Domestic Tax Issues for Non-resident Aliens

Transcription

1 Domestic Tax Issues for Non-resident Aliens Presented by Monica Haven, EA, JD, LLM

2 What we ll cover Are Non-resident Aliens from Mars? Where is home for Dual Status Aliens? How do we tax extraterrestrial income? Do Space Treaties give us room? How on earth do aliens file?! Count-down to blast-off There is light at the end of the black hole! Is my account at First Galaxy Bank really foreign?

3 Why does it matter? US Citizens & Resident Aliens taxed on worldwide income Non-resident Aliens taxed only on US-source income

4 Is immigration status the same as residency? No these are separate determinations Individual in US on temporary visa may be a: Resident Alien Non-resident Alien Dual-status Non-resident treated as a Resident

5 Must file US tax returns as though they were US citizens/residents Illegal Aliens Must use an Individual Taxpayer ID Number (use Form W-7)

6 Non-Resident Alien (NRA) Alien is not a US citizen by birth or naturalization Non-resident does not have Green Card and has not been present in the US for requisite time

7 Green Card Issued to permanent residents by US Citizenship & Immigration Services (USCIS) [formerly INS; renamed in 2003 when integrated into Dept. Homeland Security] Permanent unless administratively revoked or voluntarily (but procedurally) abandoned

8 Substantial Presence Test (SPT) Must be physically present in US (states & D.C. but not territories) for 31 days during current tax year AND 183 days in most recent 3-year period: All days in current year PLUS 1/3 of days in previous year PLUS 1/6 of days in year prior to previous EXCEPTION: If individual maintains a foreign tax home and a closer connection to one country

9 Example of Day Count Taxpayer was physically present in US for 120 days in each year 2008, 2009 & days in 2010 plus 40 days in 2009 (1/3 of 120) plus 20 days in 2008 (1/6 of 120) Total number of counted days = 180 Does not meet SPT

10 Days that are not counted If individual regularly commutes to work in US from Canada or Mexico is in the US for < 24 hours due to international transit is a crew member of a foreign vessel is unable to leave the US due to a medical condition is an exempt individual

11 Exempt individuals include Foreign government employees & diplomats if only temporary stay Teachers on J or Q visas unless > 2 years Students on F, J, M or Q visas unless > 5 years Professional athletes competing for charity Exempt individuals are subject to the SPT for all periods before and after they hold exempt status

12 Exempt Visas Academic F-1 Students F-2 Dependents of F-1 Type of Visa Exchange Visitors J-1 Visitors incl. exchange students & scholars J-2 Dependents of J-1 Work Restrictions Work authorized under very limited circumstances No work authorization Work authorized under certain circumstances Work authorized under certain circumstances Vocational and Language Students M-1 Vocational Student M-2 Dependents of M-1 Work authorized under certain circumstances No work authorization Cultural Exchange Visitors Q-1 International Cultural Exchange Work authorized for the sponsoring employer

13 Example of Exempt Status A foreign student with an F-1 Visa arrived in the US on January 1st, 2006 He is considered an NRA for 2006, 2007, 2008, 2009, and 2010 (His wife not a student came with him on an F-2 visa and is also an NRA through 2010) Both husband and wife will be considered residents in 2011, regardless of their academic status, since they have been in US > 5 years

14 Dual Status Aliens (a.k.a. Part-year Residents) Individuals who are residents for one part of the year and nonresidents for another Occurs if individual enters US and passes SPT in year of arrival (must enter before July 1 st ) leaves US after passing SPT in year of departure loses exempt status during the year

15 Dual Status Elections (IRC 6013 ) 1. Back-date residency if: present in US 31 consecutive days in previous year AND meets SPT for current year 2. Treat as resident if: NRA at year-start and resident alien or citizen at year-end AND married at year-end to a US citizen or resident alien who agrees to file joint return Best used if US arrival on/after 7/2 & unable to qualify for SPT in prior year OR taxpayer is dual-status but wants to be treated as resident This is an once-in-a-lifetime election which cannot be made again if remarried

16 Examples of Residency Election Husband/Wife are NRAs at year-start but Husband becomes resident in June. Couple may elect to be treated as resident aliens. They may file jointly or separately in later years. Husband is a high-income earner US resident whose wife lives abroad and has no income. Husband can file separately or elect to file jointly. Wife and Son live permanently in the US. Husband joins them mid-year. They may elect to file jointly or Wife may file separately and claim Head of Household status (Wife is considered unmarried since Husband is an NRA). NRA Husband cannot file HOH

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18 Tax Treatment of NRA s Income Taxed only on US-source (not worldwide) income Examples of income not considered US-source: Interest paid by US corp if 80% of gross income is derived from outside US Interest if funds are deposited in a foreign branch of US bank Personal service compensation received for work performed outside US Gain on sale of personal property if taxpayer s tax home is outside US

19 Calculating US-source Income NRA is a professional hockey player (goalie) with a US hockey club who received $98,500 for 242 days of play during the year Goalie played 194 days in US Goalie played 48 days in Canada US-source income = ( days) x $98,500 = $78,963 Use straight pro-ration

20 If US-source, is it effectively connected? Effectively connected if derived from US trade or business Can be reduced by personal exemptions & itemized deductions Taxed at graduated rates Not effectively connected Cannot be reduced by personal exemptions & itemized deductions Subject to 30% flat tax (unless lower treaty rate applies) NOTE: Capital Gains are not effectively connected.

21 Effectively vs. Not Effectively * Qualified scholarship if (1) Student is a degree candidate and (2) payment is received for tuition, books or supplies [Excluded income must be reported on Form 1040NR, line31and statement must be attached to return

22 Scholarships Generally taxable is received from US payer Tax-exempt if qualified Degree candidate Eligible institution Received for tuition, books & supplies Report on Form 1040NR, Line 12 (exclude on Line 31) Some grants excluded by treaty US payer No payment for services Report on Form 1040NR, Line 22 & Schedule OI

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24 Partnership Income Foreign partners in US partnership must file Form 1040NR on allocated share of effectively connected income Foreign partnerships with effectively connected income must file Form 1065 even operating from abroad, unless US source income $20K & < 1% of income allocable to US partners No US partners & all withholdings done at source

25 Gambling Winnings Considered not effectively connected Subject to 30% flat tax on gross income (cannot be reduced by gambling losses) EXCEPT: Canadian residents may file Form 1 Exempt gambling includes blackjack, baccarat, craps, roulette, big 6-Wheel, and certain horse- and dogracing winnings Gambling winnings may also be exempt under tax treaties

26 Treatment of Rental Income NRA is taxed on the gross rental revenue Considered not effectively connected Cannot be reduced by deductions for maintenance and management But, NRA may elect to treat the rental income as effectively connected under 871(d) Can offset income by allowable rental expenses Taxed at graduated rates on net income

27 Similar to US citizens Tax Treatment of NRA s Adjustments May contribute to IRAs & other qualified retirement plans May claim INcoming moving expenses but not OUTgoing May deduct student loan interest May deduct penalties on early withdrawal of savings if interest income is effectively connected

28 Unlike US citizens Tax Treatment of NRA s Deductions NRA may not claim Standard Deduction Itemized Deductions must be related to effectively connected income CAN deduct: State/local & property taxes, charitable contributions, casualty losses, and unreimbursed employee expenses CANNOT deduct: Medical expenses and mortgage interest Dual-status taxpayer also cannot use Standard Deduction but may use all itemized deductions

29 Tax Treatment of NRA s Tax Credits Name of Credit Same as US citizen Must file MFJ w/ US spouse Special Rules Adoption Child & Dep. Care Child Tax Dependent must be US citizen or resident Prior Year Min. Tax Earned Income Education Energy Foreign Tax Only on effectively connected income Retirement Savings

30 NRA Filing Status S, MFS or QW SPECIAL EXCEPTION: Married NRA may file S if resident of Canada, Mexico, South Korea or if married to US national (resident of American Samoa or Northern Mariana Islands ) AND has not lived with spouse for the last six months of the tax year MFJ if NRA is married to US citizen/resident & elects 6013(g) Cannot file HOH Resident spouse may file HOH if married to an NRA who is not treated as a spouse for tax purposes

31 NRA Personal Exemptions May claim PE for self (not spouse) SPECIAL EXCEPTION: Residents of Canada, Mexico, American Samoa & Northern Mariana Islands may claim PE for spouse without USsource income May claim PE for qualified dependents ITIN or SSN required for all exemptions claimed

32 Individual Taxpayer Identification Number Submit Form W-7 with: Proof of identity Tax return Mail to: Internal Revenue Service Austin Service Center ITIN Operation P.O. Box Austin, TX Wait 6 weeks, the call (800) for assistance

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34 How many PE can NRA claim? Example 1: NRA exchange student from Russia lives in US with wife (no income) & 2 kids 1 PE Example 2: NRA exchange student from India lives in US with wife (no income) & 2 kids 2 PE due to special exception for India Example 3: NRA student from Canada lives in US - wife (no income) & 2 kids live in Canada 4 PE due to special rule for Canadians & Mexicans

35 Which form? NRA must use Form 1040NR Dual-status must use: 1040 if immigrant becomes resident by 12/ NR if taxpayer forfeits residency by 12/31 NRA without wage income can delay filing until June 15 th (can also defer ES # 1 payment until June 15 th but must then pay combined 1 st & 2 nd ES liability)

36 Effect of Tax Treaties (Refer to IRS Publication 901 AND legal counsel) Treaties generally reduce tax liability of NRA (not US citizen/resident) & are often reciprocal Treaty-based positions must be disclosed on Form $1,000 failure to file penalty File tax return even if treaty eliminates all tax liability Green Card holder who elects to be treated as non-resident under tax treaty is still subject to FBAR filing requirements! Not all states conform to federal tax treatment as per international treaties CA, for example, does not tax IRA distributions of non-resident Non-resident if temporary or transitory (e.g., vacation, passing through, completing a transaction)

37 Example of Tax Treatment under Treaty NRA is resident of foreign country that has tax treaty with US earnings from US sources include $24,100 compensation for personal services (on which tax is not limited by treaty) and $1,400 dividends (on which tax is limited to 15% by treaty) Personal service compensation $24,100 Less: Personal exemption - 3,650 Taxable income $20,450 Tax as per tax table for Single $2,653 Plus: Tax on gross dividends Total Tax Due $2,863

38 Special Rules for NRA Calendar year: If different tax year used abroad, NRA must allocate income/expenses Foreign Currency: If income received in foreign currency, NRA must convert to US dollars at prevailing rate on date received Depreciation: Use SL (over 40 years) for foreign real property; use 12-year life for personal property held abroad. Capital Gains: May be taxed on unrealized gains due to exchange rates in effect on dates of purchase & sale

39 Additional Disclosures Form 3520 for gifts & inheritances received from abroad > $100,000 Forms 5471, 8858, 8865 and for owners of foreign entities, if applicable Form 926 for certain transfers of property to foreign corporations

40 Surtax on Investment Income Does not apply to NRAs US citizens & residents married to NRA must file MFS MAGI threshold reduced from $200K to $125K Unless 6013 election made to file jointly

41 Tax Withholdings for NRA Pension Income Automatic 30% withholding (Form W-8BEN) Real Estate Transactions Automatic 10% withholding on gross proceeds Payroll Subject to income and FICA tax withholdings unless Totalization Agreement in effect (Form W-4) Self-employed NRA not subject to SE Tax Although NRA may be required to pay into system, he may not be able to collect from SSA

42 Totalization Agreements Employee pays Social Security tax to the country in which he is working EXCEPT: If he normally works abroad, but is sent to the US to work temporarily, he will pay Social Security taxes only to his home country Agreements with 24 countries currently in effect: Australia, Austria, Belgium, Canada, Chile, Czech Republic, Denmark, Finland, France, Germany, Greece, Ireland, Italy, Japan, Luxembourg, the Netherlands, Norway, Poland, Portugal, South Korea, Spain, Sweden, Switzerland, United Kingdom

43 Example of Self-employment Tax Resident of Argentina published a book there and later became a US resident alien Foreign royalties must now be reported on US return as self-employment income in the year received, subject to SE Tax

44 State Rules for NRAs Different from state to state CA (as an example): Everyone present regardless of time is a resident Must file Form 540 if full year; 540NR if part-year Non-resident withholding (7%) on CA-source income, incl. compensation for services, rents/royalties, estate & trust distributions, lottery winnings, partnership income Mobile Workforce State Income Tax Fairness and Simplification Act of 2011 introduced (but not yet enacted) to allow all states to tax wages of non-residents working in state for > 30 days/year

45 Estate Tax for the NRA Domicile (intent) Residency (Green Card or SPT) US-domiciled NRA is subject to US estate tax (use Form 706-NA) Gross estate includes all tangible & intangible property in US Deduction for administrative expenses limited by ratio of US to worldwide gross estate Unlimited marital deduction only if the surviving spouse is US citizen, if assets are left to qualified domestic trust, or if treaty provisions stipulate $60,000 (not $5 million) estate exclusion Estates of US citizens permanently living abroad with assets located entirely abroad foreign estates subject to US tax only on US-source or effectively connected income

46 NRA Estate Tax Returns filed in 2010 [IRS, Statistics of Income Division, August 2011] Tax status, size of U.S. gross estate All returns, nontaxable and taxable Less than $100,000 [10] $100,000 under $500,000 $500,000 or more Nontaxable returns Taxable returns Total gross estate, U.S. tax purposes Number Amount ,785, ,389, ,464, ,931, ,329, ,455,507

47 Gift Tax for the NRA Subject to tax on gifts of US-situated real and tangible personal property Transfers of intangibles (stock & securities) are exempt from taxation

48 Leaving the US Resident and non-resident aliens must pay all tax due before departure & obtain tax clearance document File Forms 1040C if reporting taxable income File Form 2063 if no taxable income to report Must still file requisite income tax returns (Forms 1040 or 1040NR)

49 Aliens Exempt from Foreign government diplomats Departure Filing Employees of intl. organizations with tax-exempt wages & no other USsource income Students with no US-source income Vocational students with only interest income that is not effectively connected NRA only temporarily in US without taxable income Residents of Canada/Mexico who commute to US & earn US wages subject to withholding

50 Summary of Tax Treatment US Citizen & Resident Non-resident Alien (NRA) Dual-Status Alien Illegal Alien Lives in US? Yes No Part-Year Yes Which form? NR 1040 (resident 12/31) 1040NR (non-res 12/31 Taxable Inc? Worldwide US-source US-source while NRA Worldwide while Resident Tax Rules All familiar rules apply MFJ if 6013(g) elected No pers xmptns INcoming moving exp Cannot claim std ded Only some item ded MFJ if full year residence or 6013(g) elected Cannot file HOH Cannot claim std ded Can claim all item ded 1040 Worldwide All familiar rules apply

51 Monica Haven, E.A., J.D., L.L.M. (310) PHONE (310) FAX WEBSITE: The information contained herein is for educational use only and should not be construed as tax, financial, or legal advice. Each individual s situation is unique and may require specialized treatment. It is, therefore, imperative that you consult with tax and legal professionals prior to implementation of any strategies discussed.