U.S. Tax Rules for Rental Income From India

It is not surprising that thousands of Indians living in the U.S. own property in India, whether it is inherited family homes, investment properties, or other assets. Many of these properties generate rental income, and this may create tax obligations in India and, depending on the property owner's U.S. tax status, in the USA as well. As the income is generated from property located in India, it is generally taxable in India, regardless of whether you are an NRI. Additionally, depending on your residential status, U.S. tax on Indian rental income may apply through the relevant schedules and forms. In simple terms, paying tax in one country does not automatically remove your tax obligation in another; the U.S. tax treatment depends on your tax status and the applicable U.S. tax rules.

Want to know the U.S. tax treatment of rental income from Indian property for an NRI and which U.S. tax status makes them liable to report and pay tax there? This blog provides you with a complete picture of how the US taxes rental income from India for eligible taxpayers, schedules, allowable expenses, and depreciation. So read on and gather all the information.

Is Rental Income From Indian Property Taxable in the US?

This depends primarily on your tax status in the U.S. and the applicable U.S. tax rules, rather than simply on where the income is received. If you are a U.S. citizen or resident alien, you generally must report your worldwide income, including rental income from Indian property. However, if you are a nonresident alien for U.S. tax purposes, Indian rental income from property located in India is generally foreign-source income and is not subject to U.S. tax unless a specific rule makes it taxable. US tax on Indian rental income if you are:

• U.S. citizen
• Green card holder
• You meet the substantial presence test

In simple words, your U.S. tax status, along with the applicable source and treaty rules, determines whether you will report Indian rental income in the U.S. or not. It is a foundational U.S. tax principle that states U.S. citizens and residents, regardless of where they earn or deposit the income, are liable to pay tax on their global income in the U.S. This tax rule is different from that of non-resident aliens, as they are generally taxed on U.S.-source income and income effectively connected with a U.S. trade or business. When a non-resident alien is required to file a U.S. tax return, Form 1040-NR is generally used.

So, if you are a U.S. citizen or resident alien, you generally must report your Indian rental income in the U.S., subject to applicable U.S. tax rules. Further, if you want to know how the substantial presence test or green card test works, how dual-status returns work, and when your U.S. residency ends officially, read our blog on U.S. residency guides. 

Now, moving ahead, let's know who needs to report Indian rental income in the U.S.

Who Needs to Report Indian Rental Income in the US?

The table below mentions the U.S. persons who are liable to report Indian rental income in the U.S.:

The table above clearly identifies which U.S. persons, based on their U.S. tax status, are required to report their global income on their returns. 

Further, to get a clear idea of the U.S. tax form you should file with your tax returns as per your residential status, read our blog on "Form 1040 vs 1040-NR: Which IRS Form Should I File?" Also, if you are confused about a dual-status alien, check out our blog on "Dual-Status Alien Tax Return: A Guide for NRIs " to solve all your doubts.

Moving forward, let's determine the physical sourcing rules for rental property.

Physical Sourcing Rules for Rental Property. 

Under U.S. tax sourcing rules, rental income from real property is generally sourced based on where the property is physically located, not where the owner resides or where the rent is received. Considering this, for U.S. tax purposes, rental income received from property located in India is generally foreign-source income. Confused why this classification is important? This is because:

• It affects whether you can claim the foreign tax credit
• It helps in clearly picturing your cross-border taxation
• It helps you correctly fill out forms like Form 1116, which classify income by source

This was all about the physical sourcing rules for rental property Now, moving forward, let's know how Indian rental income is reported on a U.S. tax return.

How Is Indian Rental Income Reported on a US Tax Return?

For a U.S. citizen or resident alien filing Form 1040, Indian rental income is generally reported on Schedule E (Supplemental Income and Loss) and attached to Form 1040. The U.S. reporting treatment can differ for a non-resident alien. Here is how it is reported on the schedule:

Gross rental income → allowable US expenses → US depreciation → net rental income or loss

When calculating rental income in India and the U.S., taxpayers often get confused because the figures do not match. This is because both countries have their own tax systems, different deductible expenses, and depreciation rules. Considering this, after converting your final Indian taxable rental income to dollars, do not report it directly on your U.S. tax return; instead, apply U.S. calculations. 

For a detailed overview, check out our blog post, "How to Report Indian Rental Property on Schedule E?" Moving ahead, let's look at what is included in the Indian rental property. 

What Should Be Included in Indian Rental Income?

Under U.S. tax rules, in addition to the monthly rent check, rental income generally includes amounts received for the use or occupation of the property, including certain non-cash payments or benefits. Further, depending on your rent agreement, this can include:

• Monthly rent
• Advance rent, where applicable
• Payments made by the tenant on your behalf (directly paying the electricity bill)
• Other rental-related payments connected to the payment

Moreover, when reporting Indian rental income on your U.S. tax return, follow U.S. tax rules rather than Indian tax rules. Now, moving forward, let's look at which expenses can be deducted from Indian rental property. 

What Expenses Can Be Deducted for Indian Rental Property?

Under U.S. tax rules, you may generally deduct eligible and ordinary rental expenses from the Indian rental property, subject to applicable limitations and requirements. These may include:

• Repairs
• Property management fees
• Maintenance
• Insurance
• Certain interest expenses
• Eligible property taxes
• Utilities paid by the property owner
• Professional fees such as accounting and legal
• Depreciation

One important point to consider here. Generally, the IRS separates current expenses (such as plumbing repairs that you can deduct in the year you pay them) from capital improvements (something that extends or adds to the value of the property, such as the construction of a new roof that is added to the property's basis and depreciated over time). Calculating it wrong is one of the common mistakes made by NRIs when reporting rental income from India in the US.

Moreover, for a broader breakdown of what qualifies and what does not qualify as rental income expenses, read our blog on "What Expenses Can You Deduct from Indian Rental Property on a US Tax Return?" Further, moving to the next section, let's know how U.S. depreciation applies to Indian rental property.

How Does U.S. Depreciation Work for Indian Rental Property?

Foreign residential rental property generally must be depreciated under the Alternative Depreciation System (ADS). For residential rental property placed in service after 2017, the ADS recovery period is generally 30 years, using the straight-line method and the applicable convention. For property placed in service before 2018, different ADS recovery periods may apply. Land is not depreciable. Depreciation begins when the property is placed in service, generally when it is ready and available for rent—not necessarily when the first tenant moves in. Depreciation deductions reduce the property's adjusted tax basis, which can increase the taxable gain recognized when the property is later sold. 

Therefore, it is important to properly calculate and claim depreciation on your rental property, as depreciation deductions reduce your adjusted tax basis. Even if allowable depreciation is not claimed, the basis may still be reduced by the amount that was allowable, which can increase the taxable gain when you later sell the property.

This is how U.S. depreciation is applied to Indian rental property. If you want to know more about it in detail or about Form 4562, read our blog on "Depreciating Indian Rental Property on Your U.S. Tax Return." Now, moving forward, let's know how Indian rental income and expenses should be converted from INR to USD. 

How Should Indian Rental Income and Expenses Be Converted From INR to USD?

Indian rental income and expenses should be converted from INR to USD because US tax returns are filed in dollars, and Indian real estate transactions are conducted in Indian rupees (INR). Considering this, you should use the applicable foreign exchange rate depending on the nature and timing of each transaction. Generally, foreign-currency income and expenses should be translated into U.S. dollars using the exchange rate prevailing when the income is received or the expense is paid or accrued. Section 988 may apply to certain foreign-currency transactions, such as:

• Income and Operating Expenses: Generally translate each rental receipt and expense into U.S. dollars using the exchange rate prevailing when the income is received or the expense is paid or accrued. A consistently applied yearly average rate may be used when appropriate and reasonable for the transactions involved.
• Cost Basis and Depreciation: Determine the U.S. dollar tax basis of the property and capital improvements using the applicable U.S. currency-translation rules for the relevant acquisition or expenditure dates. Maintain supporting records for the INR amount, transaction date, exchange rate used, and resulting U.S. dollar basis.
• Foreign Taxes Paid: If you are claiming a foreign tax credit for taxes paid in India, generally use the exchange rate in effect on the date you paid the foreign taxes. If you are claiming the credit on an accrual basis, you generally use the average exchange rate for the tax year to which the taxes relate, subject to applicable IRS requirements.

This was just an overview of how to convert Indian rental income and expenses to U.S. dollars. For more information, read our blog on "How to Convert Indian Rental Income and Expenses from INR to USD for US Taxes?" Moving ahead, let's know the rental income tax in both India and the USA. 

Do You Pay Tax in Both India and the US on Indian Rental Income?

Indian rental income may create tax obligations in both India and the US. Here is how the tax systems of both countries overlap: 

• You generally have an Indian tax obligation because the rental income arises from property located in India. Considering this, India applies its own domestic tax rules to the income, subject to applicable DTAA provisions.
• As mentioned earlier, a U.S. person is liable to pay tax on their global income, which also includes Indian rental income. 

At first glance, Indian rental income may appear to be subject to tax twice because India can tax income from property located in India and a U.S. citizen or resident alien generally reports worldwide income in the United States. However, the India–U.S. tax treaty and U.S. foreign tax credit rules may provide relief from double taxation. The credit is subject to applicable U.S. tax rules and limitations, so it does not necessarily eliminate the U.S. tax dollar-for-dollar. Considering this, U.S. domestic tax and treaty rules work together to help taxpayers claim a foreign tax credit for taxes already paid on the same income in another country.

However, the tax credit amount depends on the relevant numbers, i.e., how much tax you paid in India, how much tax applies to the same income in the US, and the foreign tax credit limits. In most cases, the taxable income calculation for the same property does not match due to differences in tax rules, deductible expenses, depreciation, and exchange rates, which further impacts how the tax credit offsets things. 

So, yes, you may have tax obligations on your Indian rental income in both India and the US; however, the India–US tax treaty and U.S. foreign tax credit rules may provide relief from double taxation, subject to applicable eligibility requirements and limitations.

How Can You Claim a Foreign Tax Credit for Indian Taxes Paid on Rental Income?

To claim a foreign tax credit for Indian taxes paid on rental income, you need to consider the following:

• Mention every income you earned in India- rent, dividends, or capital gains. Keep documents such as Form 26AS, challans, Form 16A, and TDS certificates to support the Indian taxes paid or accrued. Using the applicable foreign exchange rate, convert them to dollars.
• Mention this income in your Form 1040.
• To claim a foreign tax credit, fill out Form 1116 and mention the following information:
• Country: India
• Income type: Passive category income generally includes rental income, dividends, and interest, subject to applicable exceptions; general category income generally includes salary and active business income.
• Paid taxes: Converted to USD
• Limit: The foreign tax credit cannot be more than the portion of your US taxes that applies to that income
• Keep proof of your paid Indian tax, exchange rate calculation, and filed forms, as the IRS may ask about it at any time. 

Furthermore, for a detailed overview of it, read our blog on "Foreign Tax Credit on Indian Rental Income: How to Avoid Double Taxation?" Now, moving ahead, let's look at what happens if your rental property incurs a loss.

What If Your Indian Rental Property Generates a Loss?

If your Indian rental property generates a loss, the loss is generally subject to the U.S. passive activity loss rules and may be offset against other passive income, subject to applicable limitations. This generally occurs when your total deductible expenses exceed your rental income for the tax year. Further, losses from passive rental income face specific limitations such as:

• Passive Activity Loss (PAL) restricts the rental loss amount you can use in the particular year.
• Rental losses that you cannot use are considered suspended losses and are carried forward to the next year.
• In specific circumstances, such as your income level or your level of involvement in managing the property, the amount of rental loss you can use may be affected. Qualifying taxpayers who actively participate in rental real estate may be eligible for a special allowance of up to $25,000, subject to applicable income limits, while real estate professionals may be subject to different rules.

Confused? For a clear idea of it, read our blog on "Passive Activity Loss Rules for Indian Rental Property." Now, moving further, let's better understand this with an example.

Does Indian Rental Property Need to Be Reported on FBAR?

Indian rental property itself is not reported on the FBAR. However, if you receive the rental income in a foreign bank account and the aggregate value of your qualifying foreign financial accounts exceeds $10,000 at any point during the calendar year, FBAR reporting may be required. Here, the rental income itself does not trigger the FBAR; the requirement depends on the qualifying foreign financial accounts and the applicable threshold. Here, the income does not matter; what matters is the account in which it is received and the threshold limit. 

For instance, if you are a U.S. person and receive your rental income in your NRE or NRO account, and the aggregate value of all your qualifying foreign financial accounts exceeds $10,000 at any point during the year, then you may be required to file an FBAR.

For more information on FBAR, read our guide on FBAR reporting requirements for NRIs and get a complete idea of it. Now, moving ahead, let's find out whether Indian rental property needs to be reported on Form 8938.

Does Indian Rental Property Need to Be Reported on Form 8938?

Directly held Indian rental property generally does not need to be reported on Form 8938. However, if the property is held through a foreign entity, such as a foreign corporation, partnership, trust, or estate, your interest in that entity may be a specified foreign financial asset that must be reported if the applicable Form 8938 reporting threshold is exceeded.

Confused between FBAR and Form 8938? Well, you are not alone in this; like you, many U.S. persons also get confused between them. So, to better understand the difference between them, read our blog on FBAR vs Form 8938.

Furthermore, let's see what happens if you sell the Indian rental property.

What Happens If You Sell the Indian Rental Property?

If you sell the Indian rental property, it creates other tax reporting requirements and potential obligations in the U.S. Additionally, a U.S. citizen or resident alien generally must report any capital gain or loss generated from the sale of that property. The taxable gain depends on the sale amount, adjusted basis, applicable depreciation, and other U.S. tax rules. To provide you with an idea, here are the following things involved in the property sale:

• Sale Amount
• Your adjusted basis (original purchase price, adjusted with capital improvements and prior depreciation)
• Capital gain or loss generated from property sale
• Determining depreciation over the years you claim on your rental property
• Indian capital gains tax imposed on the sold property
• Foreign tax credit to avoid double taxation on property sale income.

Further, if you sold the property mid-year or at year-end, you may have U.S. tax and reporting obligations on both the rental income and any taxable gain from the sale. Moving ahead, let's know the common US tax mistakes NRIs make when reporting Indian rental property on US tax returns. 

Common US Tax Mistakes NRIs Make With Indian Rental Property

The most common US tax mistakes that NRIs make with Indian rental property include:

• Despite being qualified as a U.S. person, not reporting Indian rental property on U.S. tax returns.
• Reporting the rent without converting it to U.S. dollars and skipping tax deductions.
• Not applying depreciation to Indian rental property income.
• Incorrectly claiming foreign tax credit.
• Not reporting capital gains generated from the sale of Indian rental property.
• Ignoring applicable FBAR reporting requirements for foreign financial accounts and Form 8938 reporting requirements for specified foreign financial assets.

These are common US tax mistakes NRIs should avoid when owning Indian rental property. Now, moving further, let's know the points you should consider when reporting Indian rental property income in the US with a quick checklist.

Indian Rental Property US Tax Compliance Checklist

Here is a quick checklist to consider before reporting Indian rental property income on the U.S. tax returns:

• For rental income (Schedule E)
• Summary of rent received
• Breakdown of expenses
• Loan interest certificate (if applicable)
• Depreciation schedule
• For Foreign Tax Credit (Form 1116)
• Form 16A/TDS certificate, where applicable
• Challans/proof of paid Indian taxes
• Supporting documents showing the Indian tax liability and the exchange-rate calculation used for U.S. tax reporting
• For rental property sale
• Purchase deed
• Sale deed
• Capital improvement receipts
• Details of transaction cost (registration, brokerage, and more)

So consider the mentioned quick checklist when imposing US tax on Indian rental income.

Final Thoughts

Lastly, the US tax on Indian rental income involves proper calculation, multiple form filings, and compliance with the stated requirements. The interaction among US tax rules, Indian tax obligations, and currency conversion creates several opportunities for errors. However, when implemented correctly, they may also allow you to claim eligible deductions, depreciation, and foreign tax credits, subject to applicable requirements and limitations.

Further, managing all this alone is quite complex, especially when you are doing it for the first time. Considering this, if you are looking for assistance to report rental income from Indian property in your US tax return, connect with Savetaxs. We have a team of cross-border tax experts who help you accurately report your rental income, calculate depreciation, claim FTC, and plan for your Indian property sale. Our experts guide you through every US tax requirement and ensure you take advantage of available deductions and credits.