Foreign Tax Credit Calculator — Rule 128

Foreign Tax Credit in India: Understanding Rule 128

The Foreign Tax Credit (FTC) mechanism under Rule 128 of the Income Tax Rules is a crucial provision for Indian residents who earn income taxed in a foreign country and also taxable in India on their worldwide income. Without FTC, such income would face double taxation — once in the source country (where the income is generated) and again in India (where the resident is taxed on global income). Rule 128, which came into effect on 1 April 2017, provides a systematic, rule-based framework for computing and claiming FTC, replacing the earlier ad hoc approach and bringing clarity to cross-border taxation.

FTC is particularly relevant for three categories of Indian taxpayers: resident Indians (including Resident and Ordinarily Resident — ROR) who work abroad temporarily on deputation or secondment and earn salary that is taxed in both the source country and India; NRIs who became Resident (or RNOR — Resident but Not Ordinarily Resident) and have income from foreign investments taxable in both jurisdictions; and resident Indians who receive dividends, interest, or royalties from foreign sources that are withheld at source abroad and also taxable in India.

How FTC Is Computed Under Rule 128

The FTC available in any assessment year is the lower of two amounts: (a) the tax paid in the foreign country on the doubly-taxed income, converted to Indian rupees, and (b) the Indian income tax attributable to the doubly-taxed income. The Indian tax on doubly-taxed income is computed using a proportional allocation formula: (Doubly Taxed Income / Total Taxable Income in India) multiplied by Total Indian Tax Liability.

This proportional method ensures the FTC does not exceed the Indian tax that would have been payable on the specific foreign income alone. The "lower of" rule prevents a situation where the FTC eliminates Indian tax on domestic income by using excess foreign tax credits. Practically, if the foreign effective tax rate is higher than the Indian effective rate on the doubly-taxed income, the excess foreign tax is lost — it cannot be used as credit and cannot be carried forward.

Example: An Indian resident earns Rs 5 lakh in interest from a US bank account. US withholds 30% tax (Rs 1.5 lakh). The total Indian income is Rs 30 lakh. Indian total tax = Rs 7 lakh. Indian tax attributable to the foreign interest = (5/30) x 7 lakh = Rs 1.17 lakh. FTC = lower of Rs 1.5 lakh (foreign tax) and Rs 1.17 lakh (Indian proportional tax) = Rs 1.17 lakh. Net Indian tax = Rs 7 lakh minus Rs 1.17 lakh = Rs 5.83 lakh.

Filing Requirements: Form 67

Filing Form 67 is the mandatory procedural requirement for claiming FTC under Rule 128. Form 67 is filed online on the Income Tax Department's e-filing portal (incometax.gov.in) before or along with the ITR filing. The form captures details of each source of foreign income, the foreign country, the nature of income (salary, interest, dividend, capital gains, etc.), the foreign tax paid, and the country-wise FTC computation.

Prior to a 2022 amendment, Form 67 had to be filed strictly before the due date of the ITR (typically July 31 for non-audit cases). The Supreme Court had held in some cases that failure to file Form 67 before the due date resulted in forfeiture of FTC. The 2022 amendment relaxed this to allow filing Form 67 up to the end of the assessment year (March 31 of the year following the relevant assessment year). Despite this relaxation, it is strongly advisable to file Form 67 before or with the original ITR to avoid scrutiny and CPC processing issues.

The taxpayer must also furnish supporting documentation: a certificate or statement from the tax authority of the foreign country (such as IRS Form 1099 or W-2 from the USA, or P60 from the UK), or a certificate from the payer/employer confirming the tax withheld. These documents substantiate the FTC claim during Income Tax Department assessments. Digital copies are acceptable for e-filing purposes, but originals must be retained for 7 years in case of assessment.

FTC for Different Income Types

FTC under Rule 128 can be claimed on various types of foreign income, and each type has specific considerations. Foreign salary income: most commonly claimed by employees on overseas deputation where salary is taxed in the host country (via withholding) and also reportable in Indian ITR. The DTAA between India and the host country typically provides either exemption (for short-term assignments) or FTC (for longer stays).

Foreign interest income: many NRIs who transitioned to resident status have savings in foreign banks. Interest earned on these accounts is typically taxed in the source country (withholding at 10-30%) and also taxable in India. FTC is available for the foreign withholding tax paid.

Foreign dividends: dividends from foreign companies are taxed in the source country (typically at DTAA rates of 10-15% withholding) and also taxable in India at slab rates. FTC is available for the withholding tax, though the lower-of rule may limit the credit where the Indian effective rate is lower.

Foreign capital gains: gains from the sale of foreign assets (stocks, property) are often taxable in both the source country and India. DTAA provisions on capital gains vary widely — some DTAAs (USA, UK) allocate taxing rights to the source country, while others (UAE, Singapore) give exclusive rights to the residence country. Understanding the specific DTAA provision before the asset sale is critical for tax planning.

Interplay Between FTC and DTAA

FTC and DTAA (Double Taxation Avoidance Agreement) work together but serve distinct purposes. DTAA allocates taxing rights between two countries and may reduce the tax rate applicable in the source country — for example, the India-USA DTAA reduces the standard 30% US withholding tax on dividends to 15% for Indian residents. FTC then provides the mechanism to claim credit for the tax actually paid in the source country (at the DTAA rate, if applicable) against the Indian tax liability.

India has DTAAs with over 90 countries, including all major NRI destinations: USA, UAE (updated in 2016 with full DTAA provisions), UK, Canada, Australia, Singapore, Germany, France, and others. For countries without a DTAA (many in Africa and South America), unilateral relief under Section 91 of the Income Tax Act applies. Section 91 also uses the "lower of foreign tax and Indian tax" principle but without any DTAA-specific reduced withholding rates.

FTC for RNOR Status: A Special Case

Returning NRIs who have been abroad for many years often qualify for RNOR (Resident but Not Ordinarily Resident) status for up to 3 financial years after returning to India. RNOR individuals are taxed only on Indian-sourced income and income earned from a business controlled from India — their foreign income remains exempt. This means FTC is generally not needed for RNOR individuals on their foreign income since that income is not taxable in India during the RNOR period.

However, RNOR individuals may still need FTC for specific Indian-source income that also gets taxed abroad (such as rental income from Indian property received while abroad, or interest from NRO accounts which is taxed in India at source). Once the RNOR period ends and the person becomes an ROR (Resident and Ordinarily Resident), all worldwide income becomes taxable in India, and FTC becomes relevant for any foreign income that continues to be taxed abroad.

Common Mistakes in FTC Claims

Several common errors can result in FTC claims being rejected or reduced during Income Tax Department scrutiny. Using the wrong exchange rate for converting foreign tax is a frequent mistake — the rule requires the SBI TTBR rate on the last day of the month preceding the month of tax payment, not the rate on the date of income or the average annual rate.

Claiming FTC for the wrong year is another common error. FTC is available in the year the income is offered to tax in India, not necessarily the year in which the foreign tax was actually paid or withheld. If there is a timing difference (for example, advance taxes paid in the USA in Q1 of the US tax year that corresponds to Q3 of the Indian assessment year), the matching must be done carefully.

Failing to maintain documentation and claiming FTC without Form 67 has historically resulted in FTC denial at the CPC (Centralised Processing Centre) level, requiring manual rectification or appeals. Always file Form 67 with the required supporting documents before or simultaneously with the ITR.