1. International Income Tax Planning (For Inbound Taxpayers)
October 23, 2018
Special Thanks to Leigh-Alexandra Basha for use of a prior Powerpoint presentation she created.
Jack F. Meola, Tax Partner, EisnerAmper, LLP

2. A Broad Spectrum of Global Clients and Considerations

3. Introduction – “U.S. Issues for Foreign Persons”
Clients, their children, and sometimes their parents or their business interests continue to move to, or invest in, the U.S. for the following reasons (among others):
Employment – Clients Coming to the U.S.: Clients seek advice for both short-term and long-term employment obligations and U.S. pre-immigration planning both from income and transfer tax perspectives
Family – Members of Clients’ Family Coming to (or Already in) the U.S.: Clients’ children establish residency in the U.S. and need to plan for assets passing to them (during life or at death of their parents)
Business – Clients’ Business Moving Into the U.S. or Want to Invest in U.S. Situs Assets: Clients need assistance with tax and entity planning for their businesses, whether this is portfolio investment into the U.S. or in an active business enterprise.

4. OVERVIEW Foundational Concepts Residency versus Domicile
Overview of U.S. Income Taxation
Overview of U.S. Transfer Taxation for income tax basis
Foreign Trust Income Tax Planning- consideration of throwback rules, current year income distributions
Foreign “Blocker” Planning Post Tax Reform
Pre-Immigration Planning- timing of recognition events.
U.S. Real Estate Investment Planning-income tax
PFICs

5. U.S. Income Tax Residence Tests under I.R.C. 7701(b)
Determine if the non-U.S. citizen individual is a U.S. resident alien (“RA”), or non-resident alien (“NRA”) for U.S. income tax purposes:
Lawful Permanent Resident (Green Card Holders) = RA (Actual physical presence in U.S. is irrelevant)
Substantial Presence Test (“SPT”) = RA (Consider Impact of Special Visa Classifications Where Days Do Not Count)
Individuals meet this objective test if physically present in the U.S. for at least 31 days in the current year AND at least 183 days for the 3-year period ending on the last day of the current year using a weighted average formula.
Generally, any day of physical presence counts as a U.S. day regardless of how much time during that day the individual is in the U.S.
Example: 2018: 100 Days x 1 day = Days : 170 Days x 1/3 days = Days : 170 Days x 1/6 days = Days Total = Days = FLUNK
General “121 Day” Rule: If the individual does not have a green card and is not on a preferred visa classification, then if the individual stays in U.S. for at most 121 days each year, the individual will avoid becoming a U.S. income tax resident under the Substantial Presence Test
***Consider Closer Connection Exception (or Applicable Treaty)
***Consider residency election if married to U.S. Citizen/GC Holder
3. First Year Residency Election

6. Exceptions to the Substantial Presence Test May Apply
Closer Connection Exception
Less than 183 days in the current year, but whose 3-year average is greater than 121 days, but can demonstrate tax home in/closer connection to foreign country
Special Visa Classification Exceptions
i.e., Student Visas (F and M) and G visas
Always Consider Treaties- including the protocols.

7. Residence versus Domicile – Difference and Why It Matters
Residence and Domicile Tests – Practical Importance
U.S. citizens and residents (green card test, substantial presence test, or first year election test) are subject to U.S. income taxation on their worldwide income.
U.S. citizens and domiciliaries are subject to U.S. gift, estate and GST tax (“transfer tax”) on their worldwide assets
Non-U.S. residents are subject to U.S. income taxation only on their U.S. source income:
Net basis tax on income effectively connected to a U.S. trade or business (top rate 37%)
Gross basis tax of 30% on “fixed, determinable, annual, or periodical” (“FDAP”) income (dividends, interest, rents, royalties) with certain exceptions – e.g., portfolio interest, interest on bank deposits.
Important to consider making the ECI election- i.e. rental income.

8. U.S. Income Tax Fundamentals
Noncitizen, Nonresident
U.S. Citizen & Residents
Generally only taxed on certain types of U.S.-source income
Fixed, determinable, annual, periodical (“FDAP”)
Effectively connected income (“ECI”) of a U.S. trade or business (“USTB”)
Income tax treaties may reduce scope of U.S. income
Generally taxed on worldwide income regardless of source or character
Income tax treaties may reduce scope of U.S. and foreign income taxation

9. Why Sourcing Rules Matter
Source determines:
The applicability of foreign tax credits
Whether income is ECI of a U.S. trade or business Whether the 30% statutory gross basis withholding regime applies to FDAP income
Always consider if applicable treaty lowers withholding rate that applies

10. General U.S. Sourcing Rules (Subject to Some Exceptions)
Interest: sourced based on residence of the payor
Dividends: sourced based on residence of the payor
Personal Services: sourced based on where services are performed
Rents: sourced based on location of rental property
Royalties: sourced based on location of use of intangible property
Real Estate Gains: sourced based on location of the real property
Capital Gains: sourced based on situs of sale or residence of seller (seller’s “tax home”)
Sale of Partnership Interest: Gain or loss from the sale of a partnership interest is treated as U.S. source ECI to the extent that the seller would have had ECI on the sale of the partnership’s assets
Pensions: sourced based on where services were performed that earned the pension
Residual Rule: sourced based on residence of seller-often the case for pensions.
*Note that tax treaties may, and often do, alter the sourcing of certain types of income.

11. “FDAP” FDAP income includes:
Compensation for personal services (such as commissions and gross proceeds from performances)
Dividends
Interest- with exceptions for portfolio interest.
Original issue discount
Pensions and annuities
Alimony
Real property income, such as rents, other than gains from the sale of real property
Royalties
Scholarships and fellowship grants
Other grants, prizes and awards
A sales commission paid or credited monthly
A commission paid for a single transaction
The distributable net income of an estate or trust that is FDAP income, and that must be distributed currently, or has been paid or credited during the tax year, to a nonresident alien beneficiary
A distribution from a partnership that is FDAP income, or such an amount that, although not actually distributed, is includible in the gross income of a foreign partner
Taxes, mortgage interest, or insurance premiums paid to, or for the account of, a nonresident alien landlord by a tenant under the terms of a lease
Prizes awarded to nonresident alien artists for pictures exhibited in the United States
Prizes awarded to nonresident alien professional golfers in golfing tournaments in the United States
Payments to U.S. parties when an nonresident alien entertainer has rights to the performance
85% of any U.S. Social Security benefit

12. FDAP Considerations Most capital gains are not taxable
As a result of the portfolio interest exception of IRC 871(h) and the exemption for bank deposits under IRC 871(i), relatively little U.S. source interest income is taxable to a nonresident.
Tax is collected through withholding at source and may be reduced pursuant to an applicable income tax treaty. This is a flat tax and there are no deductions to reduce the amount of FDAP income subject to withholding. Treas. Reg (a)(3).
A NRA in the U.S. for less than 183 days during the tax year will not be taxed on capital gains, except for the following types of gains:
Gains that are effectively connected with a trade or business in the U.S.
Gains on the disposal of timber, coal, or domestic iron ore with a retained economic interest
Gains on certain contingent payments received from the sale or exchange of patents, copyrights, and similar property or transfers of patents
Gains on the sale or exchange of original issue discount obligations
Many tax treaties contain provisions which reduce or eliminate taxation on capital gains

13. FDAP - Capital Gains
Most U.S. capital gains are not taxed to the NRA e.g., sale of publicly traded U.S. stocks
TRAP: If a NRA is present in the U.S. for 183 days or more during the tax year, and the NRA is still a NRA (e.g., a G4 visa holder), the NRA’s net gain from sales or exchanges of capital assets is taxed at a 30% (or lower treaty) rate. Net gain is the excess of the NRA’s capital gains from U.S. sources over NRA’s capital losses from U.S. sources. This rule applies even if any of the transactions occurred while NRA was not in the U.S. The183-day test here is not the same as the 183-day test used in the substantial presence test. Here, it is a pure day counting in the calendar year.
These rules do not apply to the sale or exchange of a U.S. real property interest, or to the sale of any property that is effectively connected with a trade or business in the United States.

14. “ECI” of a “USTB” ECI of a USTB is taxable at graduated rates
Deductions can be used to offset ECI, but only if a nonresident income tax return is timely filed
Foreign Investment in Real Property Tax Act (“FIRPTA”) IRC 897 – Sale of U.S. Real Property (or Real Property Interest)
Applies regular capital gain (like U.S. citizens) to the sale of U.S. real property (or U.S. Real Property Interests, including stock of U.S. real property holding companies).
FIRPTA imposes a 15% withholding (by the buyer) on the gross sales proceeds from the sale of U.S. real property by NRAs
No withholding if buyer will use as buyer’s residence and sales price is $300,000 or less
10% withholding if buyer will use as buyer’s residence and sales price is $1 million or less
Withholding may apply even if selling at a loss (unless NRA applies and gets a withholding certificate exemption.

15. Income tax consequences of an NRA owning and/or selling a U. S
Income tax consequences of an NRA owning and/or selling a U.S. real property?
Rental Property: If a NRA has income from U.S. real property (i.e., rental income), the NRA should consider making a § 871(d) “net election”
Allows NRA to claim deductions attributable to the real property income and only have the net income from the real property taxed
If rental activity is “passive”, then NRA technically would owe 30% gross tax as rent would be a FDAP item
Principal Residence: Upon sale, gains are taxable in the U.S., but NRA can get benefit of IRC § 121 exclusion if qualifies based on its terms
If NRA elects/qualifies for the Home Sale Exclusion, can exclude $250,000 (per person, up to $500,000 for married couples) for capital gain from the sale of a principal residence.

16. Other Income Tax Considerations for Non-Residents
Items of NRA’s income subject to U.S. income tax are as follows:
Dividends from U.S. corporations, but not the proceeds of sale of U.S. securities;
Rent from U.S. real property, and capital gains on the sale of U.S. real property or real property holding companies (which is subject to a special tax regime under FIRPTA);
Interest on debts of U.S. obligors, but interest on most publicly traded bonds qualify for the "portfolio interest" exemption and are not taxed as U.S. source income;
Salaries paid by U.S. and non-U.S. entities for services performed by the recipient in the United States;
U.S. royalties

17. Income Tax Considerations for Non-Residents (Continued)
Items of NRA’s income subject to U.S. income tax are as follows:
Nonresidents are also subject to income tax at the same graduated rates as U.S. persons on their income in connection with the conduct of a trade or business in the United States (which is commonly referred to as “Effectively Connected Income (ECI) of a U.S. Trade or Business (USTB)”)
Certain exceptions to these general rules may be applicable (i.e., interest on U.S. bank accounts, including time deposits and certificates of deposit, are not U.S. source income)
NRAs are exempt from the 3.8% Medicare contribution tax upon passive “net investment income”
Always consider the impact of tax treaties which can alter these rules, particularly as to determination of residence, source of income, and income withholding rates that could apply

18. Impact of Applicable Tax Treaties
A tie-breaker provision determines which country is the residence country with primary taxing authority
The non-residence country typically retains residual taxing authority
Treaties also may alter the sourcing of certain types of income and the applicable withholding tax rates
More than 50 Income Tax Treaties utl/Tax_Treaty_Table_3.pdf
Compare to Only 15 Gift & Estate Tax Treaties:
Australia, Austria, Canada, Denmark, Finland, France, Germany, Greece, Ireland, Italy, Japan, Netherlands, South Africa, Switzerland, and the United Kingdom

19. Example $ 85,000 from wages for services performed outside the U.S.
Alexandra (NRA) resides full time outside the U.S. and has the following income:
$ 85,000 from wages for services performed outside the U.S.
$ 200,000 of Restricted Stock
$ 250,000 in capital gains from the sale of U.S. real property
$ 3,000 in capital gains from the sale of U.S. stock
What items are subject to U.S. Tax?
Foreign wages are not subject to U.S. tax.
Sale of U.S. stock is not subject to U.S. tax.
If the U.S. real property qualifies as a principal residence, there is a 250,000 gain exclusion. If it does not qualify as a principal residence, then the gain on the sale will be taxed.
While Section 121 is not a non-recognition provision under the Code, the FIRPTA Withholding Certificate rules contemplate filers claiming exemption from FIRPTA withholding based on IRC 121.
Capital gains from the sale of U.S. stock are not taxed.
Where was the restricted stock earned?

20. Grantor or Non-Grantor Trust When Non-Resident Grantor Involved
Foreign Grantor Trust (IRC 672(f)(2))
A foreign trust with a foreign grantor which is either:
Grantor can revoke or revest during grantor’s life; or
The only amounts distributable from the trust (income or corpus) during the grantor’s lifetime are to the grantor or the grantor’s spouse during the grantor’s lifetime
IRC 672(f)(5) treats a U.S. person (rather than a foreign person) as the grantor of a trust if before he became a U.S. person, he gifted assets to another foreign person who subsequently used the assets to create a trust of which the U.S. person is a beneficiary
Foreign Nongrantor Trust (essentially the default)
A foreign trust which is not a foreign grantor trust
Caveat: Beware of the potential application of the 5 Year Drop Off Trust Rules (IRC 679(a)(4)).
If a U.S. person gratuitously transfers property to the trust either directly or indirectly, that portion of the trust will not qualify as a foreign non-grantor trust

21. Tax Treatment of Foreign Grantor Trust vs. Foreign Nongrantor Trust
Income will be taxed to the NRA grantor
Trust receives flow through treatment
Foreign Nongrantor Trust
Taxed like a NRA only on U.S. source income
Subject to certain exemptions and any applicable treaty relief
Deductions and Credits
U.S. trust has the same deductions and credits as would a U.S. individual and a distribution deduction for distributions to beneficiaries and charities
A foreign trust may only use deductions and credits to offset ECI (not FDAP income). Also gets a deduction for distributions to beneficiaries

22. U.S. Income Taxation of Trusts
A U.S. nongrantor trust (which can be established by a NRA) is subject to U.S. tax on its worldwide income
It may have state income tax
It may have ordinary income, (up to 37%) capital gains (up to 20%) and net investment income (3.8%)
A foreign trust is taxed like a NRA (or is taxable to the NRA grantor if a foreign grantor trust) and is subject to U.S. tax only on its U.S. source income
U.S. source income includes FDAP, ECI and FIRPTA income
If a foreign nongrantor trust distributes DNI to U.S. beneficiaries, they will be subject to U.S. tax on their share of DNI (including DNI from foreign sources and including capital gains)

23. Other Considerations with Foreign Trusts
Intermediary Rules - Section 643(h)
Amounts paid to a U.S. person that are derived, directly or indirectly, from a foreign trust through an intermediary are deemed to have been paid directly from the trust (i.e., a distribution from a foreign trust)
Exception: the grantor is never an intermediary
Loans from foreign trusts - Section 643(i)
A loan from a foreign trust to a U.S. beneficiary is treated as a distribution unless it is a “qualified obligation”

24. Other Considerations with Foreign Trusts
Uncompensated Use of Trust Property Treated as a Taxable Distribution
A loan of cash or marketable securities or the uncompensated use of any foreign trust property by any U.S. person will be deemed as if paid or accumulated for the benefit of such U.S. person unless the U.S. person repays the loan or pays fair market value for the use of trust property within a reasonable time
Attribution rules
Attribution rules apply to ownership of stock in a CFC owned by a foreign trust (but not by a U.S. trust)
Attribution rules apply to ownership of stock in a PFIC owned by a foreign trust, foreign estate, U.S. trust and U.S. estate
In a case of attribution, a beneficiary may be taxed on phantom income and gains not actually received and have to file Form 5471 (CFC) or Form (PFIC)

25. Other Considerations with Foreign Trusts (Continued)
Basis Adjustment For Assets in Foreign Trusts upon Grantor’s Death
Where the trust pays income for life to or on the direction of the grantor and where the grantor has the right to revoke or amend the trust
Assets held in an entity that makes a check the box election retroactive to the day before grantor’s death (within 75 days of effective date) Caveat: don’t do this if US situs assets
Changing the Perpetuities Period of Assets Held in Foreign Trusts
Cannot be done by decanting or amending the trust
Can be done by selling assets to a new perpetual trust

26. U.S. Beneficiaries of a Foreign Trust
Throwback Rules (an anti-deferral penalty regime):
If the foreign non-grantor trust (FNGT) has U.S. beneficiaries, then to the extent the FNGT has undistributed net income (“UNI”), the U.S. beneficiaries will be subject to the “throwback rules” and an interest charge upon distribution
Distributions of UNI are typically taxed to the beneficiaries at rates roughly approximating the beneficiaries' tax situation in the earlier years when they would have been taxed on the income if it had actually been currently distributed to them
Tax on UNI of a foreign trust is often the first U.S. tax imposed on the accumulated income. Interest is therefore charged on the distributions to account for the delay in the imposition of this first U.S. tax
Capital gains are included in UNI of the foreign non-grantor trust, and the character of such accumulated capital gains is disregarded for purposes of taxing a beneficiary on a distribution of UNI
The rent free use of property in a foreign trust by a U.S. beneficiary will be considered a distribution with attendant consequences
The throwback tax is reported on Form 4970 (Tax on Accumulation Distribution of Trusts

27. Income Tax Planning
Will Client Become a U.S. Income Tax Resident ? Consider U.S. Income Tax Residency Rules
First, make sure that the individual truly will be a U.S. income tax resident under one of the three residency tests (“Green Card” Test, Substantial Presence Test (“SPT”), or First Year Residency Election Test)
If the individual does not have a green card and is not on a preferred visa classification exempt from day counting, then days present in the U.S. matter
General “121 Day” Rule: If the individual does not have a green card and is not on a preferred visa classification, then if the individual stays in U.S. for at most 121 days each year then the individual will avoid being considered a U.S. income tax resident under the SPT
If Client Will Become U.S. Income Tax Resident, Then Do the Following Before First Day of U.S. Income Tax Residency:
Step up basis in assets and accelerate income recognition either by selling assets before establishing U.S. residency or using “check the box” rules for foreign entity interests if possible and the foreign entities are relevant to get in side basis step up before U.S. residence
Avoid U.S. anti-deferral regimes (i.e., Controlled Foreign Corporation (“CFC”) and Passive Foreign Investment Company “PFIC” regimes) and foreign tax credit mismatches
Be careful with foreign “drop off” trusts if set up within 5 years of U.S. residency –NRAs who create foreign trusts that have (or may have) a U.S. beneficiary will be subject to U.S. income tax on that foreign trust’s income if the NRA grantor becomes a U.S. tax resident within 5 years of transferring property to the trust. If the trust is drafted correctly and is irrevocable, then such trust can still offer value and protection for U.S. transfer tax purposes

28. Compliance Forms FOREIGN TRUST REPORTING for FOREIGN NON-GRANTOR TRUST
ATTRIBUTION OF UNDERLYING ASSETS TO US BENEFICIARIES:
PASSIVE FOREIGN INVESTMENT COMPANIES
CONTROLLED FOREIGN CORPORATIONS
FACTS & CIRCUMSTANCES!!!
FORM 8621 / 5471 / FBAR Form 114

29. Questions

30. This publication is intended to provide general information to our clients and friends, It does not constitute accounting, tax, or legal advice; nor is it intended to convey a thorough treatment of the subject matter.