Credit method – Country of residence retains the right to tax the foreign income but credit is allowed for the taxes paid in the source state. India follows credit method for most of its tax treaties. The loss of revenue in this method to the residence country is lower vis-a-vis the other menthods.
- Full credit method –
Country of residence allows full credit for taxes paid in the source country in respect of income taxed in the country of residence. India does not follow full credit method for giving credit to its residents except in case of Namibia DTAA where full credit is provided in respect of taxes paid in Namibia. Relevant clause of India-Nambia DTAA reads as under –
Where a resident of India derives income or capital gains from Namibia, which, in accordance with the provisions of this Convention may be taxed in Namibia, then India shall allow as a deduction from the tax on the income of that resident an amount equal to the tax on income or capital gains paid in Namibia, whether directly or by deduction.
- Ordinary credit method –
Country of residence allows a deduction of the total taxes paid in the source Country, But, maximum deduction is restricted to the extent the taxes that would have been paid on such income in country of residence. Hence, if any excess taxes has been paid in the country of source (i.e. over and above taxes paid in country of residence), the excess taxes shall not be refunded in the country of residence. Relevant extract from India-USA DTAA reads as under –
2 (a) Where a resident of India derives income which, in accordance with the provisions of this Convention, may be taxed in the United States, India shall allow as a deduction from the tax on the income of that resident an amount equal to the income-tax paid in the United States, whether directly or by deduction. Such deduction shall not, however, exceed that part of the income-tax (as computed before the deduction is given) which is attributable to the income which may be taxed in the United States.
taxdemystification.com 