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Summing It Up

Keeping you ahead of the curve with timely news & updates.


Do You Need to Include the Sec. 965 Transition Tax on Your April 17, 2018 Tax Return or Extension?

Use this handy guide from the international tax experts at Freed Maxick to pinpoint your Sec 965 compliance requirements re: foreign earnings

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Included in the Tax Cuts and Jobs Act of 2017, Sec. 965 requires US shareholders to pay a transition tax on certain, specified foreign earnings as if those earnings had been repatriated. 

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Sally P. Schreiber, J.D, writing in The Tax Advisor blog states that, “Sec. 965 applies to the last tax year of certain specified foreign corporations beginning before Jan. 1, 2018, and the amount included in income is includible in a U.S. shareholder’s year in which or with which such a specified foreign corporation’s year ends.”

Consequently, some taxpayers have discovered they are responsible for paying this transition tax when filing their 2017 tax returns.

Our team made a closer examination of who is required to comply with the Sec 965 transition tax on their April 2018 return or extension. We put our findings into a decision tree that will help you understand and discuss your obligations with your tax advisor.

You can download this complementary tool by clicking on the button.

Sec 965 Tax Reform Assistance

Our international tax team is available to answer any questions about Sec 965 tax reform or other international tax compliance obligations you might have because of the new tax act.

Call me at 716.847.2651, or contact me via form, here.

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International Tax Accounting: Mandatory Repatriation “Toll Tax” of Income Earned by Controlled Foreign Entities

international-tax-large-583388-edited.jpgThe Tax Cuts and Jobs Act signed into law by President Trump has been at the forefront of the national news since its passage in December. There are sweeping changes to the individual, business, and international taxpayers.

The Act will have an immediate and significant impact on taxpayers involved in business out of the country. For taxpayers with an ownership position in a Specified Foreign Corporations (“SFC”), the new Act requires them to pay an 8% to 15.5% “toll tax” (for individuals it could be up to 17.5%) on all deferred foreign income of these entities as of November 2 or December 31, 2017, whether a distribution has been made or not. Different tax rates are applied based on the SFC liquidity.  

So how does this all work?

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More About Specified Foreign Corporations

An SFC is any controlled foreign corporation (generally meaning greater than 50% US ownership) or any foreign corporation to which one or more domestic corporation(s) is a US Shareholder (generally meaning greater than 10% ownership).

This means that any US Shareholder whether a domestic corporation, partnership, individual, trust, or estate, that meets these requirements as a shareholder will be subject to this toll tax if they have deferred foreign income.

US Shareholders with interests in S Corporations that have an interest in an SFC can defer the mandatory repatriation tax as long as they make the election at the shareholder level. This election can be revoked if certain events occur.

The Basis for the New International Toll Tax: From a Worldwide to a Territorial Perspective

The Toll Tax was created by an overall change in the way international tax requirements are imposed, from a worldwide system to a modified territorial based system.

Prior to the new Act, a US person was required to pay tax on all of its income, regardless of whether it was earned in the US or in a foreign jurisdiction. However, US income tax was paid on the earnings of a foreign corporation when they were repatriated back to the US in the form of a dividend or capital gain.

This created a deferral on US income taxes for earnings of a foreign corporation between when it was earned and when it was distributed. Under this worldwide system, the US person was generally allowed a foreign tax credit to alleviate some or all of this burden.

Under the Act’s new territorial system, a US person will only pay tax on income that is earned within the United States. In most circumstance, dividends from foreign corporations will now be exempt from tax if received by a US corporation and in most other circumstances a foreign tax credit will still be available for other amounts earned in a foreign jurisdiction. In order to bridge the gap between the two international tax systems, this mandatory repatriation or “toll tax” has been put into place.

How to Calculate the Toll Tax

To calculate the “toll tax”, the US shareholders will increase their Subpart F income by the accumulated net earnings and profits of all their specified foreign entities since becoming an SFC as of December 31, 2017 or November 2, 2017, whichever is greater.

Accumulated deficits are included in this calculation to offset any accumulated earnings but not below zero. In order to arrive at the lower tax rates, 15.5% on your aggregate foreign cash position and 8% on the remainder, a deduction will be calculated at the highest corporate rate to reduce the Subpart F income included on the taxpayers’ tax return. The taxpayer is also allowed to utilize a portion of their Foreign Tax Credits to offset the mandatory repatriation tax but must also include a gross-up in its income for the amount of these taxes.

The increase in the subpart F income and correlating deduction is reported during the specified foreign entities last tax year beginning before January 1, 2018. Therefore a US Shareholder that owns a calendar year SFC will report the increase in subpart F income and relating deduction on its 2017 tax return. For fiscal year SFCs, the subpart F income and correlating deduction will be reported in its US Shareholder’s tax return in 2018.

The US Shareholder can elect to pay the “toll tax” over 8 years. The taxpayer will have to pay 8% of the “toll tax” in years one through five, 15% in year 6, 20% in year 7, and 25% in year 8. There are acceleration provision to the payment of the “toll tax” if the taxpayer fails to pay timely, in the case of a liquidation, or the sale of all of its assets.

International Tax Planning: Consequences for Your 2017 Tax Return and Obligations

Since calendar year SFCs will be reported on the US Shareholder’s 2017 tax return, taxpayers must keep this in mind if they plan on extending the due date of their 2017 tax returns. Extending the due date of filing a tax return does not extend the time to pay the tax due with the tax return.

Since one of the accelerated provisions is failure to pay timely, the taxpayer must ensure that they have timely paid 8% of their “toll tax” by the original date of the tax return, not the extended date. If they do not have their tax fully paid in it could cause the taxpayer to have to pay the entirety of the “toll tax” immediately instead of over 8 years.

Connect with a Freed Maxick International Tax Accountant

If you have any questions or concerns about how this mandatory repatriation tax may impact you please reach out to the International Tax Services Team at Freed Maxick for a complementary InternationalTax Situation Review.

If you have any questions or concerns, call the Freed Maxick international tax accountants at 716-847-2651 to discuss your tax situation or start the process of setting an appointment by clicking here and submitting your contact information.

Tax Situation Review

For more insight, observations and guidance on the new Tax Cuts and Jobs Act, visit our Tax Reform webpage.

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Canada Death Tax System vs. USA Death Tax System: A Comparative Overview

death-tax-systems-us-and-canada-edited.jpgIn the Great White North, there’s 5 pin bowling, and in the U.S., there’s 10 pin

-Bob and Doug McKenzie

Funny, but that simple phrase sums up the differences between estate taxes in the U.S. and Canada. Like bowling, both countries have a tax that is due upon a taxpayer’s death, it’s the same thing, (a tax) but it’s different. The following is a brief comparison of the death tax systems in both countries.

Having Assets in Canada Versus Having Assets in the U.S.

While there is no estate or inheritance tax in Canada, upon a Canadian taxpayer’s death, they are deemed to have sold their qualifying assets. A final income tax is calculated on the deemed gain on disposition of qualifying assets. Citizenship is irrelevant for this tax, it is based on residency or the location of the assets. The tax is reported on the decedent’s final income tax return.

Upon a U.S. taxpayer’s death, all of their property is valued at its current fair market value, less any deductible expenses and liabilities, and is taxed at estate tax rates. The tax is reported on an estate tax return. Unlike Canada, for all U.S. taxes, including estate taxes, citizenship is everything. Even if a U.S. citizen doesn’t reside in the U.S., estate taxes are based their worldwide assets. The current U.S. tax code allows for an exemption equal to the tax on $5,490,000 of the net taxable estate.

What If I Have Assets in Both Canada and U.S.?

If a taxpayer has assets in both the U.S. and Canada, both country’s estate tax could come into play. However, there is treaty relief from double taxation. If a Canadian taxpayer is subject to U.S. estate tax, there are treaty exemptions that allow for partial application of the $5,490,000 exclusion based on U.S. assets as a percentage of total worldwide assets. For a U.S. taxpayer subject to Canadian final income tax, the tax paid to Canada is creditable against U.S. estate tax on those assets subject to Canadian tax.

In the Buffalo area, owning property on the beach in Canada has been occurring for generations. Conversely, many Canadians purchase vacation homes in the southern U.S. for winter getaways. In addition to the cross border ownership of real property, it has become increasingly common for taxpayers to own closely held businesses in the non-resident country. Because of the interplay between the two country’s “estate” tax laws, careful cross border planning is recommended when a taxpayer desires to own real estate or other property in the U.S. or Canada when they are a citizen or resident of one country but not the other. It is generally best to own foreign investments through an entity such as a trust, LLC, or corporation rather than directly. If property is currently owned directly, there are options that can remedy exposure to estate or final income tax respectively.  

Getting the Right Cross Border Tax Planning Guidance

If you currently own or are considering investment in property in the U.S. or Canada and are not a current resident or citizen of the country where your investment property is located, we can assist you in U.S.-Canada cross border tax planning considerations that can help you bypass estate tax issues for the non-citizen/non-resident country, contact us here.

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U.S. State and Local Tax Considerations for Canadian Businesses Looking to Expand

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More and more Canadian companies are expanding their business activities into the United States. The states are becoming increasingly aggressive in enforcement and assessment of various state taxes and have changed their laws in order to capture more revenues. For these reasons, state tax considerations and planning have become a hot topic for Canadian companies in recent years.

Canadian companies expanding their operations into the United States need to be aware of the state tax implications. State tax laws differ greatly from federal laws and vary widely among the states themselves. Although the treaty between Canada and the United States provides for an exemption from federal income taxes in the United States in certain circumstances (i.e. lack of a permanent establishment or fixed place of business), in most cases the states do not recognize this exemption.

Some state tax implications a Canadian company should be aware of when they start doing business in the United States are as follows:

  • In most states, there is no state income tax exemption under the treaty.
  • In most states, a Canadian company will be taxed on worldwide income (subject to state apportionment).
  • It may be easier to have “nexus” and be subject to tax in a state than you would think. Nexus is generally defined as a “certain level of business activity conducted within a taxing jurisdiction allowing that jurisdiction the legal right to impose tax.”
  • The definition of state nexus differs considerably from the federal definition of permanent establishment, varies from state to state, varies by tax type, and has changed in recent years with the adoption of the concept of economic nexus.
  • In most states, soliciting sales through independent representatives or an employee is enough to give a company some type of state tax nexus.
  • In some states, having sales into a state greater than a certain threshold will trigger a state income tax filing requirement.
  • In most states, delivering product in company owned vehicles is enough to give a company some type of state tax nexus.
  • In most states, having inventory on consignment is enough to give a company some type of state tax nexus.
  • States impose various state taxes, including but not limited to sales tax, income tax, personal property tax, franchise tax, payroll tax, and real estate tax.
  • When a business fails to pay sales tax or other trust fund taxes, state law allows a state to hold a “responsible person” personally liable for these taxes.

State nexus is complex and should be considered fully before expanding into the United States. Even a minimum amount of activity in a state could trigger a registration or state tax filing requirement. 

If you would like help with U.S. tax compliance for a Canadian business and reviewing your activities in the states or state tax exposure, contact a member of Freed Maxick’s experienced International Tax or SALT Group for assistance.

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Transfer Pricing Methods for Intangible Property

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In recent years the IRS has focused more heavily on the transfer pricing of intangible property. Section 482 of the regulations provide guidelines so that these controlled transactions are conducted at an arm’s length when intangible property is owned by one company but used by another related company in another jurisdiction.

In this post, we'll summarize the different types of methods that are available to compare intercompany transactions of intangible property to uncontrolled transactions.

Intangible Property Can Come in Many Forms

Some of the most common intangible property that may be shared between related parties in separate jurisdictions are patents, know-how, trademarks and trade names. The available transfer pricing methods for pricing transfers of intangible property are as follows:

Comparable uncontrolled transaction transfer pricing method: Under this method you would be comparing the controlled transaction (intercompany/related party) to an uncontrolled transaction (unrelated/third-party). The intangible property must be used with similar products/processes in the same industry or market and have a similar profit potential.

An example of this would be if a company had a manufacturing process that it allowed its related company to use as well as an unrelated company in the same country with the same profit potential. For tax purposes, the company will need to prove that they are pricing the uncontrolled and controlled transactions the same. If there are different factors that need to be considered such as risk and an adjustment can be readily calculated, those need to be considered as well.

Comparable profits transfer pricing method: This method is based on profit level indicators. The goal of profit level indicators is to identify the amount of profit which would have been earned in an uncontrolled transaction of a similar taxpayer. Profit level indicators can be based on assets (operating profit / operating assets), sales (operating profit / sales), or expenses (gross profit / operating expenses). The reliability of these indicators can vary depending on size, industry, or relevant product lines, so it is important to understand the nature of the business and the uncontrolled taxpayer(s) with which you are comparing.

Profit split transfer pricing method: There are two ways the profit split method which can be used—the comparable profit split and the residual profit split. In practice, the comparable profit split method is rarely found as it’s based on profit from an uncontrolled transaction involved in similar transactions and activities. As this information is rarely available, the more commonly used is the residual profit split method.

Under the residual profit method, the first step is to allocate a portion of the income to each of the “routine” activities of the taxpayers. Next, the remaining residual profit is divided among the controlled taxpayers based on the value of the non-routine business activities in the process. Routine business activities are considered to be those directly related to the operating profit of the business. Non-routine activities would include the value of intangible property.

Unspecified methods: Used if a method other than those listed above is considered the best for the specific situation.

Avoid Penalties with Contemporaneous Transfer Pricing Documentation

While the implementation of the transfer pricing adjustments into your taxable income is very important, another critical aspect of transfer pricing is the documentation. Transfer pricing documentation on all intercompany transactions, including those on intangible property, must be contemporaneous. This means that it must be in place as of the time the tax return is filed. Without documentation there could be severe penalties of 20-40% of the underpaid tax due on the transfer pricing adjustments that the district director deems reasonable for the intercompany transactions.

If you need assistance with your transfer pricing documentation or would like to discuss specific transactions, please contact us to learn more about how we can assist with transfer pricing studies.

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Got Intercompany Transactions? Transfer Pricing Under Increased Scrutiny

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Does your company have intercompany transactions? Do the transactions cross over multiple foreign local jurisdictions?

If you answered yes to either of these questions, you may be at risk for a transfer pricing adjustment from the IRS, foreign jurisdiction, or even a state jurisdiction. In addition, with the current OECD base erosion and profit shifting (BEPS) action items coming into the spotlight, transfer pricing should be at the forefront of all companies. Each entity should be analyzing their intercompany transactions to ensure they can be supported as arm's length transactions. This analysis can provide support that the taxpayer is not intentionally shifting profits into a lower tax jurisdiction at a rate that is unreasonable, and also provide excellent tax planning opportunities.

Intercompany transactions cover many different types of transactions. Some examples are as follows:

  • Tangible transactions from a manufacturer to a related-party distributor
  • Intangible transactions of know-how from one related-party to another
  • Fees for services of one related-party to another
  • Management fees for centralized corporate offices for services such as admin, HR, and finance

The key phrase to all transfer pricing is “arm's length.” Arm's length means that the transaction should be executed as if it were being done with a third-party. There should be no advantage to the transaction due to the intercompany nature. According to the U.S. and many foreign jurisdictions regulations, each intercompany transaction must support that their transactions are at arm’s length and the company is not trying to erroneously shift profits to lower tax jurisdictions.

Got Support?

Do you have support that shows the intercompany transactions are at arm’s length? Do you have intercompany agreements in place that are followed for these intercompany transactions?

If you answered no to either of these questions, you may not have the adequate support that the IRS deems necessary according to the transfer pricing regulations in Section 482. These documents are meant to be contemporaneous in nature, which means that they should exist as the intercompany transactions exist. As part of the increasing scrutiny on transfer pricing, a company that faces an IRS audit will most likely be asked for their contemporaneous transfer pricing documentation.

The documentation required by the IRS is known as the following 10 principal documents:

1. Overview of your company’s business
2. Description of your company’s organizational structure
3. Any document explicitly required by the §482 regulations
4. Description of the method selected and the reason why the method was selected
5. Description of the alternative methods considered and rejected
6. Description of the controlled transactions and internal data used to analyze them
7. Description of the comparables used, how comparability was evaluated, and what adjustments were made
8. Explanation of the economic analysis and projections relied on
9. Summary of any relevant data that your company obtains after the end of the tax year and before filing a tax return
10. General index of the principal and background documents, and a description of your record-keeping system

While these are the documents the IRS requests, companies should continue to be cognizant of the level of risk in their intercompany transactions and whether or not an entire transfer pricing study is deemed necessary according to the company’s appropriate level of risk. A more practical approach may be available if the company decides that the risk level of their transactions is minor.

What Should Companies Do?

With transfer pricing being a hot topic in the tax world, companies should have documentation on the intercompany transactions that cross over multiple jurisdictions. Taxpayers should be able to support that their intercompany transactions are being transacted at an arm's length standard to the IRS if an audit were to occur. This documentation is important as protection for the company should an audit occur and could be used as a tax planning tool to be able to reasonably, within an arm's length standard, shift profits to a lower tax jurisdiction. For expert guidance in compiling and reviewing your documentation, please contact us.

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Are You a U.S. Resident? (You Might Be For Estate Tax)

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Things as certain as death and taxes, can be more firmly believ’d.” - Daniel Defoe

Most U.S. nonresidents are aware these days that if you move to the United States or have U.S. investments, you may become subject to U.S. income tax laws. But what may not be as well known is that you may also be subject to U.S. estate tax, even if you don’t earn any income or file income tax returns.

The Internal Revenue Code is notoriously complex and this area is no exception. The Internal Revenue Code actually has two separate determinations for taxing a foreign person: residency for the income tax, and domicile for the estate tax. Even if you are not a resident for income tax, you can still be considered domiciled for the estate tax.

The IRS defines residency for income tax under a number of different tests, including whether the taxpayer holds a green card or if they’ve been in the country for a substantial portion of the year. You can also make the First-Year Election to declare your residency on the first U.S. income tax return you file.

When it comes to the estate tax, federal regulations determine a “domicile” as living somewhere for a period of time without any immediate plans of leaving. Domicile depends on both physical presence and intention to stay in the country. Simply put, if you intend to stay, you’re domiciled, but if you plan to leave, you need to actually leave.

If a person is deemed to be a U.S. resident for estate tax, their worldwide assets are subject to the estate tax. If someone is a nonresident, only assets with situs in the United States are subject to inclusion in his or her estate.

What Can You Do if You Are Subject to U.S. Estate Tax?

At this point, you may be thinking, “I have U.S. and foreign assets, so how can I reduce or avoid U.S. estate tax?”

The answer to that question largely depends on your current situation.

If you’re a nonresident alien who has a domicile in the United States, there’s a certain amount of preplanning you can do in anticipation of this tax, such as gifting intangible property before establishing a domicile in the U.S. There are other measures you can take, such as having U.S. real estate and equities owned by a foreign corporation, to make sure you are in the most advantageous position in the U.S. and the foreign country.

It’s also important to consider whether a nonresident’s country of citizenship has a tax treaty in force with the United States. The U.S. has active tax treaties with many countries, and depending on the country, a nonresident individual may be entitled to the full $5,495,000 estate exclusion or only a statutory $60,000 exclusion.

Expatriation might seem like a good way to avoid the U.S. estate tax—and this may be the case in certain situations—but Section 2107 of the Internal Revenue Code makes nonresident aliens subject to U.S. estate tax if they were domiciled in the United States for a period of five years or more. The window for being subject to this tax is ten years and you are taxed on any assets (tangible or intangible) that are situated in the United States.

tax guide for CanadiansIf you are a foreign national living and owning property in the U.S. and have concerns that you may be subject to U.S. estate tax, we can help you sort out your options. We at Freed Maxick pride ourselves on our experience and expertise with these and other international tax matters. Please contact us if you have any questions.

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Investing in Foreign Mutual Funds? Beware of Filing Requirements and Liability Risks

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So you decided to invest in a foreign mutual fund. At first glance, the US income tax reporting requirements for income received from this investment appear simple: Just report dividends, interest income, and any capital gains on your form 1040 as if the income was received from a US mutual fund, right?

Unfortunately, the answer is not that simple.

Because the IRS classifies foreign mutual funds as passive foreign investment corporations, aka “PFICs,” there not only is additional reporting requirements for you the taxpayer, but any income received from these investments could be subject to a much higher tax rate and increase your overall tax liability significantly.

What is a Passive Foreign Investment Corporation?

The IRS defines a PFIC as any foreign corporation that meets either of the two requirements below:

  • At least 75 percent of the gross income from the corporation for the taxable year is passive income (e.g., dividends, interest, capital gains, etc.), or
  • The average percentage of assets held by the corporation that generates passive income is greater or equal to 50 percent.

Therefore, pooled investments registered outside the United States, such as foreign mutual funds and foreign hedge funds, will qualify as PFICs under the Internal Revenue Code.

PFIC Tax Implications

So now that we know a foreign mutual fund qualifies as a PFIC under US tax law, why is this significant?

For starters, your investment in the mutual fund must be reported separately on Form 8621 each year, regardless of whether or not you received income from the fund, provided that the value of the PFIC stock owned both directly and indirectly exceeds $25,000. While failure to file Form 8621 in this situation would not result in any penalties, it would leave the statute of limitations on all tax matters on the return open indefinitely, leaving you the taxpayer more vulnerable to potential IRS audits and additional tax assessments.

The biggest implication, however, is the additional tax and interest that might be owed on any passive income received from the fund during the year. While there are various elections you can make with regard to the recognition of income from the PFIC, let's assume that you did not know that the investment had to be specially reported and never made an election.

Instead of just picking up the income in the current year, income is subject to the “excess distribution” regime. As a result, any distributions classified as excess must be allocated among all tax years in your holding period and will then be taxed at the highest rate enacted by law in that year. In addition, since that tax was technically owed in prior years, you must also calculate interest owed. This amount of interest can add up quickly especially if you have held the investment for a long period of time and are now just reporting the income properly on Form 8621.

The IRS defines “excess distributions” that are subject to this additional tax as the following:

  • Any gain from the sale of the PFIC, or
  • Any distribution from the PFIC that exceeds 125% of the prior three year average of distributions previously received from this investment.

Takeaways

Suffice it to say, when it comes to reporting your foreign mutual fund investment on your tax return, the IRS requirements can be very confusing. Not only do you need to determine if you are required to file Form 8621, but you must also consider the various elections available to you (mark to market, qualified electing fund), what (if any) election to make, and how to properly report the income received and tax owed from these investments.

Stay tuned—another post on other types of PFIC investments is coming soon. If you have any investments in foreign mutual funds or are thinking about investing in some, please contact us for advice and potential planning opportunities.

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Why Are So Many People Renouncing Their U.S. Citizenship?

The Impact of the Foreign Account Tax Compliance Act (FATCA) of 2010

Expat_iStock_84123421-517146-edited.jpgBreathes there the man with soul so dead, who never to himself hath said, “This is my own, my native land.” - Edward Everett Hale, “The Man Without a Country”

 

Poetic and patriotic words, but the reality of today is that many U.S. citizens don’t feel this way about their native land. In 2015, 4,279 U.S. persons relinquished or renounced their U.S. citizenship, a record-breaking amount. Many analysts project that the total number of renunciations or relinquishments in 2016 will exceed the 2015 mark. To put these numbers in perspective, less than 300 people renounced their U.S. citizenship in 2006.

Looking at statistics like these, you may ask yourself: “Why are so many people giving up U.S. citizenship?” And possibly, “Is this something I should consider?”

The Foreign Account Tax Compliance Act (FATCA) of 2010 and other U.S. tax reporting regulations may have something to do with why this is happening.

A simplified explanation of the FATCA legislation is as follows:

  • It is primarily aimed at preventing tax evasion by U.S. taxpayers through the use of non-U.S. financial institutions and offshore investments.
  • Foreign financial institutions are required to identify accounts held by U.S. persons and report account information to the IRS. Absent this information, they are required to withhold U.S. tax on U.S. source income paid and may decline account opening or terminate services.

Furthermore, the U.S. tax system is based on citizenship. A U.S. citizen pays tax on their worldwide income no matter what country they live in.

Beyond the tax compliance burden, the financial institution impact of the FATCA legislation has significantly impacted U.S. citizens living abroad. Rather than attempt to comply with FATCA reporting requirements, many foreign financial institutions are simply refusing to open or hold accounts for U.S. persons.

To alleviate the financial hardship and tax compliance burden, many U.S. citizens living abroad have decided not to maintain their U.S. citizenship. U.S. citizenship can be terminated through renunciation. A formal renunciation of U.S. citizenship must be made in a foreign state, generally at a U.S. consulate, and there are several State Department forms to file along with a processing fee.

In addition to the paperwork and fees, the exit tax under Internal Revenue Code Sec. 877A may apply. Generally speaking, in order to avoid the exit tax you must:

  • be current with U.S. tax filings for the past 5 years,
  • have had annual U.S. tax liabilities below $160,000 for those 5 years, and
  • a net worth of less than $2,000,000.

If you find yourself in the situation where you are considering renunciation of your U.S. citizenship, there are planning opportunities and compliance requirements that must be considered. Contact Freed Maxick's International Expatriate Tax Services professionals to discuss your specific situation, or call to speak with an individual directly at 716.847.2651.

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Canadians Beware! You May Have Unintentionally Become a U.S. Resident

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Avoid potential tax ramifications in both the U.S. and Canada.

The United States has some mechanical rules for determining if one will be considered a resident for tax purposes.

Two Ways You Could Be a U.S. Resident

First, if you receive a Green Card, you will be granted the privilege of residing permanently in the U.S. as an immigrant. This will continue until either you surrender your Green Card or immigration authorities revoke it. As long as you hold a Green Card, you are required to file U.S. resident tax returns.

The second qualifying condition is if you meet the Substantial Presence Test. This is basically a 183-day of presence in the U.S. test—however, it's cumulative. You are considered a resident if you are physically present in the U.S. for at least 31 days in the current year, and the sum of the days in the current year plus 1/3 of the days physically present during the first preceding year, plus 1/6 of the days present in the second preceding year exceeds 183 days. (There are certain situations that allow an exemption of days for students, those in transit, commuters, and days spent for medical purposes.)

You must file a Form 8840 or Form 8843 and either attach it to your 1040NR or you may file it alone. These forms will exempt a non-U.S. citizen who meets the substantial presence test from being treated as a resident. They cannot be used by a Green Card holder.

There are also Treaty Tie Breaking Rules. Under Article IV of the U.S./Canada Treaty, there are several steps that you can follow to establish that even though you are present in the U.S. for over the required number of days, you actually have a closer connection to Canada. You must file a Form 8833 and disclose your position.

Now What?

If it is determined that you are a resident of the U.S. for tax purposes, you will be taxed on Worldwide Income, regardless of where it is earned. You will also be required to file any of the Foreign Reporting Forms required of U.S. persons, such as FBARs, and Forms 8938, 5471, 8865, 8621, and 3520, to name a few.

If you are determined to be a non-resident, you are taxed on U.S. Source Income only. However, if you are taking a Treaty Position to be taxed as a non-resident, you are still required to file all of the reporting forms as named above.

Canada also has established consequences for being out of the country for too long. The Entry-Exit Initiative was due to be implemented June 30, 2014. This does not have a temporary stay at the moment. Under the Initiative, travelers will be required to swipe their passports upon entering and leaving each country. Canada and the US will share this information. Both countries remain dedicated to full implementation of the Initiative.

When fully implemented, this Initiative would allow both countries to be able to track, in real-time, the number of days actually spent in each country. All days are counted in this total, including days for work, vacation, and day trips for shopping or entertainment. 

Once a Canadian resident loses his resident status, he is deemed to have disposed of his assets, which may generate a large tax bill. They may also risk the loss of the entitlement to Provincial Health Care. The time period out of the country depends on your Province of Residency.

In addition to being deemed a U.S. Resident for Income Tax purposes, a person's estate could also become liable to U.S. Estate tax.

A Word to the Wise

tax guide for CanadiansUse extreme caution on counting the number of days of presence in the U.S. Generally, snowbirds should not extend their time past 120 days per year. Under the cumulative test, 120 days consistently will bring you to 180 days over a three year period. You do not want to risk consequences from either country by exceeding this number.

Contact Freed Maxick's International Corporate Tax Services professionals to discuss your specific situation and avoid unexpected tax liabilities, or call to speak with an individual directly at 716.847.2651.

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