NRIs filing income tax return: Don't forget deemed rent

If a taxpayer owns more than one house, one of them will be deemed as self-occupied and the other one will be deemed to be given on rent.

Investing in Indian real estate is a hot favorite among Non Resident Indians (NRIs). And like every other investment, real estate comes with its share of tax challenges. As we approach the due date for filing tax returns in India for the year 2011-2012, let us look at a tax law relating to real estate that is peculiar to the Indian Income Tax. This law is applicable to both residents as well as NRIs. However, unless they have a regular relationship with a chartered accountant in India, NRIs tend to miss this particular law.

Deemed rent

According to the Indian Income Tax Act, if a taxpayer (resident or NRI) owns more than one house property, only one of them will be deemed as self-occupied. There will be no income tax on a self-occupied property. The other one, whether you rent it out or not, will be deemed to be given on rent. If you have not given the second property on rent, you will have to calculate deemed rental income on the second property (based on certain valuations prescribed by the income tax rules) and pay the tax thereof.

Put simply,

• If you have only one house in India and you have given it on rent, you would need to pay tax on rental income
• If you have only one house in India and you have not given it on rent, you do not have to pay any tax on that property. This is because that house will be deemed as self-occupied and there is no tax on self-occupied property.
• If you have two houses in India and have given both on rent, you would need to pay tax on rental income of both
• If you have two houses in India and you have not given either on rent, then one house will be treated as 'self-occupied' and no tax will be levied. The other house will attract deemed rental tax provision. You will have the discretion to make the choice.

Important: Property is defined as 'building and any land appurtenant'. So this includes residential property plus office building, factory building, godowns, flats, etc. It does not include only land holding. In case you own a single commercial property in India which is lying vacant, you would need to pay tax on deemed rental on that property.

A detailed explanation on this is available from the Income Tax Department under the Tax Payer Information Series - 17.

One house in foreign country and one house in India

The Income Tax Act does not specify if either or both these properties must be situated only in India. Vikas Vasal, Executive Director of KPMG India explains, "At the time of drafting the Income Tax Act, one did not envisage a situation where an Indian would own properties overseas. But now, more and more Indians are settling abroad. So from the reading of the Act, the rule of 'more than one property' will apply to global properties."

What this means is that if you are an NRI and own only one property globally and that property is in India, you would not have to pay any income tax on that property.

However, let us say you are an NRI living in USA. You own and live in a house in USA. You also own a house property in India which is not given on rent. That property in India would be treated as 'deemed to be rented' because your self-occupied property is in USA. So even if you do not give the property in India on rent, you would have to pay income tax on deemed rent in India.

Inherited property

Once you inherit the property, you become the owner. Therefore, the property qualifies for the same tax rules as if you had purchased the property. So if you have inherited a property in India and that is not your only property, you would have to pay tax on deemed income.

Calculating tax

The deemed rent is determined by certain valuation rules prescribed in the Income Tax Act. For the purpose of calculating tax, the income from the property is taken as the 'annual value' of the property. The municipal value of the property, the cost of construction, the standard rent if any under the Rent Control Act, the rent of similar properties in the same locality are relevant factors for the determination of the annual value. Usually, the highest of all the above is taken as annual value of the property. Your chartered accountant will help you to arrive at this annual value.

From this annual value, you will be allowed a deduction of 30% in expenses, irrespective of whether you have actually incurred 30% as expenses. The balance is added to your total income and taxed thereon.

Advance tax

As per the provisions of the Income Tax Act, you must pay advance tax in three instalments during the year in case the tax payable, after adjusting TDS (tax deducted at source) is likely to be Rs 10,000 or more. That is, if your total tax liability in 2011-2012 exceeded Rs 10,000, you should have paid advance tax during 2011-2012 in three instalments. In case you have failed to pay sufficient advance tax, there are interest implications. The interest is generally 1% per month for the default amount and extends till the date of payment.

So for financial 2012-2013, now maybe a good time to calculate your total tax liability including deemed rental income. If your tax payable in 2012-2013 is likely to exceed Rs 10,000 (after netting off TDS) you would need to pay advance tax instalments.

Tax on deemed rent in country of residence

As a permanent resident or citizen of the country that you are living in, you may need to pay tax in that country on your global income. But you would need to check the provision for deemed rental income. For instance, in the case of NRIs in the United States, the US tax code does not tax deemed income. So if you have a property or multiple properties in India that you have not given on rent, you would not have to pay any tax in the US on those properties.

However, here's an important point. Vinay Navani CPA and director of tax at New Jersey based firm Wilkin & Guttenplan, P.C explains, "During the period that you hold the property, you may be eligible for certain deductions on the property in the US. For instance, property taxes from personal use property are deductible in schedule A - itemized deductions. Now at the time you sell the property, your gain or loss would be treated differently by the IRS depending on the purpose of your holding - whether it was for personal use, investment or business. For instance, a loss on personal use property is not deductible while such loss from investment use property may be deductible as a capital loss. And the purpose of your property holding is based on the relevant facts and circumstances - - this includes both your intentions of the property while you held it and also from the way you have claimed deductions, if any, in the years prior to the sale."

You may hence want to consult your tax advisor on showing this property in your US tax return.

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