limited taxation on foreign income.
- Non-residents are taxed only on income received or accrued in India or deemed to arise in India.
The residential status also impacts the applicability of certain exemptions, deductions, and benefits under the Income Tax Act.
Practical Considerations in Determining Residential Status
Determining residential status requires careful record-keeping of travel dates and physical presence in India. This is crucial because residential status under Indian income tax law directly influences the scope of taxable income, the filing of tax returns, and eligibility for various tax benefits or obligations. It is important for individuals, especially those with international travel or income sources, to maintain clear documentation. Properly tracking the number of days spent inside and outside India can help avoid any disputes with tax authorities and ensure accurate compliance with tax laws.
Individuals who frequently travel across borders should maintain detailed records such as passport entry and exit stamps, flight tickets, boarding passes, and travel itineraries. Digital tools and apps can assist in logging travel history automatically, which can later be corroborated with official documents. In addition to travel dates, other evidence like visa stamps, work permits, and employment contracts may support claims regarding periods spent abroad or within India.
Special cases such as students, diplomats, and persons employed abroad may have unique rules or exceptions affecting residency. For example, students who come to India for education might be considered residents for tax purposes only after certain conditions are met, such as the length of stay exceeding a specified number of days during a financial year. Diplomats and government officials posted abroad typically enjoy special exemptions under international treaties or conventions, such as the Vienna Convention on Diplomatic Relations, which may exempt their income or presence from being treated as residential for tax purposes. Persons employed abroad by Indian companies or the government may also have specific guidelines or bilateral agreements affecting their residential status.
Understanding these nuances is vital because residential status determines the nature of income chargeable to tax in India. Residents are taxed on their global income, meaning income earned anywhere in the world must be declared in India. Non-residents, however, are taxed only on income that is received or deemed to be received in India or income accruing or arising in India. There is also a category called “Resident but Not Ordinarily Resident” (RNOR), which has a hybrid tax treatment. Hence, the residential status affects not only the tax liability but also the applicable tax rates, exemptions, and deductions.
Taxpayers should also consider the implications of residential status on tax planning, compliance, and filing requirements. For instance, if an individual is expected to become a resident in the middle of a financial year due to a prolonged stay, it might be prudent to plan income realization accordingly or arrange foreign tax credits to avoid double taxation. Understanding the deadlines for filing returns and the types of returns applicable based on residential status can prevent penalties or interest for late filing.
Judicial Interpretations and Case Law on Residential Status
Indian courts have delivered various judgments clarifying aspects of residential status under income tax law. These decisions often address issues such as:
- The manner of counting days of presence in India.
- The effect of involuntary stays or travel disruptions.
- The onus of proof in establishing residential status.
- The interpretation of statutory provisions and circulars issued by tax authorities.
These judicial pronouncements guide tax authorities and taxpayers in resolving disputes and applying the law consistently.
Conclusion
Tax residence in India under income tax law is a fundamental concept that defines the extent of tax liability for individuals and entities. The law provides detailed criteria for determining residency based on physical presence and other factors, supplemented by international agreements for dual residents.
Understanding the provisions of section 6 and related rules is essential for accurate tax compliance and planning. Recent developments, such as the COVID-19 clarifications, demonstrate the evolving nature of tax residence principles in response to global circumstances.
Proper determination of residential status helps prevent unintended tax consequences, ensures fair taxation, and facilitates adherence to both domestic law and international tax treaties.