Interest Tax Rate Between India and Indonesia Under DTAA

Quick answer: Article 11 of the India-Indonesia DTAA, in force from 5 February 2016, caps withholding tax on interest at 10% of the gross amount — half of India's 20% domestic rate under section 207(1) (Table, Sl. No. 3) of the Income-tax Act, 2025 (section 115A of the Income-tax Act, 1961). Interest derived and beneficially owned by the Government, RBI, EXIM Bank of India, National Housing Bank, Bank Indonesia, or specified Indonesian state institutions is fully exempt under Article 11(3) — but ordinary commercial banks do not qualify for that exemption and pay the standard 10%. The treaty is a Covered Tax Agreement, so the MLI Principal Purpose Test also applies.

Key takeaways:

• General interest rate capped at 10% under Article 11(2), versus 20% domestically
• Full exemption for specified government and institutional recipients under Article 11(3) — recipient-side test only
• No exemption tier for commercial banks or ordinary financial institutions
• Penalty charges for late payment are excluded from the definition of interest
• MLI Principal Purpose Test applies from 1 April 2021 (India-source) / 1 January 2021 (Indonesia-source)

Interest Tax Rate Between India and Indonesia

The India-Indonesia Double Taxation Avoidance Agreement (DTAA), signed on 27 July 2012 in New Delhi and in force from 5 February 2016, governs the taxation of interest income flowing between the two countries. Under Article 11, the maximum withholding tax India may charge on interest paid to an Indonesian beneficial owner is 10% of the gross amount, compared to the domestic rate of 20% under section 207(1) (Table, Sl. No. 3) of the Income-tax Act, 2025 (section 115A of the Income-tax Act, 1961).

Cross-border lending between India and Indonesia spans trade finance for commodity imports, project finance for infrastructure, and inter-company loans within multinational groups operating in both countries. The treaty's interest article gives lenders and borrowers on both sides certainty over the maximum tax cost, while carving out a full exemption for sovereign and specified institutional lending. This treaty replaced the earlier 1987 agreement between the two countries and applied its interest provisions in India from fiscal years beginning on or after 1 April 2017, and in Indonesia to amounts paid or credited from 1 January 2017. For the full treaty picture, see our India-Indonesia DTAA complete guide and withholding tax rates page.

Beacon Filing's FEMA and RBI compliance team assists Indian borrowers and Indonesian lenders in structuring cross-border loans, including external commercial borrowings, in line with both the treaty and India's foreign-exchange regulations.

Treaty Rate vs Domestic Rate: Detailed Comparison

Domestic Rate (Without DTAA)

Under section 207(1) (Table, Sl. No. 3) of the Income-tax Act, 2025, interest paid to a non-resident on foreign-currency borrowing is taxed at 20% (plus surcharge and cess) absent treaty protection. Rupee-denominated interest paid to a non-resident falls outside this foreign-currency-debt-scoped entry and is instead withheld at the rates in force — 30% for non-corporate recipients and 35% for foreign companies.

DTAA Rate (With Treaty)

Article 11(2) caps the source-state tax at 10% of the gross amount of interest, provided the Indonesian recipient is the beneficial owner. This flat cap applies uniformly to loans, bonds, debentures and other debt-claims, whether the interest rate is fixed or floating, secured or unsecured.

Full Exemption for Specified Recipients

Article 11(3) goes further and exempts interest entirely where it is derived and beneficially owned by (a) the Government, a political sub-division or local authority of the other state; (b) on the Indian side, the Reserve Bank of India, the Export-Import Bank of India, and the National Housing Bank, or on the Indonesian side, Bank Indonesia (the central bank), Pusat Investasi Pemerintah (the Centre for Government Investment) and Lembaga Pembiayaan Ekspor Indonesia (the Indonesia Eximbank); or (c) a statutory body or any institution wholly owned by the Government, as agreed from time to time between the two competent authorities. This is a recipient-side test only — there is no equivalent exemption for a payer that happens to be a government body, and no separate tier for commercial banks or other financial institutions, which are taxed at the standard 10%.

Effective Tax Savings

A commercial loan of INR 20 crore from an Indonesian lender at 8% annual interest generates INR 1.60 crore in interest each year. Domestic withholding at 20% would cost INR 32 lakh; the treaty rate of 10% reduces this to INR 16 lakh — an annual saving of INR 16 lakh that directly improves the project's debt-servicing economics.

Who Qualifies for the Reduced Rate

Beneficial Ownership Requirement

Article 11(2) limits the reduced rate to the beneficial owner of the interest — the party with an unrestricted right to use the income, not a mere collection agent or back-to-back conduit for a third-country lender.

Tax Residency

The Indonesian lender must be a tax resident of Indonesia under Article 4 and must obtain a Certificate of Domicile from the Directorate General of Taxes (DJP) under section 159(8) of the Income-tax Act, 2025 (section 90(4) of the Income-tax Act, 1961).

Anti-Abuse: MLI Principal Purpose Test

The India-Indonesia DTAA is a Covered Tax Agreement under the Multilateral Instrument — India's MLI ratification took effect from 1 October 2019, and Indonesia's from 1 August 2020 following domestic ratification under Presidential Regulation 77/2019. The Principal Purpose Test applies to withholding taxes on India-source interest from 1 April 2021 and on Indonesia-source interest from 1 January 2021, and can deny the treaty rate to arrangements — such as back-to-back loans routed through Indonesia purely to access the 10% cap — set up mainly for that purpose.

No PE Attribution

Under Article 11(5), the reduced rate and the Article 11(3) exemptions do not apply if the debt-claim generating the interest is effectively connected with a permanent establishment the Indonesian lender maintains in India. In that case, the interest is taxed as business profits under Article 7.

Interest-Specific Treaty Provisions Under Article 11

Definition of Interest

The treaty's definition covers income from debt-claims of every kind, whether or not secured by mortgage. Article 11(4) expressly provides that penalty charges for late payment are not regarded as interest for treaty purposes.

Article 11(1): Residence State Taxation

Interest arising in one state and paid to a resident of the other may be taxed in that other (residence) state, establishing the primary taxing right.

Article 11(2): Source State Cap

The source state may also tax the interest, but the tax on the beneficial owner "shall not exceed 10% (ten per cent) of the gross amount" — the core rate-capping mechanism.

Article 11(3): Government and Institutional Exemption

As detailed above, this paragraph grants a full exemption to specified sovereign and institutional recipients on both sides, agreed by name in the treaty text.

Article 11(5): PE Exception

Interest effectively connected with a permanent establishment in the source state falls out of Article 11 and into Article 7 (business profits) instead.

Article 11(6): Source Rule

Interest is deemed to arise in a Contracting State when the payer is a resident of that state, or — where the payer has a PE with which the debt was incurred — in the state where that PE is situated.

Article 11(7): Arm's Length Rule

Where a special relationship between payer and recipient inflates the interest above an arm's-length amount, only the arm's-length portion qualifies for the 10% cap; the excess is taxed under each state's domestic law, subject to the treaty's other provisions.

Documentation Required to Claim the Reduced Rate

Certificate of Domicile (Tax Residency Certificate)

A Certificate of Domicile from the DJP confirming Indonesian tax residency for the relevant year is the foundational document, required under section 159(8) of the Income-tax Act, 2025 (section 90(4) of the Income-tax Act, 1961).

Form 41 (formerly Form 10F)

If the Certificate of Domicile omits any prescribed particular, Form 41 must be filed electronically with the Indian tax authorities, capturing the lender's name, status, nationality, Indonesian NPWP, and period of residence.

Self-Declaration and Loan Documentation

A self-declaration of beneficial ownership and no-PE status, together with the loan agreement and interest computation, should be retained by the Indian borrower, particularly for related-party financing subject to transfer pricing scrutiny.

Withholding Procedure for Indian Payers

Section 393(2): TDS Obligation

Under section 393(2) of the Income-tax Act, 2025 (Table, Sl. No. 17; section 195 of the Income-tax Act, 1961), the Indian borrower must deduct tax at source at the time of credit or payment, whichever is earlier, applying 10% where documentation is complete or 20% where it is not.

Forms 145 and 146

Before remitting interest to Indonesia, the payer must file Form 145 electronically; for amounts exceeding INR 5 lakh, a Chartered Accountant must additionally certify Form 146.

Section 395(1): Lower Withholding Certificate

An Indonesian lender expecting a lower actual liability can apply to the Assessing Officer under section 395(1) of the Income-tax Act, 2025 (section 197 of the Income-tax Act, 1961) for a certificate authorising reduced or nil withholding.

FEMA and ECB Compliance

Interest on external commercial borrowings from Indonesian lenders must also comply with the Foreign Exchange Management (Borrowing and Lending) Regulations, 2018, as most recently amended, including reporting through Form ECB-2 filed with the RBI through the designated AD Category-I bank.

Compliance Notes and Common Issues

Commercial Banks Are Not Exempt

A recurring misunderstanding is treating any Indonesian bank as automatically exempt under Article 11(3). The exemption names specific institutions — Bank Indonesia, Pusat Investasi Pemerintah and Lembaga Pembiayaan Ekspor Indonesia — and ordinary commercial banks, even state-owned ones not on that list, remain subject to the standard 10% rate.

Back-to-Back Lending Structures

Where an Indonesian entity borrows from a third-country lender and on-lends to India on materially the same terms, without bearing real economic risk, Indian tax authorities can challenge the beneficial-ownership claim and, since the treaty is a Covered Tax Agreement, invoke the MLI Principal Purpose Test as an alternative ground.

No MFN Clause

The treaty and its Protocol contain no most-favoured-nation clause, so interest rate concessions negotiated in later Indian treaties with other countries cannot be imported into the India-Indonesia DTAA.

Practical Examples and Calculations

Example 1: Trade Finance Loan

An Indonesian commercial bank extends a working-capital facility of INR 15 crore to an Indian importer at 9% annual interest (INR 1.35 crore).

• Without DTAA: TDS at 20% = INR 27 lakh.
• With DTAA: TDS at 10% = INR 13.5 lakh.
• Saving: INR 13.5 lakh per year — the bank is not exempt, as it is not one of the named Article 11(3) institutions.

Example 2: Government-Guaranteed Development Loan

Lembaga Pembiayaan Ekspor Indonesia (Indonesia Eximbank) provides export-credit financing to an Indian buyer. Under Article 11(3)(b), interest on this facility is fully exempt from Indian withholding tax, making the effective rate 0%.

Example 3: Related-Party Loan Above Arm's Length

An Indonesian parent lends INR 30 crore to its Indian subsidiary at 11% interest (INR 3.3 crore annually). The transfer pricing officer determines the arm's-length rate is 8% (INR 2.4 crore). Under Article 11(7), the 10% treaty rate applies only to the arm's-length INR 2.4 crore; the excess INR 0.9 crore is taxed under domestic law and may be disallowed as a deduction for the Indian subsidiary.

Frequently Asked Questions

What is the interest tax rate under the India-Indonesia DTAA?

Under Article 11(2), interest arising in India and paid to an Indonesian beneficial owner is capped at 10% of the gross amount, versus India's domestic rate of 20% under section 207(1) (Table, Sl. No. 3) of the Income-tax Act, 2025 (section 115A of the Income-tax Act, 1961). Interest paid to specified government bodies is fully exempt under Article 11(3).

Which institutions qualify for the 0% interest exemption?

Article 11(3) exempts interest derived and beneficially owned by the Government, a political sub-division or local authority of either state, or by the Reserve Bank of India, EXIM Bank of India and National Housing Bank on the Indian side, and Bank Indonesia, Pusat Investasi Pemerintah and Lembaga Pembiayaan Ekspor Indonesia on the Indonesian side.

Are commercial banks exempt from withholding tax on interest?

No. The Article 11(3) exemption is recipient-side only and names specific government bodies and institutions — commercial banks and other financial institutions are not on that list. Interest paid to an ordinary Indonesian bank is taxed at the standard 10% rate under Article 11(2), not exempt.

Does the MLI affect interest taxation under this treaty?

Yes. The India-Indonesia DTAA is a Covered Tax Agreement under the Multilateral Instrument, so the Principal Purpose Test applies to interest payments from 1 April 2021 for India-source amounts and 1 January 2021 for Indonesia-source amounts, on top of the treaty's own beneficial-ownership requirement.

Are penalty charges for late payment treated as interest?

No. Article 11(4) expressly excludes penalty charges for late payment from the definition of interest, so such charges do not benefit from the 10% cap or the Article 11(3) exemptions and are instead taxed under the applicable general provisions of the treaty and domestic law.

What documentation does an Indonesian lender need to claim the 10% rate?

A Certificate of Domicile from Indonesia's Directorate General of Taxes, Form 41 (formerly Form 10F) filed electronically, and a self-declaration of beneficial ownership and no-PE status. The Indian payer must also file Form 145 electronically, plus Form 146 for remittances exceeding INR 5 lakh.