How NRIs Can Regularise a FEMA Slip-Up on Property or Bank Accounts Through Compounding

An NRI who parked savings in the wrong type of bank account, or bought a farmhouse that the foreign-exchange rules place off-limits, has not necessarily committed a criminal offence. Since the Foreign Exchange Management Act, 1999 (FEMA) replaced the old FERA regime with effect from 1 June 2000, most breaches are civil contraventions that can be voluntarily regularised by paying a compounding amount, rather than fought through years of adjudication. The route is set out in the Reserve Bank of India's Master Direction on Compounding of Contraventions under FEMA, 1999, and it is the single most useful tool for a non-resident who discovers, often at the point of sale or inheritance, that an old transaction did not follow the rules.

This guide walks through the FEMA position, how the underlying income is still taxed in India under the Income-tax Act, 1961, how a foreign tax credit interacts with it in the country of residence, and how money can finally be repatriated once the slip-up is cleaned up. Every figure below is drawn from the governing statute or the RBI Master Direction; where a number cannot be verified, it has been left out.

FEMA / DTAA Position

FEMA is built on a simple default. Section 3 of the Act bars any dealing in foreign exchange or any payment to a person resident outside India except as permitted, and Section 6 makes all capital-account transactions - which is what buying immovable property or opening certain deposits amounts to - permissible only to the extent the RBI allows. When a non-resident steps outside those permissions, Section 13 of FEMA, 1999 provides that the contravention attracts a penalty of up to three times the sum involved where that sum is quantifiable, or up to Rs 2 lakh where it is not, plus a further Rs 5,000 for every day a continuing contravention persists (see the bare Act on indiacode.nic.in).

Compounding is the escape valve. Section 15 of FEMA, 1999 empowers the RBI to compound any contravention under Section 13 on an application by the person concerned, converting the open-ended adjudication risk into a single, defined payment. The Reserve Bank's Master Direction on Compounding of Contraventions under FEMA, 1999 explains that this is a voluntary process: the applicant admits the contravention and asks to settle it. For a non-resident, the two most common heads are Non-Resident Foreign Account Deposits (NRFAD) contraventions - holding or operating a bank account in a form the rules do not allow - and Immovable Property (IP) contraventions, such as acquiring agricultural land, a plantation or a farmhouse, which non-residents are not permitted to buy.

Applications under these two heads are handled by the compounding authorities attached to the FED, CO Cell at the RBI's New Delhi office, and can be filed physically or through the RBI's PRAVAAH portal. The application carries a fee of Rs 10,000 plus 18% GST, taking the total to Rs 11,800, and the Reserve Bank is required to pass its compounding order within 180 days of receiving a complete application. Once the order is issued, the compounding amount must be paid within 15 days.

It is worth separating two ideas that are often confused. A Double Taxation Avoidance Agreement (DTAA) allocates taxing rights on income between India and the country of residence; it has nothing to say about a FEMA penalty. Compounding is a regulatory settlement with the RBI, not a tax, so no treaty relief applies to it. A reader can learn more about the Act itself in the Oquilia glossary entry on FEMA.

Tax Treatment in India

The compounding amount is a regulatory settlement, not an expense incurred to earn income, so it is not deductible against any head of income under the Income-tax Act, 1961. Regularising the FEMA breach therefore does not reduce the Indian tax on the underlying asset by a single rupee; the two liabilities run in parallel and both have to be met.

The asset that triggered the contravention usually carries its own tax. Where an NRI finally sells immovable property, long-term capital gains on land or buildings held for more than 24 months are taxed at 12.5% without indexation under the Budget 2024 regime effective 23 July 2024. If the property was acquired before 23 July 2024, the taxpayer may instead opt for the grandfathered rate of 20% with indexation, whichever produces the lower liability - a choice our NRI capital-gains calculator models directly. The glossary note on indexation explains how the cost-inflation adjustment works.

Tax is collected at source before the money ever reaches the seller. On a purchase from a non-resident, the buyer must deduct TDS under Section 195 of the Income-tax Act, 1961 at the applicable capital-gains rate, grossed up with surcharge and the 4% health and education cess. Surcharge on the base tax follows the slab table below, so a large one-off gain can push an NRI into a meaningful surcharge band. Rental income from the same property is taxable in India as income from house property, and our NRI rental-income tax calculator works through the standard 30% statutory deduction and the TDS mechanics.

The TDS deducted is not the final tax - it is an advance that the NRI reconciles by filing a return. If the actual liability is lower, a refund follows; if the gain spans a grandfathered acquisition, the return is where the 12.5%-versus-20% choice is exercised. The health and education cess of 4% applies on top of tax plus surcharge in every case, and details of the Section 195 withholding framework are published on incometax.gov.in.

Tax Treatment Abroad

Once India has taxed the Indian-source income, the country of residence decides whether to give credit for that tax. The compounding amount paid to the RBI is never creditable abroad, because it is a regulatory penalty and not an income tax; only the Indian income tax on the rent or the capital gain enters the foreign tax credit (FTC) computation.

The mechanics depend on the treaty. Under the India-US DTAA, which has been in force since 12 September 1991, Article 24 gives a resident of the United States a credit in the US for income tax paid in India, and India retains the right to tax long-term capital gains on Indian property and shares at 12.5%. The India-UAE treaty, effective 22 September 1993, confirms that capital gains on shares of an Indian company remain taxable in India, and claiming its benefits requires a valid Tax Residency Certificate (TRC) backed by proof of a UAE establishment. In neither case are capital gains "exempt" in India - the treaty allocates a taxing right to India, and the resident country relieves double taxation through a credit.

Claiming the credit is procedural, not automatic. An NRI who is resident in the US and has paid Indian capital-gains tax lodges the Indian tax against US liability through the treaty's credit article, matching the Indian tax year to the foreign reporting year; the foreign tax credit calculator illustrates how the figures line up. Readers who want the underlying concept can see the glossary entry on DTAA. Separately, holding a regularised Indian account or property does not remove any overseas disclosure duty - a US person, for instance, still reports foreign accounts to the IRS - but those foreign filing rules sit outside the Indian tax computation and should be checked with the resident country's own revenue authority.

Repatriation Mechanics

Regularising a FEMA breach is only half the job; the point of the exercise is usually to move the money or the sale proceeds out of India, and that runs through the three non-resident account types. The structural difference between them is repatriability. A Non-Resident External (NRE) account holds income earned abroad and is fully and freely repatriable, principal and interest, whereas a Non-Resident Ordinary (NRO) account holds India-source income such as rent and sale proceeds and is repatriable only within limits. A Foreign Currency Non-Resident (FCNR) deposit holds the balance in foreign currency and is likewise freely repatriable.

Sale proceeds of property almost always land first in an NRO account, because they are India-source receipts. From there, an NRI may remit up to USD 1 million per financial year out of balances in the NRO account under the RBI's remittance-of-assets framework, after the applicable Indian taxes have been paid and a chartered accountant's certification in Form 15CA/15CB has been furnished. Our repatriation calculator estimates the net figure after tax and the USD 1 million cap.

The sequencing matters. The compounding order from the RBI should be in hand, and the compounding amount paid within the 15-day window, before an authorised dealer bank will process a repatriation that touches the previously irregular asset; the bank needs to see that the FEMA position is clean. The detailed glossary notes on the NRO account and the NRE account set out exactly what each permits.

FAQ

Does compounding under FEMA 1999 make a contravention a criminal offence?

No. Most FEMA breaches are civil contraventions, and Section 15 of FEMA, 1999 lets the RBI compound them through a monetary settlement rather than prosecution. The applicant admits the contravention, pays the compounding amount within 15 days of the order, and the matter is closed without any criminal finding.

How much does it cost to file a compounding application?

The application fee is Rs 10,000 plus 18% GST, a total of Rs 11,800, payable when the application is lodged with the FED, CO Cell at the RBI's New Delhi office or through the PRAVAAH portal. This is separate from the compounding amount itself, which the RBI quantifies in its order and which must then be paid within 15 days.

Can an NRI buy agricultural land in India and compound it later?

Non-residents are not permitted to purchase agricultural land, plantation property or a farmhouse under the capital-account rules flowing from Section 6 of FEMA, 1999. If such a purchase has already happened, it is an Immovable Property (IP) contravention that can be put to the RBI for compounding, but the Reserve Bank may direct remedial steps and the underlying prohibition is not waived simply by paying.

Is the compounding amount tax-deductible in India?

No. The compounding amount is a regulatory settlement with the RBI, not an expense incurred to earn income, so it cannot be claimed as a deduction under the Income-tax Act, 1961. It also cannot be claimed as a foreign tax credit in the country of residence, because it is a penalty rather than an income tax.

How long does the RBI take to decide a compounding application?

Under the Master Direction on Compounding of Contraventions under FEMA, 1999, the Reserve Bank must pass its compounding order within 180 days of receiving a complete application. The clock runs from a complete filing, so missing documents can delay matters beyond the 180-day period.

Will tax still be due on property I regularise and then sell?

Yes. Long-term capital gains on property are taxed at 12.5% without indexation under the Budget 2024 regime effective 23 July 2024, or at 20% with indexation if the property was acquired before that date and the grandfathered option is beneficial. TDS is deducted at source under Section 195 of the Income-tax Act, 1961, with surcharge and a 4% cess on top, and reconciled when the return is filed.

Can I repatriate the sale proceeds immediately after compounding?

Sale proceeds sit in an NRO account and can be remitted up to USD 1 million per financial year under the RBI's remittance-of-assets framework, once Indian taxes are paid and Form 15CA/15CB is furnished. The authorised dealer bank will usually want the RBI compounding order in hand before it processes a repatriation linked to the previously irregular asset.