Are NRE FDs worth investing for NRIs in USA?

POSTED BY PK ON April 5, 2012 6:17 am COMMENTS (15)

All,
Just want to bring up a point on the NRE FDs. Agreed that these interest rates are very good and is tax free in India. But is it worth for NRIs in USA? This is because, the interest on NRE FDs are tax free in India but not in USA. Any money earned anywhere in the world is taxable in US if a person is in USA. The only exception being if tax was already paid for that income in the respective country.
So what this means is NRE FDs are taxable in USA. And the tax in USA is much higher than that of India. For working NRIs who already have an income in USA, the tax on NRE FD interest will be more than 40%. Instead is it not better to keep these FDs in NRO account and pay 30% TDS?
One related question. if an NRI invests in an NRE FD for 10 years and for some reason comes back to India in between, will the NRE FD be broken?
Share your thoughts.
Thanks.

15 replies on this article “Are NRE FDs worth investing for NRIs in USA?”

  1. bala says:

    Dear Manish

    Thanks for your excellent posts – I live in the US and have an NRE account with Vijaya bank. I have a question-

    Due to the higher interest rate in Indian accounts (8% or so) i feel i should keep some money in my NRE account as its getting less than 1% interest in american banks- Do you think that is a good idea considering the depreciation of rupee etc etc. You can just answer YES or NO as i know you must be a busy man.

    Thanks a lot for your help.

    Regards
    Bala

  2. Raja says:

    Hi Ashal,

    I am a student studying in the US and have got some surplus cash to invest, which I got as part of a fellowship in the US. I fall in the 14% tax bracket in the US. I was thinking of investing some money in an NRE FD. My question is that the interest that I receive would be tax free in India, but I would be required to report this in my income in the US. How do I convert this interest income, which I receive in Indian Rupees, into USD? What would be the correct exchange rate to use for this?

    Thanks.
    Raja

    1. Hi Raja

      I am not very sure on this . But I guess it would be the USD rate on the date of paying the taxes. Still you should check it with a CA

  3. Dear Anon, the calculation is pretty Simple – Please put the figure of expense if it happens today itself. Now inflate the figure using the 10% inflation rate.

    This inflated figure ‘ll be your target to achieve.

    Please share more details. In case you are not comfortable to put more data in public domain, you may e-mail me directly. My e-mail is available in my profile.

    As per Forum policy I can’t publish my e-mail directly.

    Thanks

    Ashal

  4. anon smith says:

    @ashal,
    I wanted to add that US bank accounts give a 3.5% interest. This is again taxable and you typically get 60% of the interest in hand so effectively it’s a 2.1% increase of income (Please correct me if I’m wrong)..and I find this is largely overpowered by the 5.4% income from an NRE deposit.

  5. anon smith says:

    Dear Ashal Jauhari,
    Thanks a lot for the point about inflation and I think that’s a really good question raised. I’m a complete newbie to finance, I haven’t factored inflation into my plans and surprise surprise I think that 5.4% interest is still going to be good:

    I plan to spend a huge lump (in INR of course) of X lakhs once in the next 5-6 years, and Y lakhs once in the next 15 years when I plan to return to India for good. So I can’t help but find this appealing when compared to the measly 3 or 3.5% offered at american savings banks, while I can use the 5.4% from now to afford X (pretty certain that X won’t rise much in the next 5-6 years) and 1.2Y after 15 years. Can you suggest how I factor in inflation to calculate Y after 15 years (Y is larger than 50 lakhs so I don’t assume it’s going to change much)?

    Thanks.
    Anon

  6. anon smith says:

    Hi I just started reading about TDS and income tax. I am going to start my job soon in california and I have a question regarding TDS or general FD investments for NRIs:

    Let’s say I save USD 20,000 after tax cuts in the US (total taxes are about 40% there). I decide to invest 10 lakh INR in india, should I choose an NRI FD or an NRO FD account? what will be my return in each case (after all further tax cuts)?

    Let’s say my bank offers 9% return for an FD of 1 year.

    in an NRO account, if there is a 30% TDS, (Is it 30% TDS even if I show my PAN card? will my PAN card be useless if I am an NRI?) will my return be 70%(9%(10 lakhs)) = 0.63 lakhs? Do I need to pay anything extra here in the US based on this return of 0.63 lakhs?

    what’s a DTAA? I am sure there must be a DTAA scheme for india for california residents.
    If i make use of a DTAA, will I be able to reduce TDS in India or the extra tax I need to pay back in the US after I get the 0.63 lakh?

    1. Dear Anon Smith, As you are in US of A, your total income from all over the world is to be calculated for tax calculation in USA. So no matter it’s NRO or NRE FD, the interest income is to be reported to USA. Now the question comes how much to pay Tax. Well 40% in each case. But in case of NRO FD, you can claim the benefit of DTAA for the 30% Tax deducted at source in India & remaining 10% you w’d have to pay in USA.

      Now do you really feel earning 5-5.5% interest is good thing, when the real inflation India is running around 10-11%?

      You decide.

      thanks

      Ashal

  7. Dear BanyanFA, If the NRI in question is using compounding option & not receiving interest in between & after 5-6 years is back in India or out of USA, what ‘ll be the possible Tax situation for the interest during 5-6Y period & after that? Asking just to increase my own knowledge.

    Thanks

    Ashal

  8. PK says:

    Thanks for your views justgrowmymoney and BanyanFA.

    @justgrowmymoney, I guess the US tax slabs you have mentioned is only related to Federal. There are other taxes to be paid as well like state tax(around 6%-7%), county tax, SSN tax, medicare tax. For an Indian earning 90k (this is the avg sal of an Indian in US), filing as a single, all these taxes will make up atleast 45-50%.

    @Banyan,
    Is it really true that even after paying 30% TDS in India on NRO FD, the remaining tax still has to be paid in USA? If so, then it doesnot actually make any difference investing in NRO FD vs NRE FD.
    Also, is it legal to hold the NRE FD even after returning back to India? I was thinking that this is not legal.
    Also, in case of holding a NRE FD (not a monthly payout one), is it mandatory to pay the tax in US every year. Since its a FD that matures only after 10 yrs, is it valid to postpone the tax payment at the end of 10 yrs. It could be the case that at the end of 10 yrs that person may not be in US and need not actually pay any tax in US.

    Pls. share your thoughts.

    1. BanyanFA says:

      @ PK – you have a valid point – in case of NRE & NRO, a NRI living outside India has no respite for his global taxable income. The only difference would be that NRE interest would not attract TDS while paying into the bank account and hence can be structured to invest the interest payouts into other asset classes. NRO attracts 30% interest upfront and hence reduces the possibility for such structures.

      Both in case of NRE & NRO you should report your gross Interest in your global tax return in USA. In case of NRE you would not be able to show any tax being deducted and hence would have to pay tax on complete NRE interest in US. For NRO, you could claim the TDS deducted in India against your tax liability on NRO interest (gross). For example if your NRO interest was 100 and TDS of Rs. 30 was deducted and net was 70 which was credited in your India account. You should show 100 interest in your US tax statement and lets say if your tax liability is 40 for this 100 interest, then you can claim the 30 deducted in India as tax already paid an pay the balance 10 tax in USA.

      My understanding is that even if you compound your FD interest, then also should ideally pay tax on FDs on accrual basis and not cash basis. IRS is some what clear on it and classifies it as Original Issue Discount (OID). Have a read at http://www.irs.gov/publications/p550/ch01.html#en_US_2011_publink10009983
      It is a big notification and I would suggest you to go to the section “Certificates of deposit and other deferred interest accounts.” It would then refer to OID section for deposits having maturity beyond 1 year. OID would then mention that you need to pay tax on accrual basis.

      Hopefully it clarifies all your queries. However, please do not take any investment decisions based upon my clarifications. Please take expert opinion from your CPA in USA.

      Regards
      BFA

  9. BanyanFA says:

    Hi Sachin,
    I may not agree with your view. Interest Income in USA is not taxable on cash basis. You have to disclose your global income as a part of your tax returns in US, irrespective it is cash or accrual basis.

    Regards
    BFA

  10. Sachin says:

    I heard that if you taking your money (Interest income in India) back to US that is the time you need to pay tax in US otherwise you can keep this money in India without paying tax, is this true.

  11. BanyanFA says:

    Hi PK,
    I do appreciate your views and this is what most of my clients in USA have also mentioned to me. However, what investment options do you have in USA to keep funds in interest giving securities. Probably the top options won’t give you more than 2% return.

    NRO FDs would deduct TDS @ 30%, but you would have to still pay balance 10% tax in USA (based upon how DTAA works). You can’t avoid USA tax if India has deducted any tax. You have to pay the balance of tax in USA.

    I don’t think that you need to break your NRE FDs once you are back in India. I would rather not have any resident banking relationship with the respective bank which is holding my NRE FDs so that I can enjoy tax free interest income for 10 years. For many of our clients hence we recommended them to invest into NRE FDs with 10 year period, interest being paid out quarterly. We then got their interest income linked to Equity Mutual Fund SIPs making a capital guarantee / protection vehicle.

    Regards
    BFA

  12. Do note that the Foreign currency fluctuations are also driven by Inflation levels in the countries so one does not necessarily make money by investing in a high inflation country. Else we can all look at Turkey for a 20% return, as an example. However what will happen is in 1 year if the India Inflation is 8% and Turkey Inflation is 18% the Turkish currency will depreciate by this differential (10%) so the net returns when converted to base currency are the same.

    The highest tax bracket in the US for 2012 is 35% for couples earning USD 388,350 and above (almost half of that for singles). Considering the median income in the US is about USD 44,000 most couples -assuming both spouses are working – pay 25% tax [Married filing jointly].

    If you fall in the 25% tax bucket or lower in the US it makes some sense to invest in these NRE FDs. Otherwise it does not make sense. For 28% tax bracket even a small currency fluctuation will eat away your net gains.

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