Understanding Residential Status under the Income Tax Act, 1961

Introduction

In India, an individual’s taxable income is significantly influenced by their residential status, as defined by the Income Tax Act, 1961. This status determines which portion of their income is subject to taxation in India. Understanding the criteria for determining residential status is essential for ensuring compliance with tax laws and optimizing tax liabilities.

Meaning and Importance of Residential Status

Residential status refers to the classification of an individual, Hindu Undivided Family (HUF), firm, company, or other entity based on their presence and activities in India. It plays a crucial role in defining their tax liability.

It’s important to note that residential status is different from citizenship. An Indian citizen may be considered a non-resident for tax purposes, while a foreign national can be deemed a resident under specific circumstances.

Types of Residential Status

Under the Income Tax Act, individuals can be classified into three categories:

1. Resident and Ordinarily Resident (ROR)
2. Resident but Not Ordinarily Resident (RNOR)
3. Non-Resident (NR)

Determination of Residential Status

A taxpayer’s residential status is determined based on their physical presence in India during the relevant financial year. The key conditions for each category are as follows:

1. Resident (R) Status

An individual is considered a resident in India if they meet any one of the following conditions:

• They have been in India for 182 days or more during the previous year, or
• They have been in India for 60 days or more during the previous year and 365 days or more in the four years preceding the previous year.

Exceptions for Specific Individuals:

• For Indian citizens leaving India for work or as a crew member of an Indian ship, the 60-day rule is extended to 182 days.
  
  
• For Indian citizens or Persons of Indian Origin (PIOs) visiting India, the 60-day condition is also extended to 182 days if their total income in India (excluding foreign income) is less than ₹15 lakh.
  
  
• If an Indian citizen earns more than ₹15 lakh (excluding foreign income) and stays in India for 120 days or more but less than 182 days, they will be classified as an RNOR.

2. Resident but Not Ordinarily Resident (RNOR)

A person qualifies as an RNOR if they meet the criteria for being a resident but also satisfy any one of the following conditions:

• They have been a non-resident in India in 9 out of 10 previous years preceding the relevant financial year.
  
  
• They have been in India for 729 days or less during the seven previous years preceding the relevant financial year.
  
  
• Indian citizens earning ₹15 lakh or more (excluding foreign income) who spend 120 to 181 days in India in the previous year are also considered RNOR.

3. Non-Resident (NR)

A person is classified as a non-resident if they fail to meet both conditions required for a resident status (182 days or 60 days + 365 days in the past four years).

Taxability Based on Residential Status

Once residential status is established, tax liabilities are determined accordingly:

• Resident and Ordinarily Resident (ROR): Taxable on global income, i.e., income earned in India and abroad.
  
  
• Resident but Not Ordinarily Resident (RNOR): Taxable on income earned or received in India and only on foreign income derived from a business controlled in India or through a profession set up in India.
  
  
• Non-Resident (NR): Taxable only on income earned or received in India.

Special Considerations for Different Entities

HUF’s Residential Status

• A HUF is considered a resident if its control and management are located wholly or partly in India.
  
  
• If managed entirely outside India, it is considered a non-resident.

If the Karta (head) of a resident HUF qualifies as an RNOR, then the HUF is also treated as RNOR.

Company’s Residential Status

• A company is deemed a resident if it is an Indian company or its place of effective management (POEM) is located in India during the financial year.
  
  
• POEM refers to the location where crucial managerial and commercial decisions essential for conducting business are made.

Firms, LLPs, AOPs, BOIs, Local Authorities, and Artificial Juridical Persons

• These entities are considered residents if their control and management are located wholly or partly in India; otherwise, they are treated as non-residents.

Income from Indian and Foreign Sources

Income is categorized as follows:

1. Income Received in India: Always taxable, irrespective of residential status.
   
   
2. Income Deemed to Accrue or Arise in India: Examples include salary paid by the Indian government for services abroad, income from property situated in India, or income from an Indian business connection.
   
   
3. Foreign Income:
   1. RORs: Taxable on all global income.
   1. RNORs: Taxable only on income earned or received in India and specific foreign income linked to Indian businesses.
   1. NRs: Only taxable on Indian-sourced income.

Key Points for NRIs and PIOs

• NRIs who earn more than ₹15 lakh in India (excluding foreign income) and stay between 120-181 days may be classified as RNOR.
  
  
• NRIs earning foreign income outside India will not be taxed unless such income is received directly in India.
  
  
• Indian citizens working abroad on ships or for foreign companies must monitor their days in India to avoid unintentional residency.

Important Points to Remember

• Time spent within 12 nautical miles from India’s coast is also counted as time spent in India.
  
  
• Both arrival and departure dates are counted when calculating days spent in India.
  
  
• Residential status is determined separately for each financial year and can change annually.

Detailed Example for Understanding

Example 1: Rajesh, an Indian citizen, works for a UAE-based company and spends 150 days in India during the financial year. He earns ₹20 lakh from Indian sources and ₹30 lakh from UAE-based employment. Since Rajesh stayed less than 182 days in India but more than 120 days and has income exceeding ₹15 lakh from Indian sources, he will be classified as RNOR and taxed only on his Indian income. His UAE salary will remain tax-free in India.

Example 2: Priya, a PIO residing in the US, visits India for 200 days in a financial year. Despite staying over 182 days, her total income in India is only ₹10 lakh. As her income is below ₹15 lakh, she will be considered a Resident and Ordinarily Resident (ROR) and taxed on her global income.

Conclusion

Understanding your residential status is crucial for accurately calculating your tax liability in India. While individuals, NRIs, and expatriates must carefully assess their presence in India, businesses and other entities must track their management location to ensure proper tax compliance. By maintaining clarity on residential status rules, taxpayers can effectively plan their finances, minimize tax burdens, and adhere to Indian tax regulations.