Tag Archives: tie-breaker

Saving International Taxes with Tax Treaty’s Tie Breaker Rules for the Green Card Holder

The tax treaty tie breaker rule can allow a green card holder not to be a U.S. tax resident. 

The tax treaty tie breaker rule overrides the U.S. tax code.  The tax treaty tie breaker rule requires an individual to be a resident of the country where he has the closest connection. 

With the tax treaty tie breaker rule a green card holder who is a citizen of a country with a tax treaty may non-resident for U.S. income taxes.  Tax treaties override the U.S. tax code.

As a non-tax resident, you live and work in the U.S. but only pay tax on your U.S. income and not your foreign income.

Here is what happens:  If you are a dual-resident taxpayer (a resident of both the United States and another country), a tax treaty’s “tie-breaker” rule determine if you are a U.S. income tax resident.   

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Getting the Best of Both Worlds – International Tax Planning for S Corporations and their Alien Shareholders

Dual residents are citizens of nations that have a tax treaty with the U.S.  Most tax treaties have a “tie-breaker” rule that favors the country of citizenship.  

International Tax Planning for S Corporations and their Alien Shareholders – Getting the Best of two tax Worlds

Okay, here is the general rule. A general rule is that dual resident residents are treated as U.S. residents for purposes.  This link provides an IRS legal memorandum on the topic of the dual resident process.    For tax planning, the dual resident will use its home country tax treaty to elect to be a non-resident alien.  This way, he is not paying U.S. tax on his worldwide income. 

Dual residents are often shareholders of S corporation. Here the dual resident international tax planning needs to be cautious.

Until recently, the  IRS regulations provide that if a dual resident taxpayer is a shareholder in an S corporation and the alien claims a treaty benefit as a non-resident alien, the taxpayer is a non-resident alien for the S corporation’s rules.  As a result, the entity’s S corporation election will be terminated.[2]

Most tax planners will tell you that this continues to be the law.   If they do, then you know that you have the wrong international tax planner.

The dual resident alien usually wants to elect to be a non-resident alien.   The tax savings are huge.  For example, no self-employment tax, no controlled foreign corporation tax, no tax on foreign income, no passive income tax, no tax on U.S. bank income and no tax on gains on the U.S. stock market.  Yes, all of this is tax-free.

But here is the problem.  How to invest into a U.S. business.  The easiest is to invest using a domestic limited liability company.   But for the dual resident, his/her home country may not recognize the LLC for asset protection. Thus, why you are protected in the U.S., you are not protected outside the U.S.  The alternative is a corporation. A subchapter S corporation allows a single tax structure.

The IRS issued Treasury Decision 8733 provides that a  dual resident is allowed the best of both tax worlds.   First, he/she remains a non-resident alien legally avoiding the taxes mentioned above.

Next, the dual resident alien can elect to pay U.S. income tax on the S-corporation’s income as if the income was U.S. business income.  If he does, he is an allowed to be a shareholder of the corporation.

For example, the S-corporation is a retail store.  Mr. Wilson a U.K. citizen and a dual resident is a shareholder.  He has not elected to be U.S. resident.  However, he has elected to follow the IRS rules in Treasury Decision 8733.   The S-corporation also earns interest income on its bank deposits.  Mr. Wilson earned $100,000 investing in the U.S. stock market.

The income from the store and the interest income are taxable as business income.  However, the dual resident alien continues to avoid self-employment tax.   The $100,000 gain in the stock market is not taxable by the IRS. 

The IRS  Treasury Decision 8733    states “under section 7701(b) provide that for purposes of determining the U.S. income tax liability of a dual-status alien who is a shareholder of an S corporation, the trade or business or permanent establishment of the S corporation shall be passed through to the dual status alien pursuant to section 1366(b).”

Here is what is happening. The taxpayer and the S corporation entering into an agreement to be subject to tax and withholding as if the dual resident were a non-resident alien partner in a partnership.  This means that the S-corporation withholds tax on his share of the income.  The tax is withheld at the highest tax rate.  This tax is refundable when the dual resident alien files his income tax return.

If the dual resident taxpayer does this then:
1.  the character and source of the S corporation items included in the dual resident shareholder’s income are determined as if realized by the shareholder and
2. the dual resident shareholder is considered as carrying on a business within the United States through a permanent establishment if the S corporation carries on such a business.[4]

This exception is not available if the S corporation was a C corporation[5]

Special IRS reporting: A dual resident taxpayer who is an S corporation shareholder must:
1. comply with the filing requirements and
2  must include an additional declaration indicating that he understands that claiming a treaty benefit as a non-resident will terminate the S corporation’s election unless the exception applies. [6]   IRS Form 8833, Treaty-Based Return Position Disclosure (under Section 6114 or 7701(b)) is required if the payments or income items reportable because of that determination are more than $100,000.

By the way, this blog article is the only article on this topic.  It represents on of the many innovations international tax plans found only in my book, International Tax Planning in America for the Entrepreneur, on this link.  You will learn many tried and true tax plans that no one else knows.

We recommend that you work with the IRS and get their okay of your tax plan with a private letter ruling (get more information on this link).

[1] Warning:  The regulations 301.7701(b)- 7(b).  state that the filing of a Form 1040NR by the dual resident taxpayer may affect the determination by the Immigration and Naturalization Service as to whether the individual qualifies to maintain a residency permit.

[2] Regulation 301.7701(b)-7(a)(4)(iii).

[3] Regulation 301.7701(b)-7(a)(4)(ii).

[4]  Regulation 301.7701(b)-7(a)(4)(iv).

[5]  Regulation 301.7701(b)- 7(a)(4)(iv).

[6] Regulation 301.7701(b)-7(c)(3). In part 10 FSA (field service advice) 1992-50 states   “[10]  A dual resident taxpayer who is assigned residence to the treaty partner’s country and claims to be treated as a resident of that country will be treated as a nonresident of the United States solely for purposes of computing their U.S. income tax liability. For purposes other than the computation of their U.S. income tax liability, the individual will be treated as a U.S. resident under the Internal Revenue Code. To take advantage of the treaty “tie- breaker” rule exception, a dual resident taxpayer must timely file a completed Form 1040NR tax return with a statement in the form required by section 301.7701(b)-7(c) of the regulations, attached to the return. The filing of a Form 1040NR with the attached statement is required under section 301.7701(b)-7(b) whether or not the individual has any income subject to U.S. tax.”