How is interest income from fixed deposits taxed for NRIs? A Complete Guide

Introduction

Fixed Deposits (FDs) remain one of the most trusted investment options for Non-Resident Indians (NRIs) looking to grow their savings in India. They offer guaranteed returns and a sense of security that is highly valued. However, the rules surrounding the taxation of this income can be complex and often lead to confusion regarding compliance and potential tax savings. Understanding these regulations is crucial for effective financial planning and ensuring you meet all legal obligations without paying more tax than necessary. This guide provides a detailed breakdown of how interest income from fixed deposits is taxed for NRIs, covering everything from different account types and TDS procedures to tax-saving strategies and income tax return filing obligations.

The First Step: Understanding NRI Bank Account Types

The tax treatment of your FD interest income depends entirely on the type of bank account in which the deposit is held. India offers specific bank accounts designed for Non-Resident Indians, each with distinct features and, more importantly, unique tax implications. Choosing the right account is the foundational step in managing your tax liability on interest income earned in India. The three primary accounts available to NRIs are the NRE account, the NRO account, and the FCNR account. Let’s explore how the interest from fixed deposits in each of these accounts is treated under Indian tax laws.

NRE (Non-Resident External) Account

What it is: A Non-Resident External (NRE) account is a bank account that can be opened in India by an NRI to park their foreign earnings. The funds in this account must be remitted to India from abroad in a foreign currency. A key feature of the NRE account is its free repatriability, which means that both the principal amount and the interest earned can be transferred back to your country of residence without any restrictions or prior approvals from the RBI. This makes it an ideal choice for NRIs who wish to keep their foreign earnings in India temporarily and may need to move the funds back overseas later.
Taxation Rule: The most significant advantage of an NRE account is its tax treatment. Under Section 10(4)(ii) of the Income Tax Act, 1961, any interest earned on fixed deposits or savings balances held in an NRE account is completely tax-free in India. Consequently, banks do not deduct any Tax Deducted at Source (TDS) on this interest income. Furthermore, since the income is exempt, you are not required to report it in your Indian Income Tax Return (ITR). This makes NRE FDs a highly attractive and hassle-free investment for NRIs.

NRO (Non-Resident Ordinary) Account

What it is: A Non-Resident Ordinary (NRO) account is designed to help NRIs manage the income they earn within India. This includes sources like rental income from a property in India, dividends from Indian stocks, pension credited in India, or salary from a short-term assignment in the country. When an individual’s residential status changes from ‘Resident’ to ‘NRI’, their existing resident savings accounts are redesignated as NRO accounts. While the principal is generally non-repatriable (subject to certain limits and conditions), the interest earned can be repatriated after paying the applicable taxes. For a detailed look at other income sources, refer to our Understanding the TDS Rules for NRIs on Rental Income and Property Sales.
Taxation Rule: In stark contrast to an NRE account, the interest earned on fixed deposits held in an NRO account is fully taxable in India. This income is added to your total taxable income in India and is taxed as per the income tax slab rates applicable to you. This is the primary area where the NRI interest income tax rules India come into play, and understanding these rules is critical for compliance. Banks are mandated to deduct tax at source (TDS) on this interest income.

FCNR (Foreign Currency Non-Resident) Account

What it is: A Foreign Currency Non-Resident (FCNR) account is a type of fixed deposit account that allows NRIs to hold funds in a foreign currency. Unlike NRE or NRO accounts, which are maintained in Indian Rupees (INR), an FCNR account can be maintained in currencies like USD, GBP, EUR, JPY, AUD, or CAD. This protects the NRI from the risk of currency exchange rate fluctuations between the foreign currency and the Indian Rupee, as the principal and interest are both denominated in the foreign currency.
Taxation Rule: The tax treatment of FCNR accounts is similar to that of NRE accounts. The interest earned on an FCNR deposit is completely tax-exempt in India. This exemption is available until the individual maintains their ‘Non-Resident’ or ‘Resident but Not Ordinarily Resident’ (RNOR) status under FEMA. No TDS is deducted on the interest, and it does not need to be reported in your Indian ITR. This makes it a great option for NRIs who want to hold their money in a foreign currency while earning tax-free interest.

Taxation of NRO Fixed Deposit Interest: A Deep Dive

Since the interest earned on NRE and FCNR accounts is tax-free, the primary focus for any discussion on the interest income from fixed deposits and its taxation inevitably shifts to the NRO account. This is where NRIs need to be most vigilant about tax rules, TDS deductions, and their filing obligations. The taxation of fixed deposits for NRIs holding NRO accounts involves a two-stage process: the initial deduction of tax at source by the bank and the final determination of tax liability when you file your income tax return. Let’s break down each stage in detail to understand the complete process.

How TDS (Tax Deducted at Source) is Applied

Standard Rate: According to Indian tax laws, banks are legally required to deduct TDS on the interest income earned on NRO fixed deposits and savings accounts. The default rate for this deduction is a flat 30%. On top of this, an applicable surcharge (if any) and a 4% health and education cess are levied, bringing the effective TDS rate to 31.2%. This high rate is applied irrespective of the NRI’s actual income tax slab. It is a provisional tax deducted by the bank on behalf of the government.
When is it Deducted?: TDS is applicable if the aggregate interest income earned from all NRO deposits (including savings and fixed deposits) held with a particular bank exceeds ₹50,000 in a financial year. Banks typically calculate and deduct this tax quarterly or at the time of interest credit/payment, whichever is earlier.
Important Note: It’s crucial to remember that this high TDS rate of 31.2% is not your final tax liability. It is simply an advance tax collected by the bank to ensure compliance. How fixed deposit interest is taxed in India for NRIs often begins with this significant upfront deduction, which can later be adjusted based on your total income and applicable tax slab. You can potentially claim a substantial portion of this back as a refund.

Determining Your Final Tax Liability

Applicable Tax Slabs: An NRI’s final tax liability is not the flat 31.2% deducted as TDS. Instead, the interest income from an NRO account is added to their other taxable income in India (like rent, capital gains, etc.). This total income is then taxed according to the income tax slab rates applicable to resident individuals below the age of 60. The senior citizen slab rates are not applicable to NRIs. For FY 2023-24 (AY 2024-25), under the old tax regime, income up to ₹2.5 lakh is exempt, income from ₹2.5 lakh to ₹5 lakh is taxed at 5%, from ₹5 lakh to ₹10 lakh at 20%, and above ₹10 lakh at 30%.
Filing an ITR to Claim a Refund: If your total taxable income in India falls into a tax bracket lower than 30% (for instance, the 5% or 20% bracket), the TDS deducted by the bank at 31.2% will be higher than your actual tax liability. In such a scenario, the only way to claim a refund for this excess TDS is by filing an Income Tax Return (ITR) in India. This is a very common situation for many NRIs and highlights the importance of filing an ITR even if your income is only from FD interest.

Strategies to Reduce Your Tax Burden on NRO Interest

While the default TDS rate of 31.2% on NRO interest seems high, NRIs are not without recourse. There are legitimate and government-approved methods to lower this immediate tax outgo and manage the overall tax liability more efficiently. Taking proactive steps can significantly reduce the amount of tax deducted at source, improving your cash flow and reducing the hassle of waiting for a large refund. This is a critical part of understanding NRI fixed deposit tax and maximizing your investment returns. The primary tool available to NRIs for this purpose is the Double Taxation Avoidance Agreement (DTAA).

Leveraging the DTAA (Double Taxation Avoidance Agreement)

What is a DTAA?: A Double Taxation Avoidance Agreement (DTAA) is a bilateral tax treaty signed between two countries to provide relief from double taxation. It ensures that a taxpayer who is a resident of one country but earns income in another country is not taxed on the same income in both nations. India has signed DTAAs with over 90 countries, including the USA, UK, UAE, Canada, Australia, and Singapore.
How it Helps: If you are a tax resident of a country that has a DTAA with India, you can claim the benefit of the treaty. Most DTAAs specify a lower rate for taxing interest income, which is typically 10% or 15%, depending on the specific treaty with your country of residence. By providing the necessary documents to your bank, you can request them to deduct TDS at this lower DTAA rate instead of the standard 31.2%. This provides immediate relief by reducing the upfront tax deduction.
Actionable Steps to Avail DTAA Benefit: To benefit from the lower TDS rate under a DTAA, you must submit the following documents to your bank at the beginning of each financial year:
1. Tax Residency Certificate (TRC): This is the most crucial document. A TRC is an official certificate issued by the tax authorities of the country where you are a resident, confirming your tax residency status for a specific period.
2. Form 10F: This is a self-declaration that needs to be filed electronically on the Indian Income Tax e-filing portal. It contains details about your status, nationality, tax identification number in your country of residence, and the period for which the TRC is applicable. A printout of the filed form should be submitted to the bank.
3. Self-attested PAN Card: Your Permanent Account Number (PAN) is mandatory for all financial transactions and tax-related procedures in India.
External Link: You can find detailed information and a list of countries with which India has a DTAA on the official Income Tax Department website.

A Note on Form 15G/15H for NRIs

A frequent query among investors is whether NRIs can submit Form 15G (for individuals below 60 years and HUFs) or Form 15H (for senior citizens aged 60 and above) to request the bank not to deduct any TDS on their interest income. These forms are commonly used by resident Indians whose total income for the year is below the basic exemption limit.
The Answer: The answer is an unequivocal No. The facility to submit Forms 15G and 15H is exclusively available to resident Indians. The eligibility criteria clearly state that the declarant must be a resident of India. Therefore, NRIs are not permitted to use these forms to avoid TDS on their NRO account interest, even if their total income in India is below the taxable threshold. The only way for an NRI to get a lower TDS rate is through DTAA benefits or to claim a refund by filing an ITR.

Filing an Income Tax Return (ITR) in India

Filing an Income Tax Return (ITR) in India is a fundamental aspect of managing your financial and legal obligations as an NRI with Indian income. Many NRIs are unsure about whether they need to file a return, especially if their only source of income is interest from fixed deposits. Understanding your NRI tax implications on fixed deposits is incomplete without clarifying your return filing duties. Filing an ITR is not just a legal requirement in certain cases but also a financially prudent practice that can offer significant benefits. For a broader overview, you can review our Complete Guide to Income Tax for NRIs: Filing Requirements and Benefits.

When is ITR Filing Mandatory for an NRI?

An NRI is legally required to file an Income Tax Return in India if their total taxable income earned or accrued in India during a financial year exceeds the basic exemption limit. For the Financial Year 2023-24 (Assessment Year 2024-25), this limit is:

₹2,50,000 under the old tax regime.
₹3,00,000 under the new tax regime.

It’s important to note that this threshold refers to the gross total income before any deductions (like those under Chapter VI-A). Therefore, if your total interest income from NRO deposits and any other Indian sources is above this limit, you must file an ITR. Failure to do so can result in penalties and interest charges.

Why You Should File an ITR Even if Not Mandatory

Even if your total Indian income is below the basic exemption limit and filing is not legally mandatory, there are compelling reasons why you should still consider filing an ITR.

To Claim a TDS Refund: This is the most common and powerful reason. As explained earlier, your bank will deduct TDS at a high rate of 31.2% (or a lower DTAA rate of 10-15%) on your NRO interest. If your total income is below the taxable limit or your actual tax liability is lower than the TDS deducted, filing an ITR is the only mechanism to claim a refund of the excess tax paid. Without filing a return, that money is lost. You can learn more about this process in our article, How to Claim a TDS Refund: A Simple Guide.
To Carry Forward Losses: If you have incurred losses from other sources in India, such as from the sale of shares (capital loss) or property, you can only carry these losses forward to future years to set them off against future gains if you file your ITR by the due date. This can lead to significant tax savings in subsequent years.
To Maintain a Clean Financial Record: Having a consistent record of tax filings in India can be extremely beneficial. It serves as proof of financial standing and compliance, which can be useful when applying for loans, making further investments, or during repatriation of funds. It creates a transparent financial trail and can prevent scrutiny from tax authorities in the future.

Conclusion: Key Takeaways for Managing Your FD Interest

Navigating the tax rules for an NRI’s interest income from fixed deposits might seem daunting at first, but it becomes quite manageable with the right knowledge and a proactive approach. By understanding the fundamental differences between account types and leveraging the available tax-saving mechanisms, you can ensure compliance while optimizing your returns. The taxation of NRI fixed deposit income is a critical component of your financial planning, and getting it right can make a substantial difference to your net earnings from Indian investments.

Here are the key takeaways to remember:

NRE & FCNR Accounts: For parking your foreign earnings, these are the best options. The interest earned in both NRE and FCNR fixed deposits is completely tax-free in India.
NRO Account: This account is for managing your India-sourced income. The interest earned on NRO fixed deposits is fully taxable as per the applicable Indian income tax slab rates.
TDS on NRO Interest: Be prepared for a default TDS deduction of 30% (plus cess) on your NRO interest income. This can be reduced to a lower rate, typically 10% or 15%, by submitting DTAA documents (TRC and Form 10F) to your bank.
ITR Filing is Crucial: Filing an Income Tax Return is essential for claiming a refund of any excess TDS deducted by the bank. It is the only way to reconcile your actual tax liability with the tax already paid.

By strategically choosing the right account for your funds and taking timely action to manage TDS, you can handle your tax obligations efficiently. For expert assistance with NRI taxation, DTAA compliance, and ITR filing, contact the specialists at TaxRobo today.

Frequently Asked Questions (FAQs)

1. Is interest income from an NRE fixed deposit taxable in India?

No, the interest earned on funds in a Non-Resident External (NRE) account, including fixed deposits and savings balances, is completely exempt from income tax in India under Section 10(4)(ii) of the Income Tax Act. No tax is deducted, and it does not need to be reported in your ITR.

2. What is the TDS rate on NRO fixed deposit interest for NRIs?

The default TDS rate on interest from an NRO account is 30% plus a 4% health and education cess, making the effective rate 31.2%. However, if the NRI is a tax resident of a country that has a Double Taxation Avoidance Agreement (DTAA) with India, they can submit a Tax Residency Certificate (TRC) and Form 10F to the bank to avail a lower TDS rate, which is typically 10% or 15% (plus cess).

3. How can I claim a refund for excess TDS deducted on my NRO FD?

You must file an Income Tax Return (ITR) in India to claim a refund. In your ITR, you will declare your total taxable income from all Indian sources, calculate your actual tax liability based on the applicable income tax slab rates, and claim a refund for the difference between the TDS deducted by the bank and the actual tax you owe.

4. Can an NRI submit Form 15G or 15H to avoid TDS on interest?

No, NRIs are not eligible to submit Form 15G or Form 15H. These forms are specifically for resident Indians who certify that their total income is below the basic taxable limit for the financial year. An NRI cannot use this facility to request non-deduction of tax.

5. Is a PAN card mandatory for an NRI to open a fixed deposit in India?

Yes, a Permanent Account Number (PAN) card is mandatory for NRIs for almost all financial transactions in India, including opening a bank account (NRE, NRO, or FCNR) and making investments like fixed deposits. It is also a prerequisite for all tax-related procedures, such as availing DTAA benefits and filing an Income Tax Return.

Interest Income from Fixed Deposits: NRI Tax Guide