TAX PRESENTATION. By Ronald R. Fieldstone, Esq. and Rebecca Abrams Sarelson, Esq. Arnstein & Lehr LLP

Transcription

1 TAX PRESENTATION By Ronald R. Fieldstone, Esq. and Rebecca Abrams Sarelson, Esq. Arnstein & Lehr LLP 1

2 Table of Contents 1. Immigration Tax and EB-5 5 Planning (a) (b) (c) (d) (e) (f) Pre-departure planning before entering the US Taxation of Trusts Worldwide taxation for residents while residing in the US Tax rates and planning opportunities U.S. - China Income Tax Treaty Estate Tax Planning 2. EB-5 5 planning: How to avoid U.S. tax on income from China 3. Corporate Issues For New Residents 2

3 1. Immigration Tax and EB-5 5 Planning (a) Pre-Departure Planning Before Entering the U.S. (i) This is commonly referred to as pre-immigration tax planning. The objective here is to enable the foreign citizen who o will eventually become a United States resident to dispose of assets prior to becoming a resident in order that such dispositions will be tax free and the foreigner will no longer directly own assets which would subject those assets to U.S. income tax and estate tax. If these assets are placed in a trust mechanism, then, as will be discussed below, there t is a tax to the beneficiary generally only upon receipt of the distribution of funds and not otherwise. Furthermore, if properly structured, the t assets placed in the foreign trust may permanently avoid United States estate tax consequences. (ii) The foreign trust can then directly own interests in offshore entities doing business abroad. (iii) It is noteworthy that a foreign trust can actually be established in the State of Delaware or other states since the state s laws of Delaware provide for the administration of a trust that would be deemed a foreign trust for U.S. income and estate tax purposes based b upon certain provisions being added to the trust. 3

4 (b) Taxation of Trusts (1) Taxation of the Foreign Trust.. A nongrantor foreign trust is taxable as a U.S. income tax nonresident alien ( NRA( NRA ) ) with certain modifications. As such, a foreign trust would be subject to withholding tax at a flat 30% or lower treaty rate on U.S. source fixed, determinable,, annual or periodical income (other than certain exempt income). If the foreign trust had income that was effectively connected with a U.S. trade or business ( ECI( ECI ), it would be subject to U.S. income tax at the regular graduated rates. Foreign source income is generally not subject to U.S. taxation except in limited situations. (2) Taxation of the Foreign Trust s s U.S. Person Beneficiaries. (i) Current Income.. A U.S. Person who is a beneficiary of a foreign nongrantor trust must include in his or her gross income the amount and character of such trust s s income which is either required to be distributed or is otherwise properly paid or credited to the beneficiary during the e taxable year, to the extent of the trust s s worldwide DNI (including capital gains). If the foreign trust is a discretionary trust with no requirement for current distributions, d the U.S. Person beneficiaries will be subject to tax whenever a distribution is paid to them from Distributable Net Income ( DNI( DNI ). U.S. Person beneficiaries will be entitled to a credit for any U.S. or foreign income taxes paid by a foreign trust attributable to the income distributed or otherwise properly required to be paid or credited to them. 4

5 (ii) Accumulated Income.. To the extent there is a distribution of income that was accumulated in preceding taxable years while a trust is a nongrantor trust, such accumulated income will be taxed to the recipient-beneficiary (in accordance with the so-called Throwback Rules of 665 through 668). Generally, a throwback is required where there is a distribution (an Accumulation Distribution ) from a trust in excess of its current income (more properly its fiduciary accounting income) for the year of distribution. (iii) U.S. Tax Provisions Addressing Loans from Foreign Trusts Received by a Settlor, Beneficiaries or a Related Party.. A foreign non-grantor trust is subject to additional rules recharacterizing certain transactions between the trust and the U.S. Person settlor,, the U.S. Person beneficiaries and/or U.S. Persons related to the settlor or beneficiary. If a foreign non-grantor trust makes a loan of cash or marketable securities to a U.S. settlor,, a U.S. Person beneficiary or a U.S. party related to either, the loan would be treated as a trust distribution. This recharacterization could result in income inclusion and certain reporting requirements (e.g., Form 3520). 5

6 (c) Worldwide Taxation for Residents While Residing in the US As separately discussed in other materials, an alien resident of the United States, upon receiving temporary residence status, may be subject to taxation on worldwide income in addition to being subject to estate tax on worldwide assets while maintaining the status of being a U.S. resident. (d) Tax Rates and Planning Opportunities See separate discussion concerning applicable tax rates. Tax opportunities involve establishing trusts prior to becoming a U.S. resident as well as gifting assets to other family members prior to becoming a U.S. resident. Upon becoming a U.S. resident, the foreigner would be subject to U.S. limitations in gifting of assets tax free over and above a certain sum. 6

7 (e) U.S. - China Income Tax Treaty The United States has an extensive network of bilateral income tax t treaties, covering more than 65 countries. The United States also o has a limited number of estate, gift and generation skipping transfer tax treaties. Other bilateral treaty variants in the tax context include approximately 20 tax information exchange agreements, reciprocal shipping and aviation agreements, and Social Security totalization agreements. There is a U.S.-China income tax treaty currently in effect; however, it does not extend to Hong Kong. The U.S.-China treaty clarifies certain provisions of each country's respective tax code and provides for cooperation between the tax officials of the two countries. The U.S. China Double Taxation Prevention Treaty, in general, enables the offsetting of tax that is paid in one of the two countries against the tax that is payable in the other. The tax treaty also may operate to reduce the amount of withholding that is payable in China C or in the United States. Under the Treaty there is a credit for covered taxes.. The following taxes are considered covered taxes under the Treaty: (i) The individual income tax; (ii) the income tax concerning joint ventures with Chinese and foreign investments; (iii) the income i tax concerning foreign enterprises; and the local income tax. 7

8 Also covered are any identical or substantially similar taxes imposed after the day of the signature of the Convention in addition to, or in the place of, those referred to in Paragraph 1 of the Treaty. There are certain business taxes imposed in China that if payable in China C may not meet the requirements as a creditable tax and therefore tax may be imposed in China. The relief that is provided from double taxation is given by way of a tax exemption or a reduction by a tax credit for foreign taxes paid. p Additionally, in certain circumstances the treaty provides for reduced r withholding tax rates on royalties and on certain other income. In the case of individuals it is important to determine residency. With regard to business enterprises it is important to determine whether or not such business has a permanent establishment in China or in the United States or both. Dividends, interest and royalties are also reduced under the treaty and often the income tax on compensation is reduced as the tax treaty provides that salaries,, wages and other similar renumeration derived in one country is taxable only in the country under which it was earned. 8

9 In 2011, China s s estate tax administration released an "Announcement" that has implications to international and cross border transactions. The "Announcement" also addressed certain issues relating to income sourcing and the timing of withholding tax. It is important to note that the burden of proof in qualifying for f treaty benefits rests with the taxpayer. It is important to keep p detailed records of financial activities and time spent in each country as they are imperative in ensuring that any application for treaty benefits will be approved. 9

10 (f) Estate Tax Planning A. Introductory Comments Regarding Residence, Domicile, and Foreign Law Considerations. 1. United States residents, just as United States citizens, are taxed on world-wide wide income. By contrast, nonresident aliens are taxed by the United States only on certain United States source income and income effectively connected with a United States trade or business. 2. An alien domiciled in the United States, like a United States citizen, is taxed on worldwide transfers of property for estate, gift, and generation-skipping transfer taxation. Nondomiciliary aliens are by contrast taxed for these same purposes only on assets defined as having a United States situs. 3. Foreign law considerations as interrelated with residence and domicile may impact multi-jurisdictional double taxation, determination of which law governs rights, both inter vivos (e.g., community property) and at death (e.g( e.g,, forced heirship), and the applicable law governing the validity of wills. 10

11 2. EB-5 5 Planning: How to avoid U.S. tax on income from China An income tax resident may take advantage of available foreign tax credits. The foreign tax credit is intended to reduce the double d taxation burden that would otherwise arise when foreign source income i is taxed by both the United States and the foreign country from which the income is derived. (a) In order to qualify for a foreign tax credit: 1. the tax must be imposed on you; 2. you must have paid or accrued the tax; 3. the tax must be a legal and actual foreign tax liability; and 4. the tax must be an income tax. 11

12 3. Corporate Issues For New Residents A. Upon an individual becoming a U.S. resident, a number of tax rules will apply with respect to such individual s s ownership in both foreign and U.S. corporations. B. If an individual owns stock in a U.S. corporation, such corporation is subject to a double taxation regime, but may make distributions to shareholders as dividends at a reduced rate; however, if such corporation were to be classified as a personal holding company ( PHC ), then an additional tax would apply on undistributed personal holding company income. C. Additionally, upon becoming a resident alien, such resident alien will be a permitted shareholder in an S S corporation.. S corporations maintain certain corporate formalities familiar to foreign individuals iduals while allowing pass through tax treatment, rather than double taxation. 12

13 4. Pre-Immigration Planning Checklist The following is a pre-immigration planning checklist that can be utilized by those foreign nationals that are in the process of immigrating to the United States. (a) The optimum time to commence the pre-immigration tax planning would be when an I-526 I Petition is approved since then the immigrant has the assurance that he or she can immigrate to the United States under the EB-5 5 Program. (b) The foreign national will then need to get a consular visa in order to enter the United States and have his or her passport stamped with the permanent residency status. Once that entry is completed, ed, the immigrant will be considered a United States resident for income tax purposes and more than likely a domiciliary for estate tax purposes. 13

14 (c) From a timing standpoint, there could be a several month delay from the time that an I-526 I Petition is issued and the consular visa is obtained, during which time the immigrant can complete the pre- immigration tax planning process. To the extent that the planning ng is very complicated, then it would be advisable for the process to start when the I-526 I Petition was actually filed in order to allow for sufficient time to complete the planning process and documentation. For the planning process the following steps should be undertaken: n: 1. Engagement of necessary professionals, meeting the United States tax oriented accountants and attorneys, to begin the intake of information and establish the needs of the immigrant from a tax planning standpoint. 2. As part of the planning process, it would be necessary to have an intake of financial information that reflects the assets owned d by the parties that are immigrating to the United States; meaning those family members that will be included in the I-526 I Petition. 14

15 3. It is very important to review and analyze all sourcing of income information since that will be very relevant in the planning process. 4. Once the immigrant becomes a U.S. resident, there will be various tax forms that will need to be considered and filed, including the form commonly referred to as the FBAR ( Report( of Foreign Bank and Financial Accounts ), and various other forms and disclosures. 5. As part of the planning process, consideration should be given to t the transfer of assets to other parties, the sale of assets in order o to recognize gain prior to immigrating to the United States in order r to avoid or minimize future gain on the disposition of assets, as well w as the establishment of trusts that may defer or avoid income and/or estate tax in the United States. The overall process can be organized in a very efficient manner, especially if there is appropriate information provided and a clear direction as to what positions the immigrant wants to take in connection with both tax and family planning matters