NRE & NRO accounts: A comprehensive guide for taxpayers

For Non-Resident Indians (NRIs), managing finances between India and their country of residence can be complex. To simplify this, Indian banks offer two key types of accounts: the Non-Resident External (NRE) Account and the Non-Resident Ordinary (NRO) Account. These accounts help NRIs handle their earnings and investments in India, but understanding their differences is crucial for effective tax planning.

What is an NRE Account?

The NRE account is designed for NRIs to transfer and manage their foreign earnings in India. 

Here are some key points:

It allows funds to be maintained in Indian rupees, converted from foreign currencies.

Secondly, Funds in an NRE account, including both the principal and interest, are fully repatriable. This means the money can be transferred back to the NRI's country of residence without restrictions. Thirdly, The interest earned on an NRE account is exempt from Indian income tax. 

Fourthly, NRIs who want to keep their foreign income in India without being subject to Indian taxes.

What is an NRO Account?

The NRO account is meant to manage income earned in India, such as rent, dividends, or pensions. 

Some features of the NRO account include:

Firstly, It is maintained in Indian rupees and is used to manage income earned in India.

Secondly, Repatriation is possible but is subject to limits. Up to USD 1 million (including taxes) can be transferred abroad in a financial year with proper documentation.

Thirdly, Interest earned on an NRO account is subject to Indian income tax at the rate of 30%, plus applicable surcharges and cess. However, DTAA (Double Tax Avoidance Agreement) provisions may help reduce the tax burden if applicable.

Fourthly, NRIs with earnings originating in India, such as property rental income or business income.

Repatriation Restrictions on NRO Accounts : 

Repatriation limits are in place for NRO accounts to regulate the transfer of funds outside India. These limits ensure that the funds being repatriated are generated from legitimate sources and that excessive capital flight is prevented.  
 
Key Repatriation Limits:

● Principal Amount: The maximum amount that can be repatriated from an NRO account per financial year is USD 1 million (or its equivalent in other currencies). This limit applies cumulatively across all NRO accounts held by an individual.   

● Income from Current Sources: Funds generated from current income sources in India, such as rental income, dividends, or interest, can be repatriated without any restrictions.   

● Sale Proceeds: Proceeds from the sale of movable or immovable property in India can be repatriated up to the limit of USD 1 million per financial year.   

● Special Cases: In certain cases, such as inheritance or gifts, repatriation may be allowed beyond the usual limits, subject to specific conditions and approvals from the Reserve Bank of India (RBI).   

Important Considerations:

● Tax Deductions: Before repatriation, any applicable taxes must be deducted from the NRO account.   

● Documentation: Supporting documents, such as tax returns and sale agreements, may be required to justify the repatriation.

● RBI Approval: For repatriations exceeding the prescribed limits or for special cases, prior approval from the RBI might be necessary.   

It's essential for NRO account holders to familiarize themselves with the repatriation rules and obtain necessary approvals to ensure smooth repatriation of funds.

Which Account Should You Choose?

Choosing between an NRE and an NRO account depends on your financial situation. If your income is generated overseas and you wish to repatriate the funds freely, an NRE account is a better choice. On the other hand, if you have income sources within India, such as rent or dividends, an NRO account is essential to handle and repatriate these earnings.

Tax Implications for NRE and NRO Accounts

Understanding the tax implications of both accounts is vital for NRIs:

1.    NRE Account: The interest earned on the NRE account is tax-free in India, providing a significant advantage for NRIs who want to avoid double taxation.

2.    NRO Account: Interest earned is taxed at 30%, but the applicable tax can be reduced through the DTAA between India and the country of residence. NRIs must submit a tax residency certificate and Form 10F to avail of this benefit.

3.    Tax Deducted at Source (TDS): Indian tax authorities may deduct TDS on certain types of income before repatriation.

4. Foreign Exchange Regulation Act (FERA): Adhere to FERA regulations regarding repatriation of funds to avoid penalties.

Conclusion

Both NRE and NRO accounts provide essential services for NRIs to manage their income and savings in India. While the NRE account is ideal for holding foreign income tax-free, the NRO account is the go-to for managing Indian income, albeit with tax obligations.

Understanding the differences between these accounts will allow NRIs to make informed financial decisions, ensuring efficient tax planning and hassle-free money management across borders.

The author is the founder of TaxBuddy.com and Finbingo.com