FCNR(B) hurdle: Singapore holds ground on withholding tax

MUMBAI: Since a fortnight, NRIs in Singapore, bankers, and wealth managers have been engaged in feverish discussions, often venting their views on social media, over the applicability of withholding tax linked to 'leveraged' foreign currency non-resident (FCNR) deposit schemes offered by Indian banks.

For many, who had either committed funds or were close to signing up, the concern was palpable: a withholding tax (WTH) on interest on funds borrowed from India to invest in FCNR deposit could dramatically reduce or even wipe out the returns banks are promising.

Singapore tax authorities have now cleared the fog on the matter in a reply to a specific query from ET.


Responding to ET's question on whether Indians residing in Singapore have to pay WTH to the Singapore government on loan interest charged by banks in India, the Inland Revenue Authority Singapore (IRAS) said, "Under section 12(6) of the Singapore Income Tax Act 1947 ("ITA"), any interest in connection with any loan or indebtedness borne, directly or indirectly, by a person resident in Singapore is deemed to be derived from Singapore. In this regard, where an individual tax resident in Singapore pays interest to a bank in India, such interest is deemed to be derived from Singapore and Singapore withholding tax would apply."

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The IRAS email, from a spokesperson of the organisation, further said, "In particular, section 45 of the ITA would require the payer to withhold tax from the interest payment and pay the tax withheld to IRAS."

Under the Singapore-India Avoidance of Double Taxation Agreement, a 10% WHT on the gross interest amount would be levied subject to meeting treaty conditions. "Notwithstanding the above, where the payment is made to a Singapore branch of an Indian bank, withholding tax is waived," said IRAS.

Given the spread between interest offered on FCNR deposits and interest charged on loans, a 10% WTH on loan interest on tax grossed-up basis would erase effective returns. Where spreads are thin and final yield is generated through higher leverage, the tax can result in negative return.

FCNR liability is a dollar deposit from NRIs, held in India by banks in India. In leveraged schemes, an NRI borrows 9-19 times of initial deposit to park the entire amount as deposit. WTH is typically withheld by residents before paying non-resident banks or other service providers. In case of leveraged FCNR deposits there's no interest payment outflow from Singapore NRIs to lending banks in GIFT City in India since the bank recovers loan interest by netting the interest return on deposit. Still, WHT is triggered.

Also Read: HSBC wins $5.5 billion of NRI deposits via leveraged strategy

"Just because interest is netted off, it doesn't mean WHT disappears. Set-off clauses are fairly standard in leverage agreements, but the tax obligation arises on accrual, not on the actual cash movement," said Harshal Bhuta, partner at the CA firm PR Bhuta, which specialises in international tax and FEMA.

According to Dilpreet Singh Obhan, partner, Dhruva Advisors Singapore, "It has taken some time for individuals and practitioners to reconcile with this position given the lack of precedence and any supporting commentary or guidance on this aspect from the tax authority in the past. This is likely to be a tricky situation for early sign-ups who rushed in without seeking tax advice. It's important to note that non-compliance with WHT provisions would result in 20% penalty on top of the WHT payable. Unlike other taxes, there's no time bar for the applicability or recovery of WTH."

Based on treaties Singapore has with a few countries, WTH is exempted or reduced if borrowings are from banks in these jurisdictions. It would be interesting to assess innovative arrangements that banks are devising to identify structures where WTH can still be mitigated, said Obhan.