Tuesday, June 26, 2012

How the US foreign tax credit rule impacts Indian Americans

Source : The Economic Time

http://articles.economictimes.indiatimes.com/2012-06-21/news/32352430_1_income-tax-mutual-funds-tax-law

How the US foreign tax credit rule impacts Indian Americans

Deepa Venkatraghvan Jun 21, 2012, 08.18PM IST

The Double Taxation Avoidance Agreement that is signed between two countries has a singular objective: to avoid double tax, that is to avoid instances where an individual or company might pay tax in two countries on the same income.

But there is a particular US tax rule with respect to certain capital gains taxes that comes in the way of the DTAA provision. This rule applies to capital gains from the sale of 'personal property' such as certain shares, mutual funds, debentures, bonds etc. It does not apply to real estate. And this tax law may impact high networth Indian Americans quite significantly. Let us take a detailed look.

Tax in India

As an NRI in the US, you may have several of your investments in securities in India - equity shares, mutual funds, debentures, private equity investments etc. First let us look at how these investments are taxed in India.

Equity mutual funds and listed equity shares: Long term capital gain on sale of equity shares (that is if you sell after one year of holding) is tax free in India. Therefore, there will be no tax implication. Short term capital gain is taxed at a flat rate of 15%. For an NRI, the tax is deducted at source (TDS) before you receive your sale proceeds.

Debt mutual funds and listed debentures: Long term capital gain on sale of debt mutual funds (that is if you sell after one year of holding) is taxed at 20% (or 10% without indexation). TDS on this gain will be 10%. Short term capital gain on debt mutual funds is taxed at the taxpayer's regular tax slab. TDS will be 30%. In case of debentures, when they are sold in the secondary market, the same rules for capital gains tax apply.

Private equity investments (unlisted equity shares): Long term capital gain on sale is taxed at 10%. Short term capital gain is taxed at the taxpayer's regular tax slab. TDS will be 30%.

Tax in the US

As a resident or citizen of the US, you are required to pay tax in the US on your global income. So any income from sale of shares, mutual funds or debentures in India must be declared in your US tax return and you must pay tax in the US on that income.

Double Taxation Avoidance Agreement and Foreign tax credit

According to Article 25 of the DTAA, the US shall allow its residents or citizens to claim a tax credit in the US on income tax paid to India. Therefore, according to this Article 25, taxes paid in India on capital gains on shares and securities (in the form of TDS or otherwise) should be allowed to be claimed as tax credit in the US. However, there is more to this.

Article 25 further states that 'the determination of the source of income for purposes of this Article shall be subject to such source rules in the domestic laws of the Contracting States as apply for the purpose of limiting the foreign tax credit.'

And here is where the trouble begins. "According to the US tax code, in order to claim a tax credit of taxes paid in another country, the income must be 'foreign sourced.' According to IRC Sec 865, 'income from sale of personal property by a US resident shall be sourced in the U.S.'," explains Rahul Ranadive, a tax attorney with Florida based Global Tax and Estate Counsel LLP.

What this means is that irrespective of the country of investment, any sale by a US person, of personal property would be treated as US sourced and therefore, foreign tax credit would not be available.

So if you are a US person (that is US citizen, resident or green card holder) and you sell securities in another country, they will be treated as US sourced because you are a US person. So foreign tax credit will not be available on such income. What this means is that you will pay tax in India on your capital gains (wherever applicable). You will also end up paying tax in the US on this income with no benefit of tax credit.

When will this impact you?

Obviously this will impact you only if you are paying taxes in India. Since there is no long term capital gains tax on equity shares and equity mutual funds in India, you will not be impacted in those cases. However, you will feel the pinch in case of short term capital gains on equity shares and mutual funds and long or short term gains on other securities like debt mutual funds, listed debentures and private equity funds.

Tax planning

"If you can take proper pre-investment tax planning, you may be able to face this situation. The most common planning technique is using a holding company in a treaty jurisdiction like Mauritius or Cyprus and routing your investments in Indian companies through these companies," advices Ranadive.

However, this method comes with certain costs such as incorporation and maintenance of the holding company. So you would need to weigh the tax advantage against the costs. Naturally, this strategy might make sense for high networth investors. Small investors would, in most cases, just need to bear the taxes.

Do consult a tax advisor to get advice on your individual situation.

(The author is a chartered accountant and a finance writer. She also blogs athttp://blogs.economictimes.indiatimes.com/moneyhappyreturns/ .)

Sunday, May 22, 2011

INVESTMENT MINOR THROUGH GUARDIAN

I am facing a peculiar situation and I want your views.

Ø Mother is investing on behalf of her minor Son

Ø Investment is from Minor Son’s Bank a/c only

Ø In the cheque there is no a/c holder name printed

Ø In the common application and SIP forms minor bank a/c only mentioned and his mother only signed in common, sip forms and cheque.

Ø In the SIP from minor son name only mentioned in the name as per bank record.

Ø Attaching DOB certificate,in that mothers name mentioned.

I want to know what other forms required?

===========================================================================

For the above mentioned case One of the AMC is treating this case as third party payment.

In non minor investments if the name of the investor is not printed in the cheque the AMC verifies the signature and bank details mentioned in the common application and sip form. It is not treated as third party if both details matches.

Regards

Valady V Barathwaaj

Sunday, April 3, 2011

Income tax time - - - Tax Guru part 2

Income tax time - - - Part 1

Monday, March 21, 2011

Demat’ing the Demat

Dear Mr.Bhat,

I’ve given below what I wrote to my investors about ‘demat’ing the mutual fund units.

I thought of sharing the same with our community as they may find atleast some points useful for communicating to their investors.

Request you to circulate this in IFA Galaxy group.

Please read on.

“Stock brokers are encouraging people to keep mutual fund units in demat form.

You may ask what is wrong with that.

Nothing wrong. But what they fail to tell you is that your mutual fund units are already in demat form. You are NOT currently holding them in physical form.

Welcome to the world of ‘demat’ing the demat.

“ ‘Demat’ing the demat” is a big joke – a tragic joke!

This joke was probably initiated to increase the revenues of broking and depository industry. Or even if the intention was noble, for a person with hammer, everything is a nail. Conditioning!

A share, unit certificate, bond, precious commodities like gold or silver may be ‘demat’ed. However I’m unable to understand why an account statement should be in demat form!

Your mutual fund units are already held by AMCs (Asset Management Companies) in the demat form. What you receive from a mutual fund is not a unit certificate but only an account statement.

Account statement by definition gives you the detail of units held in your name with custodian in demat mode.

So stockbrokers’ saying that they would dematerialize something which is already dematerialized is one big….okay, factual misrepresentation.

Paying commission to a stock broker for every transaction, demat transaction charges, annual maintenance charges are all unnecessary for a mutual fund investor.

A mutual fund investment is an investment product and not a trading one. Stock brokers are generally wired to trade. Don’t blame them. It’s genetic.

If what you are looking at is consolidation of holdings, even recent publication by SEBI in newspapers mentions that an investor can get single consolidated statement of account of all mutual fund holdings. This is precisely what your broker is pitching as “ ‘demat’ing the demat” benefits.

In the months to come, I hope SEBI would advice AMFI as to periodicity and mode of sending such consolidated account statements.

Last week, I happen to speak to many people at mutual fund houses, CFPs and other advisors on this subject. I’ve given below my understanding arising from the above. Since our blogs are read also by people in industry, please write to me if there is any factual error in what I give below.

1) The consolidated account statement that is being implemented by SEBI would provide you the details of all your holdings. Since your PAN would be the key for providing such consolidated holdings, you would be able to get single statement for investments made even through different advisors.

2) Every stock broker insist on opening a separate demat account through them. Though this is not legally compulsory, a stock broker, for all practical purposes would not facilitate a transaction unless you open a demat account through him. So whenever you want to change your broker, you would end up having one more demat account. Multiple demat accounts defeats the very purpose of consolidation. The consolidated statement which is mentioned in point (1) above would not happen if you’ve multiple stock brokers.

3) Again though it is not legally compulsory, a stock broker normally insist on a power of attorney (POA) to be signed by you authorizing him to buy or sell on your behalf. All of us know about instances of POA being misused.

4) When you go through an advisor, you also have direct relationship to mutual fund house in addition to advisor. This is not possible when you go through a stock broker. For example, if you want to invest in a mutual fund through a broker, the cheque needs to be written in his name and not in the name of fund. The funds would be purchased by the broker in his name in a pool account and then credited to your individual account. Any inefficiency in this process may have impact on your dividend receipt etc. What if he fails to credit to your individual account from his pool and you do not notice or reconcile it?

5) Since you cease to have relationship with a mutual fund once you go through a broker, if you want to redeem your units, you cannot bypass your broker. You’ve to only redeem through him by paying brokerage. However you can always bypass an advisor and directly go to fund house for redemption, if the advisor refuses to service you.

6) Since many of you opt for SIP route for building long term wealth, at present SIP is not possible through a broker. Once it becomes possible too, you may end up paying brokerage every month for every single SIP.

7) If you invest through broker in the name of four individuals in your family, you need to have 4 different demat accounts. Every time you change your broker, 4 more new sets of accounts needs to be opened.

8) If you make investment in 5 schemes now, each scheme can have a different nominee. If you go through a broker, the nominee by default is the nominee of your demat account. If you want different nominees for different schemes, you may have to open multiple demat accounts each with a separate nominee. So much so for consolidation!

9) If someone tells you that your contact details can be changed for all schemes at one go through a broker’s demat, the same is possible by updating your KYC details only once through your advisor. The details get updated automatically in all your schemes, even if invested through multiple advisors. Again PAN is the key.

10) The most important thing is that a broker is not an advisor. He is merely a transaction facilitator.

11) As an advisor, I’ve the facility to review all the investments made by you through us. This helps in periodical review, portfolio analysis, course correction and service. This is not possible in a broker’s demat account.

12) For some of our NRI clients who never visit India, we’ve enabled them to make any additional purchases (top ups), based on our advice, by visiting the mutual fund’s website (some fund houses offer this facility). Since the purchase is made in the folio having our advisor code, we get the access to the account statement and details for review and service.

13) Since most of our clients are based in Chennai, we are able to personally service them itself. An additional purchase in the same folio just involves writing a cheque and signing the stub. No paper work like initial purchase.If you think personal service is inferior to online, think again. Personal service is reserved for elite in the banking industry through private banking and online banking is for ordinary mortal like me.

14) There have been talks going on for providing online platform for advisors like us. If and when this happens, you would get added advantage of making transactions online through us, based on our advice. Please note that transacting online through an advisor is not same as buying from a broker in demat account. Here the control continues to be with you as in the present form and the units are continued to be held in your name with custodian by mutual funds. Your direct relationship with mutual fund houses would continue to remain intact unlike a broker’s demat where your relationship is restricted only to broker.

15) A personal financial advisor like us deals with and advice on all aspects of your personal finance. Do you think a stock broker would be able to do that? An advisor’s incentive is to build a long term relationship with a client. A broker has a different incentive system which is driven by his short term goals.

From what I read and hear, the regulator has no plans of making it compulsory to demat your mutual fund units (which are already in demat form!). Broking channel with separate demat account is only provided as an additional option.

The regulatory head who has taken over recently is a person who understands the industry and investors better. So I feel compulsory individual demating is highly unlikely.

If such an unlikely scenario happens, then only we would advice you for ‘demat’ing the demat. After all we are a small speck in the system and we would then have no option to go with the flow.

Probably the regulator would have figured out by then how to accommodate all the channels (not only broking channel) in the new avatar.

Our suggestion for you now is to continue with the existing system and not go to broking channel.

Also if you buy through an advisor or directly from a fund house, the cost remains the same. It is one another good reason for going through an advisor, though the value you get from a good advisor would be more than the price you may pay.

If you go through your broker, your cost goes up. Added to that I do not see brokers providing value addition and comprehensive advice, which a competent advisor can.

A long article- but thought I need to share these details with you. “

Regards

Muthu

D.MuthukrishnanCertified Financial Planner ^CM(CFP^CM)
Personal Financial Advisor

Mobile: +91-98404-03431

Email: muthu@wisewealthadvisors.com

Wisewealth.advisors@yahoo.co.in

Visit us:www.wisewealthadvisors.com