- 1 INDIVIDUAL TAXES
- 2 Expats and U.S. Government Contractors
- 3 FATCA (Foreign Account Tax Compliance Act)
- 4 OVDP (Offshore Voluntary Disclosure Program) and IRS Streamlined Program
- 5 FBAR (Report of Foreign Bank and Financial Accounts)
- 6 8938 (Statement of Specified Foreign Financial Accounts)
- 7 FEIE (Foreign Earned Income Exclusion)
- 8 Income Tax Treaties
- 9 Estate Tax Treaties
- 10 ECI (Effectively Connected Income)
- 11 FDAP (Fixed, Determinable, Annual, Periodical)
- 12 Un-Filed U.S. Tax Returns
- 13 BUSINESS TAXES
- 14 Foreign Business & Investment Tax Law Summary
- 15 Tax Treaties
- 16 Tax Structure of the Foreign Country
- 17 Permanent Establishment
- 18 Controlled Foreign Corporation (CFC)
- 19 Transferring Assets to a Foreign Corporation
San Jose Tax Lawyers & Enrolled Agents: Golding & Golding provides tax defense to our San Jose clients in IRS Tax matters, including Tax Audits, Tax Planning, Entity Structuring, Foreign Compliance, and Tax Litigation. Our clients include U.S. Citizens, Legal Permanent Residents, Foreign Nationals, Businesses and Expats throughout San Jose, as well as neighboring cities, including Palo Alto, Mountain View, Redwood City, Milpitas, San Mateo, Cupertino, Sunnyvale, Saratoga, Campbell, and Santa Clara.
Golding & Golding has successfully represented both domestic and foreign individuals, businesses, expats, estates and trusts with a diverse range of complex tax issues. We are one of the few tax firms in country with extensive experience in International Tax law.
Our International Tax Attorneys have worked with clients in all phases of global tax planning and litigation of multi-million dollar estates, representing individuals and businesses in tax audits, preparing and defending clients in the Offshore Voluntary Disclosure Program (OVDP), IRS Streamlined Program, Reasonable Cause Statements, and the Foreign Account Tax Compliance Act (FATCA) — as well as representing clients in state and federal court cases for tax and trust litigation.
We have also worked with foreign and domestic clients in developing foreign business structures around the globe, including successfully negotiating purchase/sale agreements and contracts on behalf of clients with assets located in several different countries simultaneously; we are adept at applying foreign laws in compliance with U.S. related transactions.
In addition, our international tax attorneys have extensive litigation experience. Unlike other tax law firms comprised of CPAs, attorneys who either have no real trial or litigation experience or only have experience working for the IRS and/or other State tax authority, when it comes to audit defense and litigation we have dedicated our tax practice to defending your rights against the Internal Revenue Service, Employment Development Department and California Board of Equalization.
Expats and U.S. Government Contractors
The Long-Arm of the IRS is very long. Thus, no matter where you live, if you are a U.S. Citizen, Legal Permanent Resident (aka Green Card Holder) or Foreign National subject to U.S. Tax, the IRS will find you. Many times, expats believe they are not required to file U.S. tax since they reside overseas and their income is non-U.S. source income. Moreover, government contractors who work overseas – of which many are former military – also believe that they are not required to file and pay U.S. taxes, which is incorrect and can lead to IRS levies, liens, penalties, seizures or property – or worse.
It is important note that the IRS does not double-tax (most of the time) if you can prove that you already paid foreign taxes on the earnings overseas to a foreign tax authority. Many times, if a person works overseas they are entitled to either a FEIE (Foreign Earned Income Exclusion) or FTC (Foreign Tax Credit).
FATCA (Foreign Account Tax Compliance Act)
FATCA is the Foreign Account Tax Compliance Act and is an IRS International Tax Law that brings unreported foreign income & overseas assets into IRS Tax compliance. Our International Tax Attorneys work with individuals, businesses and trusts to ensure compliance with FATCA initiatives, account disclosures, and withholding requirements.
OVDP (Offshore Voluntary Disclosure Program) and IRS Streamlined Program
OVDP is the IRS and DOT’s Offshore Voluntary Disclosure Program which is designed to facilitate international tax law compliance by U.S. citizens, Legal Permanent Residents (Green Card Holders) and Foreign Nationals subject to U.S. Tax by allowing the late reporting off individual, business, and trust foreign income, assets, bank and financial accounts.
*These programs are very detail-oriented. Many non-attorneys and inexperienced tax attorneys will attempt to sell you on the “ease” of the program. If someone tells you the submission is “easy,” that just means they haven’t handled enough of these submissions to understand the nuances of the program as well as the pitfalls that an inexperienced tax attorney, enrolled agent or CPA would simply not know to look out for.
**In addition, unless you are represented by an Attorney, there is no attorney-client privilege – which means if you retained a CPA or Enrolled agent to represent you who is not also an attorney, he or she may be required by the IRS to testify AGAINST YOU!
FBAR (Report of Foreign Bank and Financial Accounts)
In addition to IRS reporting requirements, U.S. persons, which include U.S. citizens, resident aliens, trusts, estates, and domestic entities that have an interest in foreign financial accounts and meet the reporting threshold of having more than $10,000 in any aggregate total of foreign accounts overseas are required to file FBARs (FinCEN 114) statements with the Department of Treasury to report their accounts – failure to do so can have a very serious financial impact, including severe monetary penalties. We have extensive experience helping client navigate these reporting requirements. These forms are not filed with your tax returns and is not dependent on whether you are required to file an 8938.
8938 (Statement of Specified Foreign Financial Accounts)
Specified individuals, which include U.S citizens, resident aliens, and certain non-resident aliens that have an interest in specified foreign financial assets and meet the reporting threshold are required to file the 8938 with their tax returns. The threshold requirement for having to file the 8938 form is higher than that of the FBAR. A taxpayer is only required to file these forms if he or she has $50,000 on the last day of the tax year or $75,000 at any time during the tax year (higher threshold amounts apply to married individuals filing jointly and individuals living abroad). In addition, generally if a person is not required to file a tax return then they are also not required to file an 8938 statement.
FEIE (Foreign Earned Income Exclusion)
The Foreign Earned Income Exclusion is a tax “gift” for individuals who work overseas (non-self employed). If a person works overseas in another country (not for the employees of the U.S. Government) and meets either the BFP (Bona-Fide Presence Test) and/or the PPT (Physical Presence Test) then he or she can “exclude” upwards of $100,000 in income and around $16,000 in housing benefits from their income. So for example, if you earned $200,000 overseas and qualified for this exclusion, you would only be taxed on $100,000 – and you might get to deduct more money for housing benefits you received.
*There are very strict requirements in meeting either one of these two tests tests.
Income Tax Treaties
The United States maintains Income Tax treaties with nearly 60 different countries, as well as Estate Tax treaties with less than 20 countries. The purpose of these treaties is to ensure that foreign nationals, as well as U.S. citizens operating in foreign countries are treated fairly when it comes to the imposition of different taxes – including avoiding “double tax” on the same monies.
Generally, if a country has good relations with the U.S. and has entered into a tax treaty with us, then it provides safeguard and benefit tax rates, including business taxes, interest income, investment income, dividends, licensing fees, royalties, and more.
Estate Tax Treaties
In an effort to reduce estate tax, the United States has entered into Estate Tax Treaties with the following countries. Each treaty is different, and based on the substance of the treaty, individuals who would otherwise be subject to gift and estate tax in another country may avoid having to pay this type of tax altogether!
ECI (Effectively Connected Income)
At its most basic level, ECI or Effectively Connected Income is income that is considered U.S. Income. Where this becomes a problem for many people is when a person resides in another country but earned income in the United States that does not qualify for FDAP treatment (see below) and/or meet one of the exceptions to having to report the income. We have helped many individuals who earned U.S. income, reside overseas, and only learned of their filing requirement when they received a notice of a Levy or Lien from the IRS.
FDAP (Fixed, Determinable, Annual, Periodical)
When income is FDAP, it is generally a type of ongoing payment, in amount that is known to going to be paid, although it does not need to be paid at regular or periodic intervals. Depending on whether the U.S. has an income tax treaty with the foreign country will determine if the specific type of FDAP such as bank interest income will be taxed. FDAP is generally taxed at a 30% unless the U.S. entered into a tax treaty with the specific country and it does not otherwise qualify to be effectively connected income. Deductions and netting are not allowed against FDAP income.
Un-Filed U.S. Tax Returns
A common way individuals (U.S. Citizens, Legal Permanent Residents or Foreign Nationals subject to U.S. tax) get themselves into U.S. tax trouble with the IRS is failing to file tax returns. The United States taxes “persons” subject to tax on their worldwide income – it does not matter if you live or earn money overseas; if you are subject to U.S. tax, then that income must be reported. The failure to file these tax returns can have significant consequences, including Tax Penalties, Liens, Levies, Seizures or worse.
*You do not need to live in the U.S. to file a U.S. tax return with the IRS and our Tax Attorneys and Enrolled Agents (Highest Credential issued by the IRS can assist you)
With the globalization of today’s economy, it is not uncommon for businesses and entrepreneurs around the world to develop strategies for expanding their businesses worldwide.
Whether it is forming a Foreign Branch of a U.S. Company, Foreign Subsidiary, Foreign Holding Company or a Foreign Company forming a U.S. Branch, it is crucial that business owners have a solid understanding of the tax ramifications of their international business operations and decisions.
The most cost-effective way for an international business to navigate the murky waters of international tax is to asses foreign and U.S. Tax issues before operating overseas; otherwise, issues such as CFC rules and PFIC reporting can sink a ship before it even sets sail.
Foreign Business & Investment Tax Law Summary
Generally, a U.S. business is going to be taxed on its global earnings. If the business is based in the United States, then the owners of the business will generally pay U.S. Tax on the foreign earnings under IRS Worldwide Income Reporting, CFC and PFIC rules, as well as foreign tax (depending on each foreign country’s residence requirements and if the U.S. entered into a treaty with the particular(s) foreign country).
*The U.S. company can usually apply for a Foreign Tax Credit against the Foreign Taxes it has already paid.
Both the U.S. and foreign countries understand that issues involving double taxation and differences in global tax regimes can bring unnecessary complications to an otherwise simple tax situation – and deter international trade – which is why the U.S. has entered into tax treaties with nearly 60 countries (estate tax treaties with around 16 countries)
When it comes to international sales some basic tax issues that must be considered are for example:
- Does the Foreign Country have an international tax treaty with the United States?
- Is the U.S. business operating overseas as a subsidiary or branch office?
- Are there ways to avoid immediate tax liability on foreign income which is/will not be not distributed?
- What are the withholding requirements for payments to foreign persons?
- What are the disclosure and reporting requirements US business conducting overseas (FBAR, FATCA, PFIC, CFC, etc.)
The United States has entered into tax treaties with nearly 60 foreign countries. The main idea behind tax treaties is that the United States does not want taxpayers who operate in “U.S. friendly countries” to be deterred by the threat of double taxation. Moreover, the United States generally enters into tax treaties with countries that it likes, and therefore provides additional tax benefits to Tax Treaty countries such as reduced passive income tax rates as well as the elimination of certain foreign taxes.
Many times the tax treaty will include a reduction in taxes for certain types of income such as FDAP (Fixed, Determinable, Annual and Periodical). FDAP is generally income earned from investments or “passive income.”
Even without a tax treaty, “portfolio interest” is a common example of passive income which is income earned overseas or from a foreign institution and may not be taxable in the United States (or taxed at a reduced rate). This may significantly impact a PFIC (Passive Foreign Investment Company) that is in the business of lending money. In addition, foreign interest received from a bank is also usually exempted.
While FDAP is passive income, there are also a different set of laws that apply to ECI (Effectively Connected Income, which is usually “active” income) that goes beyond the scope of this article. It is important that a business thoroughly reviews and evaluate tax treaty laws before determining which country the business is going to operate in. Unless there is a specific reason why the business must operate in a particular foreign country, it would usually be in the best interest of the business to operate in foreign countries which have signed a U.S. Tax Treaty.
By reviewing the tax treaty beforehand, the business can also gain guidance as to how certain items taxed, such as rents, royalties, dividends, and other income will be taxed.
Tax Structure of the Foreign Country
When a US company is deciding which country it wants to expand into, another issue to consider is how the tax structure is set up in the particular foreign country. Not only can this assist with integrating tax reduction strategies, but will also include an overall enhancement in the company’s tax organization and compliance.
In most countries, there are two general laws in determining how the country is going to tax the business. It will all depend on whether the country taxes businesses as a resident and/or nonresident. Not all countries define the term resident and nonresident same – especially when it comes to taxation of business profits.
If a business is going to be considered a resident of a foreign country then the business is going to either be taxed by that country on its worldwide Income or only on the income earned in the particular country (this will vary depending on the residence of the business owners, the structure of the company, and which country the company was formed in).
Thus, if the business decides it wants to develop a company in Austria and the business is considered to be a resident of Austria (generally means Austria will be the main focus of management operations) then the company is going to be taxed on all of its income. When a business is a resident business of that foreign country than that foreign country would typically have the right to tax that business on its worldwide sourced income.
*Tax Treaties carve out numerous exceptions, such as a “Permanent Establishment” requirement to being taxed by the foreign jurisdiction.
Alternatively, if the business is considered a nonresident business (the business does not conduct its main operations from the particular foreign country), then that foreign country generally only has the authority to tax the company on its foreign source income in that particular country. So taking the Austria example, if a company formed a branch or subsidiary in Austria then as a nonresident company, Austria can only tax the company on profits earned in sales or other income sourced in Austria.
*As you can imagine, when it comes time for international companies to file US tax returns, it is important determine how much has been paid in foreign tax, to determine what type of tax credit from community intends
Not all countries follow the resident versus nonresidents tax analysis. For example, Hong Kong utilizes a “territorial” system, which means that in Hong Kong it does not matter whether you are a resident Corporation or nonresident Corporation. If you earn profits outside of Hong Kong, then Hong Kong does not generally tax you on those earnings; if you have earnings inside of Hong Kong, then you are taxed.
Before a business decides whether or not it is going to set up operations in a foreign country, one of the main reasons why it must determine if there is a tax treaty with the United States is to determine whether the “permanent establishment” is an issue.
Most, if not all of the tax treaties a foreign country has with the United States makes reference to a permanent establishment. The analysis for a personal establishment can become somewhat complicated and involves different prongs and factors to determine whether a permanent establishment has been made.
For the most part, if a business from country A conducts business in foreign country B, then unless that business sets up a permanent establishment in country B, country B will not tax the company. In other words, Country B will only tax the earnings on profits earned from the business if there is a permanent establishment in country B.
In order to determine whether a permanent establishment exists, there is a two prong analysis:
- Whether the corporation has a fixed place of business within the target country, as defined under the language of a specific treaty
- Whether the corporation operates in the target country through a dependent agent that habitually exercises the authority to conclude contracts on behalf of the corporation in the target country
The analysis of permanent establishment should be conducted before a business decides to conduct business in any particular foreign country.
Controlled Foreign Corporation (CFC)
A controlled foreign corporation is a complex concept which was introduced in order to combat attempts to avoid immediate taxation on foreign profits.
For example, let’s say a person is a U.S. Taxpayer (usually a US citizen or legal permanent resident) and decided to purchase interest in a foreign company. Before the introduction CFCs, many people would develop strategies to suspend foreign earnings overseas to avoid tax consequences.
In other words, if the US taxpayer earned a half-million dollars in foreign income, instead of having that money distributed to the US taxpayer, the taxpayer would have that money remain overseas and develop creative ways to keep that money offshore without having to disclose it (this is also before the days of FATCA).
It became common for the US taxpayer to either not report the earnings (technically they had not been distributed to shareholders) and/or would simply have the foreign company provide loans to the shareholders instead of dividends – in which the company would then forgive the loan. Depending on which country the business operated in, it may not have had to report loan forgiveness; moreover, since the US taxpayer received a “loan” and not income there is nothing to report in terms of income.
As a result, taxpayers saved billions of dollars in tax payments.
The United States, along with several other countries, did not look kindly upon this practice and therefore introduced the concept of controlled foreign corporations and subpart F income.
The definition of a controlled foreign corporation (for US tax purposes) is as follows:
- Controlled Foreign Corporation Defined . A controlled foreign corporation is any foreign corporation in which more than 50 percent of the total combined voting power of all classes of stock entitled to vote is owned directly, indirectly, or constructively by U.S. shareholders on any day during the taxable year of such foreign corporation or more than 50% of the total value of the stock is owned directly, indirectly or constructively by U.S. shareholders on any day during the taxable year of the corporation.
- U. S. Shareholder Defined . A U.S. shareholder is a U.S person (defined in IRC section 957(c)) who owns directly, indirectly, or constructively 10 percent or more of the total combined voting power of all classes of stock entitled to vote in a foreign corporation.
The general rule of thumb is that if a total of 50% of the voting power or value of the foreign corporation’s stock is owned by US shareholders, then subpart F income rules coming to play. US Shareholders own at least 10% of voting stock.
There are ways to work around these numbers, such as if the company is owned 50% by US persons, and each US person owns less than 10% of the value of combined voting power of the classes of stock – but this generally defeats the purpose for small businesses and entrepreneurs who own the company as only a few shareholders and do not want to bring in additional U.S. or Foreign Investors.
These are just some of the many different factors that must be taken into consideration before determining whether the company should operate in the particular foreign country. There are other common issues such as Thin Capitalization, Transfer Pricing, and VAT registration which must also be considered before determining which foreign country to operate in.
Transferring Assets to a Foreign Corporation
Due to the concern that individuals and corporations might attempt to shift income overseas by transferring property with built-in gains to foreign corporations, the United States does not provide the same nontaxable event protection when properties are transferred into a foreign corporation.
As a result, Internal Revenue Code section 367(a) essentially treats the transfer of property, which can also include stock, by a US person to a foreign Corporation as a taxable event unless the transfer qualifies for an exception. Click Here to read a recent article we authored.