Category Archives: Form 5471

Seriously now, who’s GILTI? Senators Wyden and Brown attempt to reinforce the punishment of GILTI Americans abroad

Prologue

Americans abroad who are individual shareholders of small business corporations in their country of residence have been very negatively impacted by the Section 951A GILTI and Section 965 TCJA amendments. In June of 2019, by regulation, Treasury interpreted the 951A GILTI rules to NOT apply to active business income when the effective foreign corporate tax rate was at a rate of 18.9% or higher. Treasury’s interpretation was reasonable, consistent with the history of Subpart F and consistent with the purpose of the GILTI rules.

Now, Senators Wyden and Brown are attempting to reverse Treasury’s regulation through legislation. This is a direct attack on Americans abroad. Senators Wyden and Brown are living proof of the principle that:

When it comes to Americans abroad:

It’s not that Congress doesn’t care. It’s that they don’t care that they don’t care!

Introduction

As many readers will know the 2017 US Tax Reform, referred to as the Tax Cuts and Jobs Act (TCJA), contained provisions which have made it difficult for Americans abroad to run small businesses outside the United States. In the common law world a corporation is treated as a separate legal entity for tax purposes. In other words the corporation and the shareholders are separate for tax purposes, file separate tax returns and pay tax on different streams of income. The 2017 TCJA contained two provisions that basically ended the separation of the company and the individual for U.S. tax purposes. In other words: there is now a presumption (at least how the Internal Revenue Code applies to small business owners) that active business income earned by the corporation will be deemed to have been earned by the individual “U.S. Shareholders”. To put it another way: individual shareholders are now presumptively taxed on income earned by the corporation, whether the income is paid out to the shareholders or not! The effect of this on individual Americans abroad has been discussed by Dr. Karen Alpert in her article: “Callous Neglect: The impact of United States tax reform on nonresident citizens“.

The expansion of the Subpart F Regime

The Subpart F rules were established in 1962. The principle behind them was that individual Americans should be prevented from, using foreign corporations to earn passive income, in jurisdictions with low tax regimes (or tax regimes that have lower taxes than those imposed by the United States). The Subpart F rules have (since 1986) included a provision to the effect that investment income (earned inside a foreign corporation) which was subject to foreign taxation at a rate of 90% or more of the U.S. corporate rate, would NOT be subject to taxation in the hands of the individual shareholder.

To put it another way (with respect to investment income):

1. It was mostly investment/passive income that was subject to inclusion in the incomes of individual shareholders as Subpart F income; and

2. Passive income that was subject to foreign taxation at a rate of 90% or more of the U.S. corporate tax rate (now 21%) would NOT be considered to be Subpart F income (and therefore not subject to inclusion in the hands of individual shareholders).

To coordinate my background discussion with the Arnold Porter submission described below, I will refer to exclusion of investment income subject to a 90% tax rate as “HTKO” (High Tax Kick Out).

The basic principle was (and continues to be):

If passive income earned in a foreign corporation is taxed at a rate of 90% or more of the U.S. corporate tax rate, that there was no attribution of that corporate income to the individual U.S. shareholder.

In its most simple terms, the Subpart F rules are found in Sections 951 – 965 of the Internal Revenue Code. They are designed to attribute income earned by the corporation directly to the U.S. shareholder, without regard to whether the corporate profits were paid to the shareholders as a dividend. Note that many developed countries have similar rules. Many developing (from a tax perspective) countries (for example Russia) are adopting Subpart F type rules. The U.S. rules are more complicated, more robust and (because of citizenship taxation) apply to the locally owned companies of individuals, who do not live in the United States.

Punishing them for their past and destroying their futures – The expansion of the Subpart F Regime to active business income

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Part 34 – 2019: Treasury Fails To Prevent @MonteSilver1 lawsuit against @USTransitionTax From Proceeding – Case To Be Heard On The Merits

What Happened

The judgment is here.

We win!!!!!

About The Transition Tax

As part of the 2017 TCJA, Congress imposed a retroactive tax, without any realization event, on the retained earnings of Controlled Foreign Corporations. Although intended to be the the “trade off” for lowering the Corporate Tax rate from 35% to 21%, it was interpreted to apply to the small business corporations owned by Americans abroad. (The tax compliance industry aggressively promoted this damaging interpretation of the law.) In any event, this imposed significant and life altering consequences on Americans abroad (particularly in Canada) for whom their small business corporations were really their pension plans. I documented the history, damage and madness of this in a series of posts about the transition tax. The law was interpreted (in various ways) and the regulations were drafted in an extremely punitive manner. What needs to be most understood is that a law intended for the Apples, Googles, etc. was interpreted to apply in the same way to individuals (your friends and neighbors) who owned small business corporations.

About The Regulatory Flexibility Act

Title 5 of the U.S. Code of Laws deals with how the U.S. Government works. Subtitle 5 is the Administrative Procedure Act. Subtitle 6 is the Regulatory Flexibility Act. At the risk of over-generalization, the purposes of the Regulatory Flexibility Act are to require the Government to consider the effect that certain rules/regulations have on small businesses and undertake specific procedural steps in relation to this consideration.

Learn About the Regulatory Flexibility Act

An excellent site providing education about the Regulatory Flexibility Act is here. Although written in the context of the EPA, the description offers the following introduction to the Regulatory Flexibility Act:

The Regulatory Flexibility Act (RFA), 5 U.S.C. §§ 601 et seq, was signed into law on September 19, 1980. The RFA imposes both analytical and procedural requirements on EPA and on other federal agencies. The analytical requirements call for EPA to carefully consider the economic impacts rules will have on small entities. The procedural requirements are intended to ensure that small entities have a voice when EPA makes policy determinations in shaping its rules. These analytical and procedural requirements do not require EPA to reach any particular result regarding small entities.

The key is that Government is required by law to consider the economic effect of regulations on small business entities.

And here …

Monte Silver’s Lawsuit Against the Transition Tax – Treasury Did NOT Consider The Impact Of The Transition Tax Regulations on Small Business Entities (including those run by Americans Abroad

The lawsuit was not (like other lawsuits) against the Transition Tax per se. Rather the lawsuit was about the the failure of U.S. Treasury to comply with the procedural requirements of the Regulatory Flexibility Act. Predictably, the Government argued that the lawsuit lacked standing. On December 24, 2019 a U.S. District Court Judge ruled that the plaintiff (Mr. Silver) did have standing. The reason was that his lawsuit was not against the transition tax itself. Rather the lawsuit was against U.S. Treasury causing injury resulting from the failure of Treasury to comply with the requirements mandated in the Regulatory Flexibility Act.

Congratulation to Monte Silver for an incredibly important win. The success of his lawsuit opens the door to many similar lawsuits (GILTI anyone?) down the road.

Earlier posts

In November of 2018 I first wrote about Mr. Silver’s lawsuit.

That post included the following earlier interviews.

Speaking with Monte Silver …

Interview 1 – October 16, 2018

Interview 2 – November 15, 2018

John Richardson – Follow me on Twitter @Expatriationlaw

To be FORMWarned is to be FORMArmed! The easiest way to receive a Form 3520A penalty would be to file a Form 3520


There is evidence from both tax practitioners and from individuals that Americans abroad are suffering from a “Form 3520A” penalty epidemic. Some of the best discussion of both the scope and technicalities of this problem may be found at Tax Connections. See particularly the posts here, here and here. (Mr. Carter’s original post was also reproduced at American Expat Finance.) The posts have attracted commentary from a number of tax professionals. The IRS Taxpayer Advocate has been invited to intervene.
“Tax Compliant” Americans Abroad are just a penalty waiting to happen!
Americans abroad are potentially required a very large number of IRS forms.
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Part 31 – "Double Taxation Disguised as Tax Reform": Jackie Bugnion comments in @TaxNotes on @USTransitionTax and #GILTI

https://twitter.com/worldnewsreader/status/1132961693598986241

This is Part 31 of my series of blog posts about the Sec. 965 transition tax. It is a “guest post” by Jackie Bugnion who is the former tax direction of ACA. The article explores the impacts of the Section 965 transition tax and GILTI on the lives of Americans abroad. Ms. Bugnion places the transition tax and GILTI in the context of the U.S. system of citizenship-based taxation.

This article is reproduced with thanks to the author Jackie Bugnion and the publisher Tax Analysts.

Bugnion (4-29)

Bugnion (4-29)

Bugnion-4-29

Article 4 paragraph 2 of the U.S. U.K. Tax Treaty: A clause preventing the use of the tax treaty tie breaker for some Green Card holders

Introduction – In The 21st Century The Most Important Thing About A Person Is His Tax Residency

Green Card holders are deemed to be U.S. tax residents under the Internal Revenue Code. In most circumstances, Green Card Holders are also treated as U.S. tax residents under U.S. tax treaties.

U.S. Green Card holders have traditionally been able to use tax treaties to sever “tax residence” with the United States. This decision carries both burdens and benefits and should never be undertaken without competent professional advice. (For Green Card holders who are “long term residents“, the use of a “tax treaty tie breaker” will result in expatriation. Expatriation may trigger the imposition of the Sec. 877A Expatriation Tax.)

The tax treaty tie breaker is available if and only if the individual is, according to the tax treaty, a tax resident of BOTH the United States and the treaty partner country.

Typically the tax treaty tie breaker is a mechanism where one uses the provisions of the tax treaty to assign tax residency to one and only one country according to the tax treaty.

To repeat: a condition precedent to the use of the tax treaty tie breaker is that the individual be a tax resident of both countries according to the tax treaty.

Most tax treaties provide that if an individual is a tax resident of Country A according to domestic law, then the individual is a resident of Country A under the treaty. In other words, tax residency under the terms of the treaty follows from tax residency under domestic law.

Prior to the U.S. U.K. Tax Treaty of July 24, 2001, tax residency for Green Card holders according to the tax treaty, followed from tax residency under domestic law.

The U.S. U.K. Tax Treaty of July 24, 2001 changed this basic rule. The July 24, 2001 tax treaty contains a provision that provides that tax residency under the U.S. U.K. tax treaty, does not necessarily follow from tax residency under U.S. domestic law. Specifically Article 4 Paragraph 2 states that Green Card holders will NOT be treated as U.S. tax residents under the U.S. U.K. Tax treaty except as follows:

2. An individual who is a United States citizen or an alien admitted to the United States
for permanent residence (a “green card” holder) is a resident of the United States only if the
individual has a substantial presence, permanent home or habitual abode in the United States
and if that individual is not a resident of a State other than the United Kingdom for the purposes of a double taxation convention between that State and the United Kingdom.

Paragraph 2 of Article 4 provides a presumption against U.S. tax residency, under the tax treaty, for Green Card holders. This results in a situation where the Green Card holder is a U.S. tax resident under the U.S. Internal Revenue Code, but NOT a U.S. tax resident under the treaty.

The purpose of this post is to explore the implications of this unusual provision and how it impacts Green Card holders who are tax residents of the U.K. The post will be divided into the following six parts:

Part A – U.S. U.K. Tax Treaty – Prior to July 24, 2001 (1975)

Part B – The U.S. U.K. Tax Treaty – signed July 24, 2001

Part C – The meaning of the two necessary conditions to qualify as a U.S. tax resident under the treaty: Joint Committee of Taxation Comments on Paragraph 2 of Article 4

Part D – The meaning of the two necessary conditions to qualify as a U.S. tax resident under the treaty: U.S. Treasury Technical Interpretation

Part E – IRS Commentary – July 3, 2018

Part F – What are the implications for Green Card Holders who are tax residents of the UK?

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The United States imposes a separate and more punitive tax system on US dual citizens who live in their country of second citizenship

Prologue


Do you recognise yourself?
You are unable to properly plan for your retirement. Many of you with retirement assets are having them confiscated (at this very moment) courtesy of the Sec. 965 transition tax. You are subjected to reporting requirements that presume you are a criminal. Yet your only crime was having been born in America (something you didn’t even choose) and attempting to live as a U.S. tax compliant American outside the United States. Your comments to my recent article at Tax Connections reflect and register your conviction that you should not be subjected to the extra-territorial application of the Internal Revenue Code – when you don’t live in the United States.
The Internal Revenue Code: You can’t leave home without it!
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Part 29 – Can the full Canadian tax paid personally on distributions from Sec. 965 income be used to offset the @USTransitionTax

Introduction – As the year of the “transition tax” comes to an end with no relief for Americans abroad (who could have known?)
As 2018 comes to and end (as does my series of posts about the transition tax) many individuals are still trying to decide how to respond to the Sec. 965 “transition tax” problem. The purpose of this post is to summarize what I believe is the universe of different ways that one can approach Sec. 965 transition tax compliance. These approaches have been considered at various times and in different posts over the last year. As 2018 comes to an end the tax compliance industry is confused about what to do. The taxpayers are confused about what to do. For many individuals they must choose between: bad and uncertain compliance or no attempt at compliance. (I add that the same is true of the Sec. 951A GILTI provisions which took effect on January 1, 2018.)
But first – a reminder: This tax was NEVER intended to apply to Americans abroad!!!
A recent post by Dr. Karen Alpert – “Fixing the Transition Tax for Individual Shareholders” – includes:

There have been several international tax reform proposals in the past decade, some of which are variations on the final Tax Cuts and Jobs Act (TCJA) package. None of these proposals even considered the interaction of the proposed changes with taxing based on citizenship. One even suggested completely repealing the provision that eliminates US tax on dividends out of previously taxed income because corporate shareholders would no longer be paying US tax on those dividends anyway.

and later that …

One of the obstacles often mentioned when it comes to a legislative fix is the perceived requirement that any change be “revenue neutral”. While this is understandable given the current US budget deficit, it shouldn’t apply to this particular fix because the transition tax liability of individual US Shareholders of CFCs was not included in the original estimates of transition tax revenue.

The bottom line is:
Congress did not consider whether the transition tax would apply to Americans abroad and therefore did not intend for the transition tax to apply to them. Within hours of release of the legislation, the tax compliance industry, while paying no attention to the intent of the legislation, began a compliance campaign to assist owners of Canadian Controlled Private Corporations to turn their retirement savings over to the IRS. There was (in general) no “push back” from the compliance industry. There was little attempt on the part of the compliance industry to analyze the intent of the legislation. In general (there are always exceptions – many who I know personally – who have done excellent work), the compliance industry failed their clients. By not considering the intent of the legislation and not considering responses consistent with that intent, the compliance industry effectively created the “transition tax”.
In fairness to the industry, Treasury has given little guidance to practitioners and the guidance given came late in the year. In fairness to Treasury, by granting the two filing extensions, Treasury made some attempt to do, what they thought they could, within the parameters of the legislation.
The purpose of this post …
This post will summarize (but not discuss) the various options. There is no generally preferred option. This is not “one size fits all”. The response chosen will largely depend in the “stage in life” of the individual. Younger people can pay/absorb the “transition tax”. For people closer to retirement, for whom the retained earnings in their corporations are their pensions: compliance will result in the destruction of your retirement.
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Punishing you for your past – Presuming you #GILTI for your future

Introduction – Punishing You For Your Past and Destroying Your Future
Punishing You For Your Past – Retroactive Taxation And The Sec. 965 Transition Tax
The 2017 U.S. Tax Reform AKA – The Tax Cuts and Jobs Act ushered in significant changes for Americans abroad who carry on business through small business corporations. Section 965 was an attempt to impose retroactive taxation on 31 years of corporate earnings that were NOT subject to U.S. taxation at the time that they were earned. In Canada Canadian Controlled Private Corporations are used as private pension plans. The effect of the Sec. 965 transition tax was/is to confiscate the pensions which were earned in Canada by Canadian residents. It’s simply wrong.
In early of 2018 Dr. Karen Alpert and I worked on a series of videos to explain the Sec. 965 Transition Tax. Those vides spawned a series of 27 posts about the Sec. 965 transition tax.
Destroying Your Future – Presumed GILTI – The Sec. 951A GILTI Tax
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Part 28 – From @HelenBurggraf: Concern as Brady tax bill fix legislation lacks called-for fixes for US expats including @USTransitionTax


Part 24 – When it comes to the treatment of individuals: @USTransitonTax Code Sec. 965(i) proves that "Some individuals are more equal than other individuals"

Prologue – October 16, 2018 – Monte Silver explains the “Transition Tax” in general …


Internal Revenue Code – Section 965(i) begins with …
https://www.law.cornell.edu/uscode/text/26/965

(i) Special rules for S corporation shareholders
(1) In general
In the case of any S corporation which is a United States shareholder of a deferred foreign income corporation, each shareholder of such S corporation may elect to defer payment of such shareholder’s net tax liability under this section with respect to such S corporation until the shareholder’s taxable year which includes the triggering event with respect to such liability. Any net tax liability payment of which is deferred under the preceding sentence shall be assessed on the return of tax as an addition to tax in the shareholder’s taxable year which includes such triggering event.

Only “some” individuals are subject to the Sec. 965 US “Transition Tax” – how “some individuals are more equal than others” …


The complete second interview with Monte Silver – The unfairness to Americans abroad is compounded…