Gifting to your NRI child? Know the tax treatment of NRE deposits

I have transferred ₹5 lakh as a gift to my non-resident Indian (NRI) child’s non-resident ordinary (NRO) account. He has transferred that amount to his non-resident external (NRE) account and subsequently invested it in a fixed deposit, in which the interest is tax-free for him. Are there any income tax consequences to doing this for both of us? Please also tell how much interest amount in the NRE account is income tax-free?

—Name withheld on request

A gift from a parent to a child or any relative (as defined in the law) does not result in any income-tax consequences and is exempt from tax. Accordingly, your gift of ₹5 lakh to your son does not give rise to any tax liability for either you or your son at the time of making or receiving the gift.

In respect of any income earned by the child from any investment made out of the said gift, the tax liability, if any, would arise in the hands of the child and not the parent. Interest earned in an NRE account by an individual who is a person resident outside India under FEMA would be exempt from tax. Assuming your son is a non-resident under FEMA as well, the interest earned by him would be exempt in his hands, regardless of whether it is credited periodically or on maturity, irrespective of the amount of interest.

This exemption applies to interest on NRE savings bank accounts as well as on NRE and FCNR fixed deposit accounts. The exemption in the case of interest applies only in respect of NRE and FCNR accounts, and any interest earned on the balance in the NRO account or on NRO fixed deposits would be taxable. Thus, while the transfer of funds to the NRE account enables your son to invest in a tax-exempt deposit, any interest earned before the money is moved out of the NRO account would not qualify for the exemption and would remain taxable under the applicable provisions.

The exemption would apply even if your son is a minor, and the income is to be clubbed in your hands, subject to the applicable provisions governing clubbing of a minor’s income.

Under FEMA, as a resident, you are permitted to gift any money to an NRO account of a relative (as defined in the Companies Act, where the definition is narrower than the Income-tax Act) within the overall limit of the Liberalized Remittance Scheme, which is $250,000 per financial year currently.

Furthermore, the non-resident who has received the gift in an NRO account can remit funds outside India or to his NRE account, subject to the overall annual limit of $1 million per fiscal year.

There is no restriction on the remittance of funds from the NRE account outside India; the funds are fully repatriable, allowing your son to freely transfer the money overseas whenever required.

Mahesh Nayak is a chartered accountant at CNK & Associates.