Global Investments can be helpful in the thorough diversification of your portfolio. The profits from investment stocks can increase your portfolio returns to a great extent. However, the profits are taxable and so are the dividends.
There are different ways in which you can gain international investment exposure. We discuss the taxability of each of these avenues in detail. It is always better to be in the know before you commit your money into any specific avenue, especially so if it is away from your shores.
- Foreign stocks
- International Funds
- International Exchange Traded Funds
How are profits from a foreign stock taxed?
The profits from global investments are taxed under capital gain taxes only. However, whether the foreign stock you invested into is a listed stock or an unlisted stock, in India as per IT Act, it is categorized as unlisted stock/security. Thus, when you hold the stock for more than a period of twenty-four months (two years) then long-term capital gain taxes at the rate of 20% with indexation benefit are applicable on the profits you made from the investment. In case, you sell the investment before twenty-four months, then a short-term capital gain tax rate would be applicable i.e. you pay tax as per the applicable slab rate. Apart from the 20% long-term capital gain tax, there is a 4% education and health cess and also surcharge which is levied.
The tax rates are subject to change as per the changes in the tax slabs.
How are the dividends from foreign stocks taxed?
The dividends from foreign stocks are taxed as “Income from other sources” like the dividends from Indian stocks. So, here you do not have to pay any different tax or extra tax for earning a dividend from a foreign company. The amount of dividends from the foreign stocks is included in the taxable income and taxed as per the applicable slab rate.
International Mutual Funds
International mutual funds pool money from the local country (India) to invest in instruments across the borders. These funds may invest in global equities either through pre-existing international funds (fund of funds) or by investing directly into international securities and indices. While it provides access to another country’s investments and enables diversification, the returns are taxed under the head capital gains.
Additional Read: Why is international investment important for Indian investors?
How are International funds taxed?
Although international funds invest in global equities, they are taxed as debt mutual funds under capital gains income head. The threshold is a 3-year horizon. So, if the holding is sold within a 3-year horizon, then it is taxed under the head short-term capital gains. Any investment redeemed beyond the threshold period is considered long-term capital gains.
Short-term capital gains are added to the overall income and taxed at the applicable tax rates of the investor. For example, if the individual falls within the 30% tax bracket, then he/she would have been taxed at this rate alongside cess.
Long-term capital gains are taxed at 20% after indexation. Indexation is a benefit that facilitates adjusting for inflation, it inflates the purchase price and thus brings down the tax liability.
Note: It has to be noted that if the fund holds more than 65% into Indian stocks and invests only the balance in foreign securities, then it is taxed as equity funds. The taxability of equity funds is based on a holding period of 12 months. The short-term capital gains on equity are taxed at 15% + surcharge + cess. Long-term capital gains are applicable if the fund is sold after a holding period of 12 months. The LTCG tax applicable is 10%, however, capital gains of up to Rs. 1 lakh per year are exempt from tax.
International Exchange-traded funds
International Exchange-traded funds are ETFs that invest in overseas securities. They are allowed to invest in equity, equity-related, or fixed income securities based on their geographic mandate. This is a good means to hedge country and political risks. These funds are traded on the exchange just like any other equity stock but are a form of passive investment as it tracks the underlying index. Hence the expense ratio of ETFs is very low.
How are International ETFs taxed?
International ETFs have debt taxation. It is taxed as per the tax slabs applicable for the investor for short-term capital gains with a holding period less than 3 years and 20% post indexation for long-term capital gains with a holding period greater than or equal to 3 years.
Additional Read: Investing in International Funds for Portfolio Diversification
How to avoid double taxation?
The above implications also depend on the geographic mandate of the fund. If your profits are taxed at the source country as per source rule and then you are paying tax as per residence rule in India on the same profit, then you can obtain relief and avail tax credit as per the Double Tax Avoidance Agreement (DTAA). However, this agreement has to be present between the source country and India.
Global investments can open new doors for an investor. However, choosing the mode to gain international exposure is important. The taxability aspect could facilitate tax-efficient investment over the long haul, apart from providing diversification. Being aware of the rules and regulations about investments and taxation is crucial for the investor before getting into global investments. If you need help to invest internationally; connect with us at Tata Capital Wealth and we shall guide you ahead.