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Tax Savings with International Tax Treaty Planning for the Resident Alien

Citizens of Canada, the U.K., Australia, New Zealand, the European Community, have a unique tax advantage while living in the U.S.  Tax treaties with these countries provide a unique and little-known tax savings. 

This video is an audio clip from my tax radio show, Tax Talk. You will learn why resident aliens are paying more in taxes than they should. 

If you have any questions, then please call me, Brian Dooley, CPA, MBT at 949-939-3414 or visit our website – https://www.intltaxcounselors.com.  

International tax planning starts with these essential concepts:
Resident Aliens

resident alien’s income is taxed in the same manner as a U.S. citizen.

They pay tax on their worldwide income including income from interest, dividends, wages, other compensation for services, rental property, and royalties.  The resident alien must report these amounts whether from sources within or outside the United States.  Depositing of income outside the U.S. is taxable.

If you are a citizen of a country with a tax treaty, the treaty decides if you are a resident or non-resident.  Otherwise, if you have a green card or spend too many days in the U.S., you are a resident alien.

Nonresident Aliens  

Nonresident aliens are usually subject to U.S. income tax on U.S. source income.  In some cases, foreign source business income can be subject to U.S. tax.  You will learn more in my book, International Taxation in America for the Entrepreneur.

Dual-Status Aliens  

dual-status alien is an individual that is both a resident alien and a nonresident alien in the same tax year.  This can occur when you obtain your green card.

Income Types

U.S. Investment income is taxed at a flat 30% of the gross income.  If the non-resident alien resides in a treaty country, the tax rate is usually between zero and 15%.

Business income is taxed on a net income basis.  The alien has the same tax rates as an American.  In some cases, an NRA’s foreign business income is taxed by the U.S.  This occurs when the NRA has an office or some other type of business facility or is in the U.S. on a business trip.

Tax Withholding on Foreign Persons

Payments of U.S. income to foreign persons are subject to the  withholding tax rules.  In particular, foreign athletes and entertainers are subject to substantial withholding on their U.S. source gross income.  This withholding can be reduced by entering into a Central Withholding Agreement with the Internal Revenue Service.

The NRA that comes to the U.S. for business meetings owes U.S. tax on his foreign salary if he or she is paid more than $3,000 by his employer.

Taxpayer Identification Numbers (TIN) for the non-citizen

Anyone (including aliens) who files a U.S. federal tax return must have a Taxpayer Identification Number (TIN).  Also, non-citizens who request tax treaty exemptions or other exemptions from withholding must also have a TIN.

Sale of Real Estate 

Non-Resident Aliens are hit with a fifteen percent withholding tax on the sale of U.S. real estate.  In some cases, the withholding tax applies to refinancing.  The withholding tax does not replace the income tax.  Aliens must file an income tax return.  The tax withheld is a credit towards the total tax.  If the total tax exceeds the tax withheld, they get a refund.

Saving Taxes with Tax Treaties 

The U.S. tax liability of non-resident aliens is determined primarily by the provisions of tax treaties.  If the non-citizen is not a national of a treaty country, then the U.S. Internal Revenue Code applies.

Many foreign countries have tax treaties with the U.S. Tax treaties override or modify the provisions of the Internal Revenue Code.  Tax treaties allow you to pay less tax.

Estate Taxes

All though you are a resident alien for income taxes you may be a non-domiciled alien for estate (death) taxes.    Non-domiciled aliens are subject to estate taxes on all of their U.S. property (including stocks, bonds, and property) except bank accounts and life insurance.  They are not entitled to the $5,000,000+ exemption that is allowed for Americans.  Accounts with brokerage firms are frozen upon the alien’s death.   Tax treaties may allow the alien to avoid U.S. gift and estate taxes.

Become an Expert

Become an expert with my book, International Taxation in America for the  Entrepreneur, available on this link and feel free to call me with any questions that you have.

 

 

How to Prepare Form 1120F for a Foreign Corporation’s non-U.S. Business Income and Investment Income & Form 5471

Table of Contents to Foreign Corporation Tax Planning and Preparation for Form 1120F.  For Form 5471, please click on this link.

International tax planning has a thin line between non-business income and business income.

A foreign corporation pays a tax of 30 percent of the amount it receives from sources within the United States as investment income and sometimes compensation:1

The 30 percent tax does not apply to interest income on a “portfolio debt”  that a foreign corporation receives from U.S. sources.

Avoiding U.S. tax on Businesses Income with no Permanent Establishment. 

One part of the Form 1120-F to report and pay tax on U.S. source investment income and U.S. source income from the sale of property (including inventory).  When the foreign corporation does not file the U.S. Form 1120F, the IRS can at any time assess taxes.  The corporation will also lose its right to deduct expenses.

If you are not sure if Form 1120F is required, you can use the safe method of a protective filing.   If you need help, then please call me Brian Dooley, CPA, MBT at 949-939-3414.

International tax planning has a thin line between non-business income and business income.

This thin line decides which of two very different tax laws apply.  This blog is on the income that is not connected to a  U.S. office or “place of business”.

Sometimes this income is investment income and sometimes business income that is not connected to a U.S. business’s office or place of business.

A foreign corporation pays a tax of 30 percent of the amount it receives from sources within the United States as:

(1) interest (other than bank interest),  dividends, rents, salaries, wages, premiums, annuities, compensations, remunerations, and royalties,

(2) gains on the disposal of timber, coal or domestic iron ore with a retained economic interest;

(3) gains from the sale or exchange of patents, copyrights, secret processes and formulas, goodwill, trademarks, trade brands, franchises, and other like property, or of any interest in such property but only to the extent the gains are from payments that are contingent on the productivity, use, or disposition of the property or interest sold or exchanged.   The taxable portion is after recovery of your cost; and

(4) and other “fixed or determinable” annual or periodical gains, profits, and income (this is a “catch all” part of the tax law that rarely applies).

The gross income (income before expenses) is taxed a 30 percent.  Sometimes, a tax treaty may reduce this tax rate.

The 30 percent tax does not apply to interest income on a “portfolio debt”  that a foreign corporation receives from U.S. sources.

The purpose of the portfolio debt tax law is to allow the foreign investor to make loans to U.S. persons and avoid U.S. taxes.  Yes, the intent of the law is to avoid taxes.  The following is a summary of the type of debts.

(1) An unregistered obligation that is payable only outside the United States if the obligation is designed to be sold only to a non-U.S. person; and

(2) A registered obligation for which a statement is if the beneficial owner of the obligation is not a U.S. person.

The following types of interest cannot be portfolio debt interest:

(1) Contingent interest, such as interest payments that depend upon the income, profits, or assets of the debtor;

(2) Interest received by a bank on an extension of credit made under a loan agreement entered into in the ordinary course of its trade or business;

(3) Interest received by a 10-percent shareholder of the corporation paying the interest; and

(4) Interest received by a controlled foreign corporation from a related person.[1]

The other advantage is U.S. estate taxes.  Upon the death of a non-resident alien, portfolio debt is not included in his or her U.S. estate tax return.

Avoiding U.S. tax on Businesses Income with no Permanent Establishment.

Tax treaty corporations have a unique advantage.   They can earn U.S. business income and not pay U.S. taxes.

Here are some examples of international tax strategies.

Personal service income to U.S. customers

A British law firm has American customers.  They perform the services outside of the U.S.  However; they have an office in Los Angeles for administration and marketing.  Payments made by their American customers are deposited into a U.S. bank located in Los Angeles.

Their income is not subject to U.S. taxes.  You will note that the law firm has a permanent establishment in the U.S.  They did not try to avoid having a permanent establishment or even a place of business.

The tax planning is the international tax law on service income.  This income is sourced where the individual (or computer as in the example below) is located when the services are provided.

Web services to U.S. customers.

A Swiss business has an app that is used by both American businesses and European businesses.  The customer pays for the app pay watching commercials or by monthly subscription services.  The Swiss company maintains and office in Orange County, California for their American owners and directors.  The Swiss company does it banking in Newport Beach, California, and Geneva.

The Swiss businesses income is not subject to U.S. taxes.  Learn why on this link.

Sale of merchandise to Americans   

Sam, a Canadian citizen, has an investor visa and lives in Malibu, and his office is in the Santa Monica.   He owns a U.K. company that sales paddle boards via a U.K. website.  He is a director of the U.K. company.  He is also the sole shareholder.

The paddles are shipped directly from Canada using Federal Express ground shipping.  Title to the paddle board passes to the customer via the website in Canada. The income of the U.K. company is subject to U.S. taxes.   Sam must file form 5471.

FOOTNOTE

[1] Code Section 881(c).

How to Know if You Have the Best International Attorney or International Accountant

International taxation adds a new dimension to the already to the complicated  U.S. tax structure. International tax attorneys and accountants use the tax pyramid.

The best international tax attorney and tax accountant have an advance degree in taxation.

The best international tax attorney and tax accountant have an advance degree in taxation.

The best tax attorneys and best tax accountants are experts in both the common law and the tax code before they learn international tax law.

The best tax accountants and best tax attorneys have an advance degree in taxation.  Law schools and accounting schools do not teach tax law.  Up tp two additional years of schooling is required to be a tax expert.

The international tax adviser studies the “character of your income.  Each type of income has its own tax laws.  The tax law for consulting income is different than the tax law for importing income.  The best international tax CPA looks at your business’s operations and dissects each step.

A website designer has employees in India.  After dissecting his activities, he decided to incorporate in a tax-free country.  The tax haven corporation files an IRS Form 1120F (F is for Foreign).  Only half of his net income is U.S. taxable. The other half is not taxable.  His business operates the same.

At International Tax Counselors, our international taxation experts have more than 30 years of experience.  Each expert has an advance degree in taxation.

If you need planning, consulting, or compliance, your team at International Tax Counselors has the needed international accounting and legal expertise and skills.

We have unique expertise in:

1. Foreign tax planning regarding reporting of foreign assets and foreign source income,
2. International tax strategy services with respect to ownership of foreign entities, including foreign corporations, foreign LLC’s, foreign partnerships, or foreign foundations,
3. Analysis of income tax returns filed with foreign governments in connection with the foreign tax credit planning and calculations,
4. International estate and gift tax planning for U.S. citizens living and/or working in foreign jurisdictions and nonresident aliens with U.S. property,
5. Immigration tax strategies for respect to non-resident individuals,
6. Assistance with IRS Tax Amnesty “Streamlined Filing Compliance Procedures,” because of non-reporting of foreign financial accounts and companies,
7. International tax plans relating to compensation structures for U.S. individuals on foreign assignment
8. Handling IRS international tax audits.

Learn about the Small Business Foreign Tax Credit and How the Credit Saves Taxes

How the  Foreign Tax Credit Saves Taxes for an S-corporation of a Limited Liability Company (LLC)

When you read about Apple or GE not paying American taxes, it is because of the foreign tax credit (for taxes they paid to the foreign government).   

The purpose of the foreign tax credit law is to avoid double income taxation. It works well for publicly traded corporations. However, it does not work for individual owning a foreign entity unless he does fancy footwork to have the entity be a “pass-through” for the IRS.

Here is the problem: For the individual shareholder, income earned by a foreign corporation does not allow you credit for the foreign income taxes  Why?  No reason.  It is just the law, and yes, it is not fair.  Just keep reading for the solution. 

If the corporation has paid an income tax, you are not allowed to offset your US tax. You will pay tax twice. First, the corporation will pay the foreign tax.

Next, you will pay US (and state) income tax on the Subpart F income or when the corporation invests in US property or when you receive a distribution (whichever event occurs first).

Here is the solution.  Your foreign corporation needs to change to or elect to be a pass-through entity for U.S. tax law.  Three type of pass-through entities exist.  They “disregarded,” “partnership” and “Subchapter S corporation.”  These topics are discussed in my book.  However, first I would like to explain the issue with a hypothetical example.:

You own a foreign corporation doing business in the United Kingdom. The corporation’s net income in the tax year is $1,000. The UK income tax $250. Your corporation invests its profits in the US stock market. You have a “deemed dividend” of $750 taxable to the US. Your US tax is an additional $250. Thus, of the $1,000 earned, your worldwide tax is $500.

Once you are allowed the foreign tax credit, you use IRS  Form 1116  or Form 1118 to claim your money.

Here is the best international tax strategy: The UK corporation becomes a “pass-through” entity for US tax purposes. Some, not all, foreign corporations can elect to be a “disregarded entity.”

A corporation that does not qualify for the election can arrange to have a charter as a domestic corporation. This is known as “dual resident corporation.” At this point, the corporation is both foreign (UK) and domestic. As a domestic corporation, the corporation can elect to be a Subchapter S corporation.

Back to the example, the $1,000 of income passes through to your individual income tax return. The $250 UK corporate income tax is a credit against your US income tax. You are U.S. taxable on $1,000. Assuming a US income tax of $300, your tax after the foreign tax credit is $50.

As a pass-through entity, none of the controlled foreign corporation rules applies. 

Learn how the foreign tax credit works and how you can save money with my easy two-hour to read book,  International Taxation in America for the Entrepreneur.  Learn more on this link or call me, Brian Dooley, CPA, MBT, for a free foreign tax brainstorming consultation at 949-939-3414

Easiest to Read International Tax Book for the Contract Manufacturer and E commerce

SMOKE STACK INDUSTRIAL AGE

Is you tax planning using last century’s smoke stack tax laws?

The 21st century business as a unique tax advantage.  U.S. international and offshore tax laws are written for the 19th century industrial age.   The tax laws were written by men born in the 1800’s.

Just think about contract manufacturing and air cargo or cheap shipping.  When tax laws were passed in the 1930’s,  manufacturing was by one’s factory.  E-commerce was not even a concept.

Here more on the best foreign tax planning book and also the easiest to read (in just two hours).  Amazon has it on sale (on this link) for only $9.50 or read the first three chapters for free by clicking on this link.