Unabsorbed Foreign Tax Credit should be allowed to be carried forward to subsequent years

What is Foreign Tax Credit (FTC)?

If a tax resident of a country (resident jurisdiction) earns income from another country (source jurisdiction) and tax has been deducted or paid on such income, the resident jurisdiction generally allows a credit of the tax so paid. This is referred to as FTC. Such credit can be either (i) full credit or (ii) partial credit. In case of partial credit, the amount of credit is limited to the tax that would have been payable if the foreign sourced income was taxed in the resident jurisdiction (i.e. at resident jurisdiction's tax rate).

Treatment of FTC:

The treatment of foreign tax credits varies globally based on the tax laws of individual countries. Many countries have provisions to avoid double taxation and provide relief for taxes paid in foreign jurisdictions. However, the specifics, limitations, and procedures for claiming these credits can differ significantly from one country to another. It's crucial to understand the tax laws of both the home country and the foreign jurisdiction to ensure proper compliance and utilization of any available foreign tax credits.

Basic conditions for granting FTC:

FTC is available to residents who earn income from foreign sources and have paid taxes on that income in a foreign country. The key conditions subject to which FTC is allowed include:

1. Eligibility: Only residents are eligible for the foreign tax credit.
2. Types of Income: The credit is applicable to foreign taxes paid on income that is also taxed in resident jurisdiction. This includes income from salary, business profits, and other sources.
3. Limits: The credit is limited to the lower of the foreign tax paid or the tax payable in home jurisdiction on that foreign income. However, there are overall ceilings to prevent abuse.
4. Documentation: Taxpayers need to provide proof of foreign tax payment, such as a tax payment certificate from the foreign tax authority.
5. Unilateral Relief: Some countries (e.g. India) offers unilateral relief for foreign taxes paid, even if there is no specific agreement for avoidance of double taxation with that particular country.

It is important for the tax payer to carefully review the specific provisions and requirements under Indian tax laws and, if needed, seek guidance from tax professionals to ensure proper compliance and utilization of foreign tax credits.

A case for carrying forward unabsorbed FTC:

Since the resident jurisdiction taxes foreign sourced income, the FTC may remain unabsorbed / unutilized if the taxable income is NIL or negative or is insufficient to absorb the full FTC. In many tax jurisdictions, unused foreign tax credits can be carried forward to future years. If a taxpayer has more foreign tax credits than they can use in a given tax year due to limitations or insufficient tax liability, the excess credits can typically be carried forward to offset income tax in subsequent years. Some examples are as follows:

United States: The U.S. allows the carryforward of unused foreign tax credits for up to 10 years.

Canada: Canada allows the carryforward of unused FTC for 10 years.

United Kingdom: The UK typically allows the carryforward of unused FTC, but specific rules apply.

Australia: Australia allows the carryforward of unused FTC for an indefinite period.

Germany: Germany allows the carryforward of FTC for one year.

South Africa: South Africa allows carryforward of FTC for 7 years.

On the contrary, France, Italy Japan, South Korea and India do not allow carry forward of unutilized FTC. This is a very unfair and unpleasant situation especially in the case of startups or companies having a gestation period before they start making profits or in a certain year if there is loss. In a globalized economy, double taxation of income should be avoided. Also, based on the principle of equity and fair play, unutilized FTC should be allowed to be carried forward at least for a period for which business loss (NOL) is allowed to be carried forward. Policymakers should address this anomaly so that businesses do not suffer on account of juridical double taxation.