Direct Tax Laws & International Taxation · Double Taxation Relief

Foreign Tax Credit: Computation and Limits

Updated 5 October 2026

Foreign tax credit is relief for tax you paid abroad on income that India also taxes. For each country, the credit is the lower of the foreign tax paid and the Indian tax on the doubly taxed income from that country. Add the credits and deduct them from your Indian tax. Excess foreign tax is lost.

Understand Foreign Tax Credit: Computation and Limits

When the same income is taxed in two countries, you pay twice. Foreign tax credit (FTC) removes this burden. India taxes the income, and you deduct the foreign tax you paid from your Indian tax bill. Relief is available under the tax treaty (DTAA) or under the unilateral relief provision in section 159 of the Income-tax Act, 2025.

In both routes the credit is the lower of the foreign tax paid and the Indian tax on the doubly taxed income. The Indian average rate is the Indian tax on total income divided by total income. The Indian tax on the doubly taxed income is that income multiplied by this rate. Under the rules, the tax on that income is worked out at the Indian average rate or the foreign average rate, whichever is lower. The foreign average rate is the foreign tax divided by that income. Using the lower rate gives the same credit as comparing the foreign tax with the tax at the Indian average rate. So do it as one lower-of comparison, not as two separate steps.

The routes differ in what comes first. Under a DTAA, the treaty terms apply first, including any cap on the rate at which the foreign country may tax the income. Only the foreign tax that the treaty allows is then compared with the Indian tax. Under section 159 and the related rules, the foreign tax actually paid is compared. Do not assume the two routes give the same result. Follow what the question says.

The key idea is that India will never refund the foreign tax. It only gives credit up to the Indian tax that falls on that same income. If the foreign country charges a higher rate than India, the extra foreign tax is your cost. If the foreign rate is lower, India collects the difference.

The income must be doubly taxed income. It is income that is taxed in India and also taxed in the foreign country. Income that India exempts, or income that the foreign country did not tax, does not qualify for credit.

Credit is worked out country-wise. For each country, the credit is the lower of the foreign tax and the Indian tax on that country's income. You cannot use the excess foreign tax of one country to cover a shortfall in another. You cannot carry forward unused foreign tax to a later year either.

The Indian tax on the total income and on the doubly taxed income is computed as the rules prescribe and as the question instructs. Do not assume that credit is allowed only against basic income-tax, or that surcharge and cess are computed on the tax after relief. Follow the question's instructions on how to treat them. The total credit can never exceed the Indian tax on the total income. Credit is not a deduction from income. It reduces tax, not total income.

Key rules to remember

Credit allowed (per country): FTC = lower of (A) foreign tax paid on the doubly taxed income (as limited by any treaty cap) and (B) Indian tax on that doubly taxed income; Apply this separately for each country. Do not pool.
Average rate of Indian tax: Average rate = Indian tax on total income (before FTC, computed as the question directs) ÷ Total income × 100; This is how the Indian tax on the doubly taxed income is determined. The rules use the lower of the Indian and foreign average rates, which gives the same credit as the lower-of test, so do not add a separate step. Follow the question's instructions on whether surcharge and cess are included in the Indian tax.
Indian tax on doubly taxed income: Doubly taxed income × Average rate of Indian tax; This is figure (B) in the lower-of test. If the foreign average rate is lower, the foreign tax is the lower figure and becomes the credit.
Tax payable after relief: Indian tax on total income − Total FTC (sum of country-wise credits); Total credit cannot exceed the Indian tax on total income, so the result cannot go below zero. Treat surcharge and cess as the question instructs. Unused foreign tax is neither refunded nor carried forward.
Conversion of foreign tax: Foreign tax in rupees = foreign tax in foreign currency × prescribed exchange rate; Use the rate prescribed in the rules, which is the telegraphic transfer buying rate of the State Bank of India on a specified date. Use the rate given in the question.

How to solve Foreign Tax Credit: Computation and Limits questions

Use this order for any FTC question. It keeps the working clean and earns step marks.

1List the foreign incomes country by country. Mark which are taxable in India. Drop any income that is exempt in India or not taxed abroad.
2Compute the total income in India, including the foreign income, and the Indian tax on it before relief, computed as the question directs.
3Find the average rate: Indian tax ÷ total income. Apply it to the doubly taxed income of each country to get the Indian tax on it.
4Convert the foreign tax paid into rupees at the rate given. Exclude interest, penalty or fee if the question shows them. If a treaty caps the foreign tax rate, limit the foreign tax to the capped amount.
5For each country, pick the lower of the foreign tax and the Indian tax on that country's income. This is the credit for it.
6Add the credits. Check that the total does not exceed the Indian tax on total income. Deduct it from that tax.
7State the excess foreign tax, if any, that is not allowed. Remind the examiner that it is not carried forward or refunded.
8Deal with surcharge and cess only as the question instructs. Show the final tax payable.

Quickest way: Country-wise two-column table

When to use it: Use this in the exam when the question has two or three countries and plenty of numbers.

Compute the average rate once at the top: Indian tax ÷ total income.
Draw a table with one row per country. Columns: income, foreign tax (₹), Indian tax at the average rate, credit (the lower).
Fill the Indian tax column by multiplying each income by the average rate.
Circle the lower number in each row. Add the circled numbers.
Subtract the total from the Indian tax on total income. Write one line on the excess foreign tax lost.

Common mistakes in Foreign Tax Credit: Computation and Limits

Giving credit for the full foreign tax paid
Students treat FTC as a refund of foreign tax.
Fix: Always run the lower-of test. Credit is capped at the Indian tax on the same income.
Pooling all foreign income and tax to get one credit
It looks quicker and gives one comparison.
Fix: Compute country by country. A shortfall in one country cannot be filled with excess foreign tax from another.
Applying the full Indian tax on total income to the foreign income
Students forget to scale the tax to the doubly taxed portion.
Fix: Use the average rate × doubly taxed income to get the Indian tax attributable to that income.
Including income that is exempt in India or not taxed abroad
Students see foreign income and assume it is doubly taxed.
Fix: Check both sides. Only income taxed in both countries qualifies.
Carrying forward excess foreign tax to the next year
Students confuse FTC with loss or MAT credit carry forward.
Fix: State clearly that excess foreign tax is lost. It is not refunded or carried forward.
Forgetting to convert foreign tax to rupees
Numbers are given in dollars or pounds and students compare them with rupee figures.
Fix: Convert first at the rate given, then compare.
Ignoring the treaty rate cap when relief is claimed under a DTAA
Students assume the whole foreign tax paid is eligible in every case.
Fix: Check the treaty first. Limit the foreign tax to what the treaty allows, then apply the lower-of test.

Worked examples

Example 1

Mr. Rao, a resident, has total income of ₹20,00,000 for the tax year, which includes ₹4,00,000 from Country X. This was also taxed in Country X, and he paid foreign tax of ₹1,20,000 there. His Indian income-tax on total income before relief, surcharge and cess is ₹5,00,000. Ignore surcharge and cess on the tax after relief. Compute the foreign tax credit and income-tax payable in India after relief.

Show the solution

Average rate of Indian tax = 5,00,000 ÷ 20,00,000 = 25%.
Indian tax on doubly taxed income = 4,00,000 × 25% = ₹1,00,000.
Foreign tax paid = ₹1,20,000.
Credit = lower of ₹1,20,000 and ₹1,00,000 = ₹1,00,000.
Income-tax payable in India after relief = 5,00,000 − 1,00,000 = ₹4,00,000.
Excess foreign tax = 1,20,000 − 1,00,000 = ₹20,000. It is not allowed, refunded or carried forward.

Answer: Foreign tax credit is ₹1,00,000 and income-tax payable in India after relief is ₹4,00,000. The excess foreign tax of ₹20,000 is lost.

Example 2

Ms. Nair, a resident, has total income of ₹30,00,000 including ₹6,00,000 from Country A and ₹4,00,000 from Country B. Both incomes are taxed in India. She paid ₹1,20,000 tax in Country A and ₹1,40,000 in Country B. Her Indian income-tax on total income before relief, surcharge and cess is ₹7,50,000. Ignore surcharge and cess on the tax after relief. Compute the credit and the income-tax payable in India after relief.

Show the solution

Average rate = 7,50,000 ÷ 30,00,000 = 25%.
Country A: Indian tax on ₹6,00,000 = ₹1,50,000. Foreign tax = ₹1,20,000. Credit = lower = ₹1,20,000. The foreign tax is lower than the Indian tax on A's income, so the whole foreign tax of ₹1,20,000 is allowed as credit.
Country B: Indian tax on ₹4,00,000 = ₹1,00,000. Foreign tax = ₹1,40,000. Credit = lower = ₹1,00,000.
Total credit = 1,20,000 + 1,00,000 = ₹2,20,000. This is within the Indian income-tax on total income of ₹7,50,000.
Income-tax payable in India after relief = 7,50,000 − 2,20,000 = ₹5,30,000.
The excess of ₹40,000 paid in Country B cannot be used against Country A's income. Country A's whole foreign tax is already allowed, and the credit for each country is the lower of the two figures for that country.

Answer: Total foreign tax credit is ₹2,20,000 (A ₹1,20,000 and B ₹1,00,000). Income-tax payable in India after relief is ₹5,30,000. The excess foreign tax of ₹40,000 in Country B is lost.

Exam tips

Write the lower-of comparison in a visible row for each country. Examiners give marks for the comparison, not just the result.
State the average rate clearly at the start, with the division shown.
Follow the question's instructions on surcharge and cess. Do not assume they are excluded from the credit or computed after relief.
If a treaty is mentioned, check whether it fixes a rate cap on the foreign tax. Cap the foreign tax first, then apply the lower-of test.
Show that total credit does not exceed the Indian tax on total income.
In theory questions, mention the documents or statements needed to claim relief and that the credit is not carried forward.

Practice questions from Double Taxation Relief

Foreign Tax Credit: Computation and Limits: frequently asked questions

How is foreign tax credit calculated in CA Final?

For each country, compare the foreign tax paid with the Indian tax on the income from that country. The lower figure is the credit. Add the credits and deduct the total from your Indian tax.

What happens if foreign tax is higher than Indian tax on that income?

You get credit only up to the Indian tax on that income. The excess foreign tax is not refunded and cannot be carried forward.

How do I treat income from more than one country?

Compute the credit separately for each country. Do not pool the incomes or the taxes, and do not use excess foreign tax from one country to cover a shortfall in another.

Is foreign tax credit a deduction from income?

No. It reduces the tax payable, not the total income. The foreign income is first included in total income and taxed in India. Then credit is given against the tax.