Is Interest Earned on NRE Account or NRO Account is Taxable in U.S.?

U.S. Tax on Interest Earned in an NRO & NRE

The U.S. Tax Laws involving Indian Income, FBAR Reporting and FATCA Filing can be very complex.

NRE and NRO Account

This will often include issues involving an NRI (Non-Resident Indian) who maintains either (or both) an NRO (Non-Resident Ordinary Rupee Account) and/or NRE (Non-Resident Rupee Account). Both of these accounts are very common, with many of our clients having undisclosed accounts at institutions such as:

  • ICICI NRI Account (NRE or NRO)
  • HDFC NRI Account (NRE or NRO)
  • SBI NRI Account (NRE or NRO)
  • Axis NRI Account (NRE or NRO) 
  • Local Accounts with: Kotak, Bank of India, & Other Accounts

U.S. Taxation (CBT)

Under the concept of Citizen-Based Taxation, a person files taxes in the United States each year if they are considered a US person. It is important to note a key legal distinction in the prior sentence: even though it is called Citizen-Based Taxation, it is not limited to U.S.Citizens; rather, it includes US persons (Legal Permanent Resident, H-1B, L-1, E-2, E-3, etc.)

Who is a U.S. person?

There are actually many categories and subcategories of U.S. persons. For the most part, excluding corporations and other businesses, the following individuals are considered to be a US person:

  • U.S. Citizen.
  • Legal Permanent Resident
  • Foreign National who meets the Substantial Presence tTest
  • Former Legal Permanent Resident who did not properly expatriate

For any one of the aforementioned individuals, they will have to file a US tax return each year detailing their worldwide income.

As you can imagine, this is confusing and nonsensical (read: Stupid). Why would someone who lives outside the United States and is only considered a U.S. person because they still have Legal Permanent Residency have to file an annual tax return for income solely earned in Singapore, Hong Kong, Australia, India, etc.?

Here are a few commonly asked questions we receive:

Live Outside the United States

If a U.S. person lives outside of the United States, but is still considered a US person (meets one of the above reference categories) they still have to file an annual tax return. 

I already Paid Taxes Abroad

If a U.S. person already paid taxes by filing a foreign tax return or having money withheld from a foreign paycheck or account, then the person may qualify for a foreign tax credit. With the foreign tax credit, the amount of taxes he or she paid abroad (using an equation) is applied to the taxes that would have otherwise been due to the United States on the foreign income received — so that the person is not paying double tax.

*It is typically not a dollar-for-dollar credit.

Income is Not Taxable Abroad

Unfortunately, this does not really matter. The IRS rarely, if ever acknowledges the tax-free status of income under the rules of foreign countries. For example, if you are earning interest income in Singapore, that interest income is still taxable in the United States.

If your foreign retirement is accruing or growing and not being being distributed, you may still have to pay tax on the accrued but not distributed income. In addition, if you are able to deduct certain contributions from yourself or your employer to a foreign retirement fund, chances are that the income which was deducted for foreign income tax purposes would still need to be included in your gross income under US tax return.

India NRO Accounts

The NRO account is a “Non-Resident Ordinary Rupee Account.” This is the preferred account for individuals who do not reside in India (even if they are still Indian citizens). The main purpose for an Indian citizen/nonresident of India for opening an NRO account is that a person can use the account to manage income earned in India such as passive income or rental income. Therefore, the Non-Resident Indian can operate their NRO from outside of India (including depositing non-INR currency into the account) and provide access to the money to relatives and family in India.

Moreover, with most Indian Financial Institutions, foreign currency can be deposited into the NRO account, which will be converted into Indian Rupees, as per the prevailing foreign exchange rate.

The main features of an NRO Account are as follows:

  • Nearly anyone (resident or nonresident) can open the account;
  • It can be held jointly between an Indian resident and nonresident;
  • It can be a savings account, current account, recurring account or fixed deposit account; and
  • A certain amount of the money ($1,000,000 USD) is “Repatriable” (Can be transferred out-of-India and into a different country)

India NRE Accounts

The NRE account is popular for the simple reason that the account is usually not TDS (Not Tax Deducted at Source). In other words, while an NRO account has taxes withheld, there is no tax on the earnings generated in the NRE account (unless the individual requests the account to be TDS).

Like the NRO (at most Banks), foreign currency can be deposited into the NRE and then exchange and to rupees and/or exchange back into foreign currency at the time of repatriation. Deposits into an NRE must be done through Foreign Exchange Remittances and since the countess held in rupees it is subject to significant fluctuation risks.

The main features of an NRO Account are as follows:

  • The Interest earned is not taxed;
  • The Account Currency is held in Rupees;
  • A resident individual can be appointed to serve as Power of Attorney (no Joint Account Holders with Indian Residents); and
  • Generally, the money in the NRE is fully repatriable in foreign currency

Getting Into IRS Compliance with Offshore Disclosure

Even though you may be out of compliance and unnecessarily scared by much of the fear mongering websites you may read online, is typically very easy to get back into compliance quickly and safely.

What Can You Do?

Presuming the money was from legal sources, your best options are either the Traditional IRS Voluntary Disclosure Program, or one of the Streamlined Offshore Disclosure Programs.

Golding & Golding: About Our International Tax Law Firm

Golding & Golding specializes exclusively in international tax, and specifically IRS offshore disclosure