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Nonresident Taxability and Where or How? Nonresident? Is it Taxed and “If” So, “Where and How” on the Tax Return?

April 2, 2021

by: Marc J. Strohl, CPA, Protax Consulting Services Inc.

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The goal of this article is to provide a comprehensive checklist of information for the foreign national to consider prior to accepting an assignment in the U.S. This article is not designed to teach you the technical competence required to perform self compliance; however it will certainly arm you with the technical knowledge to determine if your U.S. tax preparer knows all that they should know to provide you with technically competent professional services.

 

If:

All U.S. nonresident aliens are taxable in the U.S., but only on U.S. source income.  Internal Revenue Code (IRC) Sec. 861 governs U.S. sourced income, IRC Sec. 862 governs Non-U.S. sourced income and IRC Sec. 865 governs sourcing rules for personal property sales. 

However, U.S. negotiated income tax treaties, if elected may override the source of specific items taxed, and therefore the applicable income tax treaties always need to be consulted in tandem with domestic U.S. law treatment. 

Additionally, in the case of U.S. persons- citizens and green card holders- the U.S. has conveniently slipped in to most income treaties a provision usually, under Miscellaneous Rules, to enable the U.S. to continue to tax U.S. persons as if the income tax treaty does not exist.  This is typically referred to as a “Savings Clause” or “Limitation on Benefits” clause.

 

Where and How:

All U.S. nonresident aliens are taxable in the U.S., but only on U.S. source income.  Internal Revenue Code (IRC) Sec. 861 governs U.S. sourced income, IRC Sec. 862 governs Non-U.S. sourced income and IRC Sec. 865 governs sourcing rules for personal property sales. 

However, U.S. negotiated income tax treaties, if elected may override the source of specific items taxed, and therefore the applicable income tax treaties always need to be consulted in tandem with domestic U.S. law treatment. 

Additionally, in the case of U.S. persons- citizens and green card holders- the U.S. has conveniently slipped in to most income treaties a provision usually, under Miscellaneous Rules, to enable the U.S. to continue to tax U.S. persons as if the income tax treaty does not exist.  This is typically referred to as a “Savings Clause” or “Limitation on Benefits” clause.

 

 

If and Where and How:

We have constructed a table to facilitate these determinations:

 

Income type:

U.S. source rule: “IF”

If U.S. sourced, effectively connected rule: WHERE and HOW:

Interest income

Received from a U.S. resident payer

Not effectively connected, unless from asset or produced by U.S. trade/ business. Under 871 interest from U.S. bank deposits not taxable.

Dividend income

Received from a U.S. domestic corporation

Not effectively connected, unless from asset or produced by U.S. trade/ business.

Personal service income- wages, salaries, commissions, fees. Per diem allowances & bonuses

If performed in the U.S.

Performance in the U.S. is considered effectively connected. 

Rent/ Royalties

Property located in the U.S.

Not effectively connected, unless from asset or produced by U.S. trade/ business.  However election on rental income to make effectively connected is available. 

Royalties

For use in the U.S.- patents, copyrights, good will TM, etc..

Not effectively connected, unless from asset or produced by U.S. trade/ business.

Real property sale

Property located in the U.S.

Always effectively connected

Inventory- purchased

Sold in U.S.

Always effectively connected

Sale of personal property:

Seller’s “tax home”, special exceptions include: depreciable, intangibles, sales through office / fixed place of business

 

Rate of tax/ Period covered:

– if in US 183 days or more during tax year= US source for entire calendar year at 30% or lower treaty

-if in US less than 183 days during tax year capital gains tax exempt unless effectively connect with US trade or business

Not effectively connected, unless from asset or produced by U.S. trade/ business (see below).  If not effectively connected Capital Asset (includes everything you own except business related assets, includes shares held for investment, basically all personal property) then- 183 day rule- or more, not effectively connected, less then  183 days and tax exempt. 

Reporting- Where: Report gains/ losses from sale/ exchanges of capital assets:

-NEC w/ US trade/business- Sch NEC

-ECI w/ US trade/business- Sch D.

-If you only trade stock through a U.S. resident broker you are not engaged in a U.S. trade or business.  Even if you are in the U.S.

-From asset or produced by U.S. trade/ business- Always effectively connected income, whether or not connection.  Two tests determine if investment income (fixed or determinable- interest, rent royalty, Gains (rare types) or Capital Gains) are effectively connected to business- 1) Asset Use and 2) Business Activities Tests.

Scholarships, grants, prizes and awards

Residence of payer for activities performed in U.S.

Either excluded or see Personal service income above.

Pension income

Portion related to U.S. performed services

See Personal service income above.

Alimony

Paid by a spouse to ex- spouse

Residence of spouse obligated to make payments

 

Marc J. Strohl, CPA is a Principal at Protax Consulting Services Inc. 
He may be reached at: Tel: (212) 714-1805, Fax: (212) 714-6654
Email: mstrohl@protaxconsulting.com
Web site: www.protaxconsulting.com

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