Residential Status and Taxability

Taxability of any income in the hands of a person depends on the following two things :

(1) Residential status of the person as per the Income-tax Law; and
(2) Nature of income earned by him.

For the purpose of Income-tax Law, an individual or HUF can have any one of the following residential status:

(1) Resident and ordinarily resident in India (also known as resident)
(2) Resident but not ordinarily resident in India
(3) Non-resident

Every year the residential status of the taxpayer is to be determined by applying the provisions of the Income-tax Law designed in this regard and, hence, it may so happen that in one year the individual or HUF would be a resident and ordinarily resident and in the next year he may become non-resident or resident but not ordinarily resident and again in the next year his status may change or may remain same.

A person will be treated as a resident in India if he satisfies the criteria specified in this regard under the Income-tax Act.

A person other than an individual or a HUF, i.e., company, partnership firm, etc., can have any one of the following residential status:

(1) Resident
(2) Non-resident

Determination of the residential status of an Individual

To determine the residential status of an individual, the first step is to ascertain whether he is resident or non-resident. If he turns to be a resident, then the next step is to ascertain whether he is resident and ordinarily resident or is a resident but not ordinarily resident.

Step 1 given below will ascertain whether the individual is resident or non-resident and step 2 will ascertain whether he is ordinarily resident or not ordinarily resident. Step 2 is to be performed only if the individual turns to be a resident.

Step 1: Determining whether resident or non-resident

Under the Income-tax Law, an individual will be treated as a resident in India for a year if he satisfies any of the following conditions (i.e. may satisfy any one or may satisfy both the conditions):

(1) He is in India for a period of 182 days or more in that year; or

(2) He is in India for a period of 60 days or more in the year and for a period of 365 days or more in 4 years immediately preceding the relevant year.

If an individual does not satisfy any of the above conditions he will be treated as non-resident in India.

Note: Condition given in (2) above will not apply to an Indian citizen leaving India for the purpose of employment or to an Indian citizen leaving India as a member of crew of Indian ship or to an Indian citizen/person of Indian origin coming on a visit to India. A person is said to be of Indian origin, if he or any of his parents or grand-parents (maternal or paternal) were born in undivided India.

Note: With effect from Assessment Year 2015-16, in the case of an individual, being a citizen of India and a member of the crew of a foreign bound ship leaving India, the period or periods of stay in India shall, in respect of such voyage, be determined in the manner and subject to such conditions as may be prescribed.

Step 2: Determining whether resident and ordinarily resident or resident but not ordinarily resident

A resident individual will be treated as resident and ordinarily resident in India during the year if he satisfies following conditions:

(1) He is resident in India for at least 2 years out of 10 years immediately preceding the relevant year.

(2) His stay in India is for 730 days or more during 7 years immediately preceding the relevant year.

A resident individual who does not satisfy any of the aforesaid conditions or satisfies only one of the aforesaid conditions will be treated as resident but not ordinarily resident.

In short, following test will determine the residential status of an individual:

o If the individual satisfy any one or both the conditions specified at step 1 and satisfies both the conditions specified at step 2, then he will become resident and ordinarily resident in India.

o If the individual satisfy any one or both the conditions specified at step 1 and satisfies none or one condition specified at step 2, then he will become resident but not ordinarily resident in India.

o If the individual satisfy no conditions satisfied at step one, then he will become non-resident.

Determination of the residential status of a HUF

To determine the residential status of a HUF, the first step is to ascertain whether the HUF is resident or a non-resident. If the HUF turns to be a resident, then the next step is to ascertain whether it is resident and ordinarily resident or is resident but not ordinarily resident.

Step 1 given below will ascertain whether the HUF is resident or non-resident and step 2 will ascertain whether the HUF is ordinarily resident or not ordinarily resident. Step 2 is to be performed only if the HUF turns to be a resident.

Step 1: Determining whether resident or non-resident

For the purpose of Income-tax Law, a HUF will be treated as resident in India, if the control and management of the affairs of the HUF is located (partly or wholly) in India.

Step 2: Determining whether resident and ordinarily resident or resident but not ordinarily resident

A resident HUF will be treated as resident and ordinarily resident in India during the year if its manager (i.e. karta or manager) satisfies both the following conditions :

(1) He is resident in India for at least 2 years out of 10 years immediately preceding the relevant year.

(2) His stay in India is for 730 days or more during 7 years immediately preceding the relevant year.

A resident HUF whose manager (i.e. karta or manager) does not satisfy any of the aforesaid conditions or satisfies only one of the aforesaid conditions will be treated as resident but not ordinarily resident.

In short, following test will determine the residential status of a HUF:

o If the control and management of the affairs of the HUF is located (partly or wholly) in India and the manager (i.e. karta or manager) satisfies both the conditions specified at step 2, then the HUF will become resident and ordinarily resident in India.

o If the control and management of the affairs of the HUF is located (partly or wholly) in India and the manager (i.e. karta or manager) satisfies none or only one condition specified at step 2, then the HUF will become resident but not ordinarily resident in India.

o If the control and management of the affairs of the HUF is located wholly outside India, then the HUF will become non-resident.

Determine of the residential status of a company

With effect from Assessment Year 2017-18, a company is said to be resident in India in any previous year, if:

(i) it is an Indian company; or
(ii) its place of effective management, at any time in that year, is in India.

For this purpose, the 'place of effective management' means a place where key management and commercial decisions that are necessary for the conduct of the business of an entity as a whole are, in substance made.

The concept of POEM is effective from Assessment Year 2017-18. The CBDT has issued the final guidelines for determination of POEM of a foreign company.

The final guidelines on POEM contain some unique features. One of the unique features is test of Active Business Outside India (ABOI). The guidelines prescribe that a company shall be said to engaged in 'active business outside India' if passive income is not more than 50% of its total income. Further, there are certain additional cumulative conditions to be satisfied regarding location of total assets, employees and payroll expenses.

The place of effective management in case of a company engaged in active business outside India shall be presumed to be outside India if the majority meetings of the board of directors of the company are held outside India.

In cases of companies other than those that are engaged in active business outside India, the determination of POEM would be a two stage process, namely:—

1. First stage would be identification or ascertaining the person or persons who actually make the key management and commercial decision for conduct of the company's business as a whole.

2. Second stage would be determination of place where these decisions are in fact being made.

However, it has been provided that the POEM guidelines shall not apply to a company having turnover or gross receipts of INR 50 crores or less in a financial year .

Every person other than an individual, HUF and company is said to be resident in India during the year, if the control and management of its affairs for that year is located wholly or partly in India.

Incomes charged to tax in India in the hands of a taxpayer

The following chart highlights the tax incidence in case of different persons:

(*) ROR means resident and ordinarily resident.
RNOR means resident but not ordinarily resident.
NR means non-resident.

Incomes -deemed to be received in India

Following incomes are treated as incomes deemed to be received in India:

o Interest credited to recognised provident fund account of an employee in excess of 9.5% per annum.
o Employer's contribution to recognised provident fund in excess of 12% of the salary of the employee.
o Transferred balance in case of reorganisation of unrecognised provident fund.

Contribution by the Central Government or other employer to the account of the employee in case of notified pension scheme referred to in Section 80CCD.

Incomes -deemed to have accrue or arise in India

Following incomes are treated as incomes deemed to have accrued or arisen in India:

o Capital gain arising on transfer of property situated in India.

o Income from business connection in India.

o Income from salary in respect of services rendered in India.

o Salary received by an Indian national from Government of India in respect of service rendered outside India. However, allowances and perquisites are exempt in this case.

o Income from any property, asset or other source of income located in India.

o Dividend paid by an Indian company.

o Interest received from Government of India.

o Interest received from a resident is treated as income deemed to have accrued or arisen in India in all cases, except where such interest is earned in respect of funds borrowed by the resident and used by resident for carrying on business/profession outside India or is in respect of funds borrowed by the resident and is used for earning income from any source outside India.

o Interest received from a non-resident is treated as income deemed to accrue or arise in India if such interest is in respect of funds borrowed by the non-resident for carrying on any business/profession in India.

o Royalty/fees for technical services received from Government of India.

o Royalty/fees for technical services received from resident is treated as income deemed to have accrued or arisen in India in all cases, except where such royalty/fees relates to business/profession/other source of income carried on by the payer outside India.

o Royalty/fees for technical services received from non-resident is treated as income deemed to have accrued or arisen in India if such royalty/fees is for business/profession/other source of income carried by the payer in India.

Business connection

Business connection includes a profession at connection. Business connection includes any activity carried out through a person acting on behalf of a non-resident who performs any one or more of the following:

o If such person has in India authority to conclude contracts on behalf of the non-resident (it will not include cases where authority is restricted to contract for purchase of goods or merchandise on behalf such non-resident); or

o If such person in India habitually maintains stock of goods or merchandise from which he regularly delivers goods or merchandise on behalf of the non-resident;

o If such person habitually secures orders in India mainly or wholly for the non-resident or for the other non-resident under the same management.

No business connection shall be deemed to have been established, if the business is carried on through an independent broker, general commission agent or other agent (i.e., a broker or commission agent who is not working mainly or wholly for such non-resident or other non-resident under same management), provided such person is working in his ordinary course of business.

Only so much of income which accrues or arises due to such business connection is deemed to be income accruing or arising from India and not the entire income of the non-resident.

[As amended up to Finance Act, 2017]