For international investors putting money into Indian markets, understanding tax deducted at source (TDS) under Section 195 of the Income Tax Act is crucial. The provision directly affects how much tax non-residents pay on their investment returns from India.
Both foreign individuals and institutions face complex rules when it comes to capital gains taxation, and the distinction between long-term capital gains (LTCG) and short-term capital gains (STCG) plays a vital role in determining tax liabilities.
Key Highlights
- TDS under Section 195 applies to capital gains earned by non-residents.
- Tax treatment differs for LTCG and STCG.
- Proper compliance helps avoid penalties and ensures smooth processing.
- Maintaining accurate documentation is critical for investors.
- Tax treaties can significantly alter TDS obligations.
What is Section 195?
Section 195 of the Income Tax Act deals with tax deduction at source for payments made to non-residents. It applies to several financial transactions, including the transfer of capital assets.
In simple terms: whenever a non-resident earns income from Indian sources, tax must be deducted at the time of payment.
Scope and Applicability
- Applies to capital gains transactions involving non-residents.
- Covers payments for transfer of capital assets.
- Enforces TDS obligations on both individuals and companies making such payments.
Key Definitions
- Non-resident: An individual/entity not classified as resident for Indian tax purposes.
- Capital gains: Profit from the transfer of a capital asset.
- TDS: Mechanism where tax is deducted at the time of payment.
TDS on LTCG vs STCG Under Section 195
The classification of gains depends on how long an asset is held:
- LTCG: Assets held for more than 12–36 months (depending on asset class).
- STCG: Assets sold within 12–36 months.
| Asset Type | LTCG Holding Period | STCG Holding Period | Tax Rate |
|---|---|---|---|
| Equity Shares | More than 12 months | 12 months or less | 20% with indexation |
| Real Estate | More than 24 months | 24 months or less | 30% without indexation |
💡 Pro tip: Always maintain purchase and sale records to correctly classify capital gains.
Calculating TDS on Capital Gains
Two broad categories determine TDS:
- LTCG: Taxed at concessional rates with possible exemptions.
- STCG: Taxed at higher rates, often aligned with normal income tax slabs.
Example Rates
- Listed equity LTCG: 10% (above ₹1 lakh annual exemption).
- Other capital assets: 20% with indexation.
- STCG: Taxed as per slab or flat 30% depending on the asset.
Compliance and Documentation
To meet TDS requirements under Section 195, non-residents must ensure proper paperwork:
- TAN (Tax Deduction Account Number) – mandatory for deductors.
- PAN Card – for identification and filing purposes.
- Form 26AS & TDS Certificates – proof of deduction and credit.
Maintaining both physical and digital records helps avoid disputes during assessments.
Payment Process and Deadlines
TDS must be deposited within prescribed timelines:
- Quarterly deadlines: 7th July, 7th October, 7th January, and 7th April depending on the quarter.
- Payments can be made through:
- Income Tax Department’s e-pay portal
- Net banking via authorised banks
- CPC online processing portal
Penalties for non-compliance can include:
- 1.5% monthly interest on delayed deposits.
- Penalties up to 200% of tax amount.
- Legal action in severe cases.
Exemptions and Relief
Non-residents can claim relief under:
- Section 54 – reinvestment in residential property.
- Equity investment exemption – up to ₹1 lakh LTCG tax-free annually.
- Infrastructure bond relief – partial deductions on specific bonds.
International tax treaties may further reduce TDS rates or provide exemptions.
Challenges in Implementation
Foreign investors often face hurdles such as:
- Complex calculations for capital gains.
- Tracking multiple cross-border transactions.
- Regular updates in tax laws.
Solutions include:
- Using advanced tax software.
- Robust digital record-keeping.
- Training finance teams for compliance.
Recent Amendments
The Finance Act 2023 introduced key changes:
- Reduced TDS rates for certain capital gain categories (from 1 April 2023).
- Mandatory e-filing of TDS returns (from 1 July 2023).
- Clarifications on exemptions for capital gains (from 15 September 2023).
The CBDT has also pushed for greater digital compliance, making reporting more streamlined.
Conclusion
For foreign investors, Section 195 is one of the most important tax provisions to understand. Differentiating between LTCG and STCG, knowing the applicable TDS rates, and maintaining compliance with documentation are critical for smooth investment operations.
With regular amendments, investors are advised to seek professional tax guidance and keep up with updates from the Income Tax Department to avoid penalties and optimise tax planning.