The Hindu Business Line : After much wooing, now some shooing

THE Government has over the years been wooing non-resident Indians (NRIs) to invest India. Dual citizenship for NRIs is being contemplated, and 16 countries have agreed to this idea. However, this year's Budget has been harsh on NRIs.

Finance Bill amendment

The long-established position is that interest income on monies standing to the credit of an NRI in the Non-Resident (External) Account is exempt under Section 10(4)(ii) of the Income-Tax Act, 1961.

Similarly, Section 10(15)(iv)(fa) provides that interest payable by a scheduled bank to a non-resident or a person who is resident but not ordinarily resident (RNOR) on deposits in foreign currency (approved by Reserve Bank of India) is exempt.

Thus, interest on NR(E) account received by a non-resident and interest on FCNR and RFC accounts received by a non-resident or RNOR are exempt. These interest income exemptions, in existence since 1991, were considered an incentive for non-residents to invest or keep their savings in India. This has also worked well for the Government, as it has resulted in a large inflow of NRI deposits.

The Finance (No. 2) Bill 2004 proposes to withdraw the exemptions granted under Sections 10(4)(ii) and 10(15)(iv)(fa); interest earned on these accounts will be taxed from September 1, 2004 onwards.

Pegged to LIBOR-plus, the interest paid on these accounts is paltry vis-à-vis the 5.5-6.5 per cent paid to resident depositors. If the interest on NRI account is going to be taxed, the net return will only be around 1 per cent.

Is the comfortable level of foreign exchange reserves a reason for the new tax regime on NRI remittances? While the Government's desire to hike tax revenues is legitimate, the additional tax revenue from this measure will be negligible in the short run because the number of people with RNOR status is negligible vis-à-vis the total number of assesses. And in the long run, the revenue effect will be negative.

The new tax regime on NRIs will prompt many to think twice about settling in India. And those who come back will resort to legal methods of avoidance such as offshore trusts, making lawyers and banks in the West specialising in these devices the real beneficiaries.

Any US-based NRI could feel that the proposals may:

Discourage NRIs from re-settling in India and encourage them to use tax havens or park their funds in complicated trust schemes;

Tax the savings (including 401 K accounts) of the country's large US-returned software workforce;

Affect the software industry by reducing the mobility of Indian software professionals;

Run directly counter to international trends.

Almost simultaneously, with the ill-advised withdrawal in India, Singapore created the `not ordinarily resident' category for the first time in 2001 and further liberalised it in early 2004, with the stated aim of attracting global talent who have spent significant time abroad in the past few years and encouraging them to relocate to Singapore.

Paradoxically, even while India's fiscal policies are turning anti-NRI, South-East Asia has been wooing foreign capital. Singapore, for instance, grants five-year exemption on non-Singaporean income with just three years non-residence as the qualifying period. This was on the recommendation of a Government Commission on `Restructuring the Tax System for Growth and Job Creation' submitted in April 2002.

It is noteworthy that countries such as Singapore offer immigration facilities to high net worth Indians, and if India does not re-introduce the earlier rules, these countries would be ideal destinations for those who would otherwise return home.

(The author is a former chief commissioner of income-tax.)