US Taxation for Expatriates, US Passport/ Green Card Holders and Recent Tax Law Changes American Chamber of Commerce Bahrain Alex P Jones 23 February 2016 Agenda Deloitte US High Net Worth Team US Approach to Worldwide Tax US Income Tax System US Estate and Gift Tax System Foreign Trusts Additional Reporting Obligations Streamlined Reporting Regime Non-US Nationals Acquiring US Real Estate Transactions Corporate Considerations Recent Developments 2 1
Deloitte US High Net Worth Team Established in 1999 out of a traditional expatriate tax practice High net worth individuals with US tax connections Individuals who have settled outside the US for a long period who require more extensive cross-border tax planning Specialise in serving the independently wealthy, as well as senior executives and business leaders Particular expertise in highly compensated individuals, entrepreneurs, US law firms, private equity/hedge/real estate funds, and creative talent Around 45 professionals in London/Geneva (plus 4 on secondment to the US) 3 US Approach to Worldwide Taxation 4 2
US Approach to Worldwide Taxation Worldwide Taxation In General Generally, the United States taxes a US individual or corporation on all of their domestic and foreign source income (i.e. worldwide taxation) Under a worldwide taxation regime, the possibility of double taxation on the same income exists, but also different treatment of certain foreign income or investments In order to prevent double taxation, the United States generally provides a foreign tax credit (FTC) for foreign income taxes paid by the taxpayer Individuals may also qualify for a Foreign Earned Income Exclusion, plus a Foreign Housing Exclusion/Deduction from a portion of their earnings. Note certain qualification tests must be met 5 US Approach to Worldwide Taxation (cont d) Deferral - Overview US corporations are generally not taxed on business income of their foreign subsidiary corporations until the earnings are either repatriated or gains are recognized from the sale of shares by the US shareholder (commonly referred to as Deferral ) Same rules also apply to US individuals holding interests in non-us businesses However, certain types of income in controlled foreign companies are not eligible for deferral and are deemed to be distributed each year Certain interests in foreign companies may be deemed PFICs; and subject to a different anti-deferral tax regime (see later) 6 AmCham- US Tax Session 23 02 16 3
US Income Tax System 7 Who is a US Tax Resident? A US tax resident is subject to US Federal tax on worldwide income A US tax resident is: - US citizen - US Greencard Holder (lawful permanent resident) - Someone substantially present in the US (3 year test) Someone born in the US Who is a US Citizen? A child of a US citizen, if born outside of the US: - If born after 14/11/86, so long as the US parent lived in the US 5 years (2 after age 14) - If born before 15/11/86, so long as the US parent lived in the US 10 years (5 after age 14) 8 4
US Income Taxation of US Residents Worldwide Taxation US residents (citizens, green card holders and those who are substantially present) are taxable on worldwide income Current position for 2016 Tax rates up to 39.6% on ordinary income Long-term capital gains (on assets held for more than one year) are taxed at 20%/15% Qualified dividends are taxed at 20% - (but what about dividends from foreign companies?) Net Investment Income Tax of 3.8% (not eligible for foreign tax credits) Foreign funds and investments often trigger penal taxation 9 US Income Taxation of Non-Resident Aliens Source-based approach to US Taxation Generally tax only US-source income Income effectively connected (ECI) to a US trade or business Foreign persons are subject to US taxation on income effectively connected to the US through their presence or regular business activity Taxation on a net basis (after deductions) at graduated rates Withholding at flat 39.6% rate US source non-business income (FDAP) - Fixed, Determinable, Annual or Periodic Investment income such as interest, dividends, rents and royalties Subject to tax on a gross basis at a 30% withholding rate absent a specific statutory exception or a treaty provision Several exceptions (portfolio interest, capital gains) Sale of US real estate (FIRPTA) 10% withholding on proceeds possible State Tax withholding also 10 5
US Income Taxation of Non-Resident Aliens 2016 Individual and Transfer Taxes Provision In effect as of January 2016 Ordinary income rates Capital gains and dividends rates Health care reform increases 39.6% for singles earing more than $415,050 ($466,950 for couples) 10% first $9,275 (MFJ $18,550) 15% up to $37,650 (MFJ $75,300) 25% up to $91,150 (MFJ $151,900) 28% up to $190,150 (MFJ $231,450) 33% up to $413,050 (MFJ $413,350) 35% up to $415,050 (MFJ $466,950) 20% for singles earing more than $415,050 ($466,950 for couples) 0% if in 10%-15% brackets 15% if in 139.6% bracket 0.9% HI tax on ordinary income over $200,000 for singles ($250,000 for couples) 38% tax on investment income over 200,000 for singles ( 25,000 for couples) 11 US Income Taxation of Non-Resident Aliens 2016 Individual and Transfer Taxes Provision In effect as of January 2016 Standard deductions and exemptions Foreign earned income and housing cost exemption $6,300 for singles and married filing separately $12,600 MFJ $9,250 Head of household $4,057 exemption FEIE $101,300 Housing exclusion/deduction Normal maximum $30,390 less $16,208 Dubai $57,174 / Abu Dhabi $49,687 PEP and Pease limitations AMT relief: inflation-indexed exemptions Marriage penalty relief Estate and gift tax parameters Singles with AGI above $259,400 ($311,300 for couples) $53,900 exemption (single filers) $83,800 exemption (joint filers) Expanded bracket and standard deduction 40% top rate $5.45m exemption ($5.43 for 2015) - portable 12 6
Net Investment Income Tax 3.8% tax levied on certain unearned income of individuals with AGI over $200,000 ($250,000 for joint filers) Net investment income means the excess of the sum of gross income from the following over allowable deductions: Interest Dividends Capital gains Annuities Does not apply to: Rents and royalties Passive activities and trading partnerships Income that is derived in the ordinary course of a trade or business and not treated as a passive activity Distributions from qualified plans Non Resident Aliens 13 FATCA Rules designed to enable the US to identify when US taxpayers hold investments via Foreign Financial Institutions (FFI), in order to prevent tax avoidance Applies from the direction of the individual and from the FFI: Individual may need to file Form 8938 FFI: need to identify the ultimate beneficial owner of assets held via them, in order to know if they are US Rules widely modified under Intergovernmental Agreements (IGA s) essentially exchange of information agreements: Note these may also require reciprocal exchange of information from US banks etc. (still under challenge) Led to introduction of Common Reporting Standard (CRS) for most other advanced economies (but not the US) Forms W-9, W-8 BEN, W-8 BEN-E, W-8 INY etc 14 AMCham - US Tax Session 23 02 16 7
Expatriation Exit Tax applies to Covered Expatriate Applies to individuals giving up their US citizenship or long-term green card holders giving up their green card For 2015, an individual with "average annual net income tax" of more than $160,000 for the five tax years ending before the date of expatriation will be a covered expatriate As will an individual with more than $2 million of assets Under a mark-to-market deemed sale rule for 2015, the amount that would otherwise be includible in the gross income of any individual under these markto-market rules will be reduced by $690,000 Exceptions for certain dual citizens and for those expatriating before 18½ 15 US Estate and Gift Tax System 16 8
Is a Non-US Citizen a Resident Alien or a Non-Resident Alien? Income Tax Estate Gift Tax - Objective US day count test or simply holds a greencard Time spent in US and abroad - Subjective test based on person living in the US with no present intention of leaving no day count test and greencard irrelevant Location of family and close friends Value, size and locations of homes owned or rented Location of religious and social connections Location of investments Location of business interests Location of valuable or important personal assets Address quoted on important documents; wills, tax returns etc Visa status Country where driving license held Country where registered to vote Income tax filing status Someone could be a non-resident for income tax purposes, but resident for estate and gift tax purposes 17 AMCham - US Tax Session 23 02 16 Estate and Gift Tax of Non-Resident Aliens Domiciled outside the US Only subject to estate and gift tax on US situs assets Gift Tax Estate Tax - Directly held US real estate - Tangible personal property in US (artwork, furniture, cars etc.) - Does NOT apply to intangible US property such as stock in US corporations, cash, annuities and mutual funds - Tangible and intangible property in US, including stock in US corporations, currency in the US and cash held in US banks (but only if funds are connected with a US trade or business) - Limited $60,000 exclusion for US situs assets Consider if an Estate Tax Treaty 18 9
Foreign Trusts 19 Non-US Trust Tax and Reporting Issues Complex reporting Two main types grantor (settlor is the taxpayer), non-grantor (Trust is the taxpayer up to level of retained earnings) Foreign grantor trusts (with US settlor) are not favoured under US tax policy as US beneficiaries avoid tax Default position: foreign trusts = non-grantor trusts but could still result in deferral, US therefore applies potential penal taxation on US beneficiaries If income is allowed to accumulate in the trust, when it is distributed it is subject to interest charges which have been compounded over the length of time the income has accumulated on top of the regular tax owed. Accumulated income and gain taxed at top US tax rates (effective tax rate with interest charge capped at 100%!) 20 10
Additional Reporting Obligations 21 Foreign Bank Account Reporting ( FBAR ) FinCEN 114 US persons are required to file FBARs annually if they have a financial interest in or signature of other authority over foreign financial accounts Aggregate value must exceed $10,000 Must be received by 30 June (15 April starting in 2017) Required electronic filing No extensions granted and failure to file can result in significant criminal and civil penalties Civil penalty for wilful failure to file can be as high as greater of $100k or 50% of total balance per violation. Non-wilful violation not due to reasonable cause is $10k Substantial revisions and updates to guidance over past few years Internet Poker accounts are included, Bitcoins are not (at present) 22 AMCham - US Tax Session 23 02 16 11
Foreign Financial Asset Reporting (Form 8938) HIRE Act imposed new reporting requirements for foreign financial assets in addition to FBAR reporting requirements Applies where aggregate value of specified foreign financial assets exceeds certain thresholds dependent on filing status and whether the individuals live in the US or abroad Forms part of tax return, unlike FBAR Specified foreign financial asset Depository, custodial or other financial accounts maintained by a foreign financial institution Stocks and securities issued by a person other than a US person Any financial instrument or contract held for investment with an issuer or counterparty other than a US person Any interest in a foreign entity that is not held in an account maintained by a foreign financial institution * Beneficiaries of trusts may need to report their interests if they know about them 23 AMCham - US Tax Session 23 02 16 Streamlined Offshore Voluntary Disclosure Program 24 12
IRS Streamlined Filing Compliance Procedures Allow taxpayers to certify that failure to report foreign financial assets and pay all tax due was not wilful Provides taxpayers with: Streamlined procedure for filing amended or delinquent returns Terms for resolving tax and penalty procedure Terms for resolving tax and penalty obligations Scope of procedures: Must file most recent 3 years amended tax returns, plus all information returns (3520, 3520-A, 5471 and 8938) Must file most recent 6 years FBARS Pay a miscellaneous offshore penalty if a domestic participant Tax, interest and offshore penalty must be paid with the amended returns 25 Streamlined Domestic Offshore Procedures Non-wilful conduct is due to negligence, inadvertence, or mistake that is the result of a good faith misunderstanding of the law Offshore penalty is 5% of highest aggregate balance/value of taxpayer s foreign financial assets subject to the penalty during the years for which tax returns and FBARs are being filed Aggregate year-end account balances and year-end asset values of all foreign financial assets subject to penalty across relevant years and select highest amount Only subject to miscellaneous offshore penalty, not accuracy-related penalties, information return penalties or FBAR penalties If returns are selected for audit, no penalties unless audit decides that noncompliance was fraudulent and/or FBAR violation was wilful Any penalties previously assessed for these years will not be abated Requires a statement certifying non-wilful behaviour 26 13
IRS Streamlined Filing Compliance Procedures US Taxpayers Residing outside of the US In addition to meeting general requirements, must: Meet on-residency requirement (for joint filers, both spouses must meet) Have failed to report income from foreign financial asset and pay tax and may have failed to file an FBAR (FinCEN 114), not due to wilful conduct US citizens or GCH must meet non-residency requirement: In any one or more of the most recent 3 years for which the US tax return due date (including physically outside US for at lest 330 full days Temporary US presence or maintenance of US dwelling extension) has passed, did not have a US abode and was constitutes an abode Non citizens or GCH must not have met Substantial Presence Test (SPT) in last 3 years 27 Transactions 28 14
Non-US Nationals Acquiring US Real Estate Direct Ownership Advantages Preferential capital gains rate Problems Estate and Gift tax exposure Rental Income Foreign Corporation Advantages Minimises US Estate and Gift Tax risk if foreign corporation respected Problems Corporate income tax Deemed rental income Branch Profits Tax No advantageous capital gains rate gain taxed at top rates. Additional administration costs Trust Advantages Can be best of both worlds Problems Complexity and additional costs Potential issues if settlor later becomes US resident and then terminates US residency Estate tax risk greater if person desiring US residence is also source of funds. 29 Transactions For Company acquisitions or reorganisations, US taxpayers beware! Tax free exchange usually only applies if 80% ownership is same before and after. If there is non-equity consideration then definitely some tax If consideration given for shares then should note that US has rules for taxing receipts under its instalment sale rules If a change of control need to consider parachute payments (s280g) for directors and top 1% of earners. If post acquisition compensation arrangements deemed to be excessive then penal tax and no corporate tax deduction If new equity given to management are they paying FMV and do forfeiture restrictions apply? Consider potential income tax position and s83(b) elections 30 15
Corporate Issues 31 Passive Foreign Investment Companies ( PFICs ) What is a PFIC? How is a PFIC taxed? What elections can be made? 32 Anti-deferral regime Deprives US taxpayer of economic benefit of deferral of US tax on their share of undistributed income of a foreign investment company that has predominantly passive income Applies to most foreign collective investment vehicles but wider implications e.g. funds and consortiums Tax on distribution (including disposal or pledging) A distribution is an excess distribution if it exceeds 125% of the average distributions in 3 previous years Non-excess distribution taxed as ordinary income, not qualified dividend if PFIC in current or previous year Excess distribution attributed on straight-line basis for each day company was a PFIC Tax charge on prior years allocated amounts at highest marginal rate for that year plus an interest charge Qualified Electing Fund (QEF) individual treated as receiving prorata share of PFIC s earnings and profits classified into ordinary income or long-term capital gains. Mark-to-Market (MTM) shares must be owned at year end and be traded on recognisable exchange. Excess of FMV over adjusted basis treated as ordinary income Check the box 16
PFICs (cont d) Definition 75% of the corporation's income is passive (tested annually) 50% of corporation's assets are passive income producing (tested quarterly) Special look through rule for subsidiaries where there is 25% or greater ownership 33 CFCs what are they? Control led foreign corporations (i.e. foreign corporation controlled by US person(s) includes individuals and companies) Only include 10% shareholders in determining control test However beware attribution rules (parents and children) If CFC US (10%) shareholder subject to immediate taxation on subpart F income 34 17
Receipt Tax Developments FAST Act - Potential loss of passport if a seriously delinquent tax debt of over $50,000 SSN required on passport applications for first time First time IRS and State Dept will work together in a coordinated effort to ensure compliance with US tax system Even more important for expats to stay current review address on file with IRS How long will delinquent programs last? Changes to US real property and FIRPTA withholding rules to encourage US investment Obama 2017 budget proposals but little appetite in GOP 35 Questions 36 18
Contacts US HNW Team Lynne Rennie +44 (0)20 7007 1845 kemeyer@deloitte.co.uk Michael Lewis +44 (0)20 7007 1638 miclewis@deloitte.co.uk Alex Jones +44 (0)20 7007 9420 alexjones@deloitte.co.uk Harry Swift +44 (0)20 7007 4907 hswift@deloitte.co.uk Fiona McClafferty +971 (0)4 506 4841 fmcclafferty@deloitte.com 37 Deloitte refers to one or more of Deloitte Touche Tohmatsu Limited ( DTTL ), a UK private company limited by guarantee, and its network of member firms, each of which is a legally separate and independent entity. Please see www.deloitte.co.uk/about for a detailed description of the legal structure of DTTL and its member firms. Deloitte LLP is the United Kingdom member firm of DTTL. This publication has been written in general terms and therefore cannot be relied on to cover specific situations; application of the principles set out will depend upon the particular circumstances involved and we recommend that you obtain professional advice before acting or refraining from acting on any of the contents of this publication. Deloitte LLP would be pleased to advise readers on how to apply the principles set out in this publication to their specific circumstances. Deloitte LLP accepts no duty of care or liability for any loss occasioned to any person acting or refraining from action as a result of any material in this publication. 2016 Deloitte LLP. All rights reserved. Deloitte LLP is a limited liability partnership registered in England and Wales with registered number OC303675 and its registered office at 2 New Street Square, London EC4A 3BZ, United Kingdom. Tel: +44 (0) 20 7936 3000 Fax: +44 (0) 20 7583 1198. 19