It isnтАЩt uncommon for retail investors to carefully make their investing decisions with the goal of achieving a particular return, only to realise too late that they didnтАЩt take the relevant taxes into account properly.
Thus, understanding taxes plays a crucial role in financial planning. If you know how your investment income is going to be taxed, you will have a clearer picture of the kind of returns you can expect. So, letтАЩs understand the taxes that are or may be applicable to the profits made through equity shares and other investments, both in India and the US.
Table of contents
1. What are the tax implications on investments?
2. Taxes on investments in India
3. Taxes on investments in the US
4. Tax implications for Indians investing in the US
5. How to invest in US stocks and ETFs
6. Frequently asked questions
1. What are the tax implications on investments?
Whether you invest in stocks, corporate bonds, government securities, mutual funds, or exchange-traded funds, there are two main kinds of tax implications you need to know about.
1.1 Tax on dividends/interest
One of the most common ways you earn from investments is through dividends and interest. When you invest in the shares of a company, you may earn dividend income every time the company declares that a part of its profit is to be distributed as dividends. And when you invest in corporate or government bonds, you will earn interest during the bond tenure.
Dividends from stocks and interest from investments like corporate bonds, government securities, fixed deposits, and other fixed-income investments are added to your total income for the relevant financial year and taxed as per your income tax slab rate.
ItтАЩs important to note that the treatment of dividends may differ depending on the country where theyтАЩre earned and the applicable tax rules. For instance, in the US, dividends are categorised as being either qualified and non-qualified dividends. We will explore these aspects in more detail later in this article.
1.2 Tax on capital gains
The second way you can earn from investments is through capital gains, which is the profit you earn when you sell an investment. And this profit attracts a tax called the capital gains tax.
For instance, say you bought 100 shares of a company for тВ╣100 each, which makes your total investment тВ╣10,000. After five years, when you decide to sell those shares, the selling price is тВ╣120, and so you end up receiving тВ╣12,000. Your capital gains on this investment will amount to the difference between the selling price and the buying price of the investment. So, in this case, you will have to pay tax on тВ╣2,000.
The holding period тАФ the duration for which you hold your investment тАФ is essential when it comes to determining the capital gains tax rate. Capital gains are categorised into short-term capital gains (STCGs) and long-term capital gains (LTCGs). And the holding period that determines whether capital gains are long-term or not depends on several factors, including asset class and country.
In India, for instance, capital gains from equity investments qualify as LTCG if the investments are held for at least 12 months. But for certain kinds of mixed (i.e. equity + debt) funds, the holding period needs to be at least 36 months.
2. Taxes on investments in India
LetтАЩs delve into the tax rules for stocks and other investments in India.
2.1 Tax on dividends/interest
In India, the treatment of dividend and interest income is quite straightforward. No matter the amount of dividend or interest you earn on your investments, it is added to your total income for the relevant financial year and then taxed according to the applicable income tax slab rate.
For instance, say your salary income for a financial year is тВ╣15 lakh and the amount of dividend and interest you have earned from your investments that year amounts to тВ╣1 lakh. So, this тВ╣1 lakh will be added to тВ╣15 lakh, and your total income for the year will be тВ╣16 lakh, and will be taxed at your income tax slab rate.
2.2 Tax on capital gains
The type and holding period of an investment are what determine the type (short-term or long-term) and proportion of the capital gains tax that will be levied. LetтАЩs look at some examples of common investment types.
- Equity and equity funds: Capital gains on equity investments like listed stocks and equity mutual funds held for 12 months or less are considered STCGs and are taxed at 15%. Gains on equity investments held for over 12 months are considered LTCGs and are taxed at 10% without indexation*. Equity-based LTCGs of up to тВ╣1 lakh are exempt from taxation.
For unlisted shares, the LTCG tax rules are applicable if the holding period exceeds 24 months. While STCGs are taxed as per your income tax slab, LTCGs are taxed at 20% with indexation. - Debt instruments: Capital gains earned on listed debt instruments (such as bonds, debentures, government securities, etc.) that are held for 12 months or less are considered STCGs and taxed as per your income tax slab. Capital gains on listed debt instruments held for over 12 months are considered LTCGs, and are taxed at 10% without indexation or 20% with indexation. However, indexation benefits are only available for a few kinds of bonds, such as Sovereign Gold Bonds (SGBs) and capital-indexed bonds. For unlisted bonds and debentures, the threshold holding period is 36 months. While STCGs are taxed as per your income tax slab, LTCGs are taxed at 20% without indexation.
- Debt mutual funds: A mutual fund that invests less than 35% of its investable capital in equities is called a debt mutual fund. If you invested in a debt mutual fund prior to 1 April 2022, then the holding period that decided whether your capital gains would be STCGs or LTCGs was 36 months. While STCGs were taxed as per your income tax slab rate, LTCGs were taxed at 20% with indexation or 10% without indexation. However, for all debt mutual fund investments made on or after 1 April 2022, all capital gains will be taxed as per your income tax slab rate, regardless of the holding period.
*Indexation is the process of adjusting the cost of an investment to account for inflation over the holding period. It helps investors reduce their tax liability on long-term capital gains.
2.3 Securities transaction tax (STT)
The STT is a tax thatтАЩs levied on the purchase and sale of most kinds of securities, such as shares, mutual funds, etc. For equity and mutual funds, the STT tax rate varies between 0% and 0.1%. Thus, this tax usually has a negligible impact on your investments.
3. Taxes on investments in the US
In the US, too, investment income is categorised into dividend income and capital gains. Here are the tax rules applicable to these two categories.
3.1 Tax on dividends
In the US, dividends paid by companies are categorised into qualified and non-qualified (or ordinary) dividends for tax purposes.
Qualified dividends are those paid out by listed US companies, and an investor must have held the relevant stocks for at least 60 days out of a 121-day holding period. Investors pay a tax rate of either 0%, 15%, or 20% on such dividends, depending on their slab.
Non-qualified dividends tend to be taxed at a higher rate than qualified dividends. This is because non-qualified dividends are taxed as per the income tax slab rates, the highest of which is 37%. Dividends from foreign companies, dividends from bond mutual funds, and dividends from Real Estate Investment Trusts (REITs), are examples of non-qualified dividends.
3.2 Tax on capital gains
In the US, capital gains on most common investment instruments, like stocks, mutual funds, and bonds, are given the same treatment. Gains on investments held for 12 months or less are considered STCGs, while gains on investments held for over 12 months are considered LTCGs.
LTCGs are taxed at 0%, 15% or 20%, depending on two things тАФ the investorтАЩs taxable income and filing status as per the Internal Revenue Service (IRS). In contrast, STCGs are taxed as per the investorтАЩs income tax bracket, and generally end up being taxed at a rate higher than that for LTCGs.
4. Tax implications for Indians investing in the US
The good news for Indians investing in the US is that India and the US have a Double Taxation Avoidance Agreement (DTAA), which ensures that you donтАЩt end up paying tax on your investment income twice, i.e. in the US, the country you are investing in, as well as India, the country you are residing and filing taxes in. Hence, if youтАЩre an Indian resident, this is one of many reasons why the US would make for a great investment opportunity for you.
When you invest in the US, whether in stocks, ETFs, mutual funds, or any other investment instrument, the two main types of taxes remain the same тАФ tax on dividends and tax on capital gains. But naturally, their treatment differs.
4.1 Tax on dividends
As an Indian resident, when you earn dividend income from your investments in the US, it is first taxed at a flat rate of 25% in the US. For instance, say you earn a dividend income of $150 from the stock of a US company you have invested in. The company will deduct 25% of that dividend and you will receive the remaining 75%, which in this case, would be $112.50.
Now, in India, your dividend income, whether from Indian stocks or US stocks, is added to your annual income and taxed as per your income tax slab rate. But since you have already paid 25% tax on your US dividend income, thanks to the DTAA, you can use that amount paid as a foreign tax credit and offset your tax liability in India.
4.2 Tax on capital gains
For capital gains earned on your investments in the US, you donтАЩt need to pay any tax in the US. In India, however, capital gains tax on shares and other investments is applicable. The rate depends on the holding period and the type of investment.
Capital gains on US stocks held for 24 months or less are considered STCGs and are taxed as per your income tax slab rate. However, capital gains on US stocks held for over 24 months are considered LTCGs and are taxed at a rate of 20% (plus any applicable fees and surcharges). For US ETFs, the treatment of capital gains is the same. The only difference is the holding period that leads capital gains to be considered LTCGs: instead of 24 months, it is 36 months.
5. How to invest in US stocks and ETFs
Investing in the US is advantageous not only because of the DTAA between the two countries but also because some of the best-performing and biggest companies across sectors like technology, consumer discretionary, and pharmaceuticals are listed in the US.
Adding US stocks and ETFs to your investment portfolio allows you to diversify your investments and reduce risks, as the Indian and the US stock market are not perfectly synced. And today, investing in the US while being an Indian resident is easier than ever before with an investment platform like Appreciate.
Appreciate offers you quick, easy, and cost-effective access to the US stock market and helps you build a well-diversified portfolio through tools like AI-based recommendations and goal planning. Download the Appreciate App today!
6. Frequently asked questions
6.1 How are US stocks taxed in India?
US stock investments are taxed in India in two ways тАФ tax on dividends and tax on capital gains. For dividend income earned on US stocks, the relevant US company deducts a 25% tax. Since the US and India have a Double Taxation Avoidance Agreement (DTAA), you can offset the tax on dividends you paid in the US against your tax liability in India.
As for capital gains tax on US stocks, you donтАЩt have to pay anything in the US, but you do in India. Capital gains on US stocks held for 24 months or less are considered to be short-term capital gains, and you have to pay tax on them as per your income tax slab. Capital gains on US stocks held for more than 24 months are considered to be long-term capital gains, and you have to pay a 20% tax on them, in addition to any applicable fees and surcharges.
6.2 Do you have to pay tax on foreign stocks in India?
Yes, you have to pay tax on foreign stocks in India. The percentage of tax will depend on which countryтАЩs stocks you have invested in and whether or not India has a tax treaty with it.
6.3 How is US taxation different from Indian taxation?
Broadly, both the US and India have two main types of taxes on investments тАФ tax on dividends and capital gains tax. The difference is the tax rates, the tax treatment of different types of investments, the holding periods that lead capital gains to be classified as either short-term and long-term, and other tax rules and exemptions.
6.4 How will taxes work for investors in India when investing in the US?
India and the US have a tax treaty in place тАФ the Double Taxation Avoidance Agreement тАФ to ensure that Indian investors donтАЩt end up paying tax on their investment income twice. So, when you invest in US instruments like stocks or ETFs, the tax on dividends that you pay in the US can be used to offset your income tax liability in India through foreign tax credits.
As for capital gains, they are not taxable on your investments in the US, but they are in India. Capital gains are either added to your annual income and taxed as per your income tax slab rate (short-term capital gains) or taxed at 20% (long-term capital gains).
6.5 Is there a tax treaty between the US and India?
Yes, there is a tax treaty between the US and India. It is called the Double Taxation Avoidance Agreement (DTAA). This treaty benefits Indian investors as it ensures that their investment income from the US is not taxed twice.
