US Mutual Fund Holdings Tax Implications for Indian Resident

[Nishka]

All,

I have searched for days and I couldn't find any relevant thread that deals with this topic. If there is, excuse me for opening this thread and please point me to it. I will be grateful.

So, here are my questions. I am hopeful of getting some of this clarified from you learned people.

1. I have read a lot about PFIC and US tax implications after FATCA. What a nightmare! My question is, how does India treat PFICs (US domiciled Index funds and ETFs. Specifically Vanguard funds like VTSAX) held by Indian citizens. Are they treated on par with India domiciled Mutual Funds for tax purposes? We are planning to R2I and would like to leave a portion of our corpus (non tax deferred as in these are post tax funds) invested in a Index Fund in a US brokerage account as a rainy day asset. I understand that dividend pay outs from the Index funds are treated like regular income and taxed as such in India. Any other headaches to be aware of?

2. Let us say we start withdrawing from our US mutual fund assets in old age. At that time; as INCs; based on current rules; will the entire withdrawal be treated as regular income in India OR would we be taxed only for the LONG TERM CAPITAL GAINS portion of the withdrawal?

3. For US domiciled mutual funds while calculating LTCG taxes; can we use indexation?

4. There seem to be some Mutual Funds available in India that Invest in the S&P 500 or the NASDAQ 100 etc. Their expense ratios are over 1%. What gives? Why so high?

Thanks a bunch.

Nishka

[Desi]

All,

I have searched for days and I couldn't find any relevant thread that deals with this topic. If there is, excuse me for opening this thread and please point me to it. I will be grateful.

So, here are my questions. I am hopeful of getting some of this clarified from you learned people.

1. I have read a lot about PFIC and US tax implications after FATCA. What a nightmare! My question is, how does India treat PFICs (US domiciled Index funds and ETFs. [/quote] India does not use the concept of PFIC. So if you buy a mutual fund or a stock in a non Indian company on a foreign stock exchange, it is just considered as a capital asset.

[QUOTE]
Specifically Vanguard funds like VTSAX) held by Indian citizens. Are they treated on par with India domiciled Mutual Funds for tax purposes?

They are treated as a capital asset. However since they are traded on non Indian exchanges, there is no STT, so their taxation is a bit different. Long term capital gains are taxed in this case ( I think the rate is 20%, but you should verify that) also for the gain in this to be long term, I believe the holding period is not one year but 3 years (again verify this number).


[QUOTE]We are planning to R2I and would like to leave a portion of our corpus (non tax deferred as in these are post tax funds) invested in a Index Fund in a US brokerage account as a rainy day asset. I understand that dividend pay outs from the Index funds are treated like regular income and taxed as such in India. Any other headaches to be aware of? No headaches, just that if you pay any tax on those dividends in USA, you will be able to seek a foreign tax credit in India. For Non Resident Alien (NRA), there is no tax on interest based dividends or short term dividends. You will have to consult the instructions when you file 1040NR form. But if you pay any taxes in USA, and you have to report in India also, then there will be a foreign tax credit.

[QUOTE]2. Let us say we start withdrawing from our US mutual fund assets in old age. At that time; as INCs; based on current rules; will the entire withdrawal be treated as regular income in India OR would we be taxed only for the LONG TERM CAPITAL GAINS portion of the withdrawal?
Document your cost Basis. Or you can reset your cost basis before going to India, by selling and re buying or rebuying an equivalent fund, but this may mean losing some money to US taxes. It all depends upon how much gain you have. But if you have good documentation of your cost basis, that is all that is needed. Then when you sell, sell price minus cost basis will be the capital gain as long as the purchase has been 3 years or more before the sell date, you will end up paying only long term capital gains in India. If you pay any taxes in USA on that sale, there will be a credit associated with that in Indian taxes.

If your immigration status is NRA, you will have zero taxes in USA on capital gains.

[QUOTE]3. For US domiciled mutual funds while calculating LTCG taxes; can we use indexation? I do not know for sure, but I think yes, so you need to check on this. you will have to use cost and sale price in Indian rupees based on forex rate on purchase date and sale date.

[QUOTE]4. There seem to be some Mutual Funds available in India that Invest in the S&P 500 or the NASDAQ 100 etc. Their expense ratios are over 1%. What gives? Why so high? They have to trade from abroad, there may be additional expenses involved. Otherwise also foreign funds have higher expense ratios, due to foreign trading costs etc. Note that even if you buy international funds in India and pay STT, for long term cap gains you have to hold those funds for 3 years to get long term cap gains even if they are from Indian mutual fund companies.

LASTLY, if you are going to be an NRA, I strongly advise that any investment from you, that you wish to keep and trade long term, I would highly recommend to stay away from mutual funds and go for ETFs. This is because NRAs are not allowed to purchase US mutual funds. They can sell them if they own them, but cannot purchase them. But NRAs can purchase stocks or ETFs.