If you are seeking to immigrate to the United States, it is essential to engage in pre-immigration tax planning. This article provides an introduction to U.S. income, estates, and gift taxation, and their effect on immigrant investors. The contents herein provides general reference of U.S. taxation as relevant to preimmigration planning. It is not intended to substitute professional legal or tax advice. You should consult with a qualified legal, accounting and tax advisor before making any financial decisions.
I. U.S. Income Taxes: Who Must Pay?
There are three categories of individuals that are subject to U.S. income taxes: (1) U.S. Citizens; (2) Resident Aliens; and (3) Non-Resident Aliens. If you fall under any of these three categories, you may have to pay income taxes to the U.S. government. U.S. Citizens and Resident Aliens are taxed in the same way. This means that these people must pay taxes on their world-wide income. (Note: The tax finally paid to the United States may be reduced by the tax paid in another country, so long as the United States has a qualifying treaty with that country.) For immigrant investors and business visitors who frequently travel to the United States, it is important to understand when they may qualify as a Resident Alien for U.S. tax purposes.
- Resident Aliens
A person is considered a Resident Alien if she satisfies the requirements of two tests: (1) the Green Card Test; or (2) the Substantial Presence Test. If a person satisfies any of these two tests, they would be considered a Resident Alien and may be subject to U.S. taxation of their world-wide income.
The Green Card Test: If you have received permanent residency in the United States (have obtained a green card or the Form I-551), you would be considered a Resident Alien for U.S. income tax purposes. Your permanent residency starts on the first day you are physically in the United States as a permanent resident. You permanent residency would continue until it is either taken away or voluntarily relinquished.
The Substantial Presence Test: A person is considered a Resident Alien for U.S. income tax purposes if they meet the requirements of this test, even if they are not a permanent resident of the United States. This test requires the following: a. The person must be in the United States for more than 31 days in the current year; and b. 183 days during a 3-year period that includes the current year, and the 2 years immediate prior to the current year. The days that may be counted towards the 183 days are:
1. All the days the person is physically present in the current year; 2. 1/3 of the days the person was physically present in the first year before the current year; and 3. 1/6 of the days the person was physically present in the second year before the current year.
There are exemptions for certain individuals in that their physical presence in the United States would not be counted in the 183 days. Students on an F-1 visa can qualify for this exemption such that their presence in the United States would not count towards the 183 days. However, there are no exemptions for B-1/B-2 visitor visa holders. This means a visitor’s physical presence in the United States may be counted as part of the 183 days for income tax purposes.
Example: Mr. Chen is trying to determine whether he needs to pay taxes on his world-wide income for year 2017. This year he has been in the United States for 100 days. In 2016 (the first year before the current year), he was in the United States for 210 days. And in 2015 (the second year before the current year), he was in the United States for 180 days. The calculation would be as follows: 100 + 1/3 (210) + 1/6 (180) = 100 + 70 + 30 = 200. Based on this calculation, Mr. Chen would be considered a Resident Alien for tax purposes because he has been in the United States for 200 days in the 3-year period. This means that he may be subject to U.S. income taxes for 2017.
Let us assume that in 2015, Mr. Chen was in a F-1 student visa where he completed his Master’s Degree. This would mean that the 180 days he spent in the United States would not be counted among the 183 days. In such a case, he would have spent only 170 days in the United States in the 3-year period, and would not be considered a Resident Alien. If instead of F-1 student visa, Mr. Chen spent the 180 days in 2015 under a B1/B2 visitor visa, that 180 days would not be exempt from the 183-day calculation. In such case, he would qualify as a Resident Alien for tax purposes.
- Non-Resident Aliens (“NRAs”)
If a person does not meet the standards of the Green Card Test or the Substantial Presence Test, she would be considered a Non- Resident Alien. A Non-Resident Aliens may also be subjected to U.S. taxation under certain circumstances. These circumstances include, but not limited to: ·Any person engaged in a trade of business in the United States during the year; and ·Any person who has U.S. income on which the tax liability was not satisfied by the withholding of tax at the source (this may include, capital gains on investments, interests, and dividends).
II. Estate & Gift Tax
- The Estate Tax
The Estate Tax is a tax on your right to transfer property at your death. The Estate consists of an accounting of everything you own or have certain interests in at the date of your death. The fair market value of these items is used, not necessarily what you paid for them or their values when it was acquired. The includible property may include: cash and securities, real estate, insurance, trusts, annuities, business interests, and other assets. The totality of the property is your “Gross Estate.”The Gross Estate can be deducted by mortgages, debts, estate administration expenses, property that automatically passes to surviving spouses, and other qualifying circumstances. After accounting for these deductions, you arrive at your “Taxable Estate,” which is the amount you must pay taxes on.
Estate taxes, however, do not affect everyone. In fact, only about one of every 517 estates pay any taxes in the United States. The reason is that each individual is allowed an estates tax exemption. This means that only when the value of the estate is over that exemption will there be any estates tax paid. In 2017, each individual’s estates tax exemption is $5.49 million. This means an estate tax is only required when the value of an estate exceeds the exemption. Furthermore, if an individual is married, he or she can transfer the unused part of the exemption to his or her spouse.
Example: Mr. Chen’s father passed away in 2017, leaving an estate valued at $5,000,000. Because the value of his estate is lesser than the $5.49 million exemption, the father’s estate would not be subject to estate taxes. Furthermore, since only $5,000,000 of his father’s exemption was used, the remainder $490,000 is credited to Mr. Chen’s mother which increases the mother’s exemption from $5,490,000 to $5,980,000 ($5.49 million + $490,000).
The value of the Estate would differ depending on whether the person is a Resident Alien or Non-Resident Alien. For Resident Aliens, like U.S. Citizens, must count their world-wide assets as part of their estate. For Non-Resident Aliens, he or she may count only the assets situated in the United States.
- The Gift Tax
A US citizen or resident alien can give away $14,000 per year to anyone tax free. Any gift under that amount does not need to be reported in a filing to the IRS. If a person exceeds the $14,000 amount, the amount in excess is also not subject to taxation. However, that excess amount would reduce the person’s lifetime estates tax exemption of $5,490,000. In other words, if a person gifts $3,000,000 in one year, he or she would not be subject to a gift tax on that amount. However, his or her lifetime exemption would be reduced to: $2,504,000 ($5,490,000 - $2,986000 ($3,000,000 – $14,000)).
III.Pre-Immigration Tax Planning
Pre-immigration tax planning should be considered by anyone who wish to immigrate to the United States. With proper planning, one can minimize tax exposure and costs relating to tax compliance. Below are a sample of tax strategies to consider:
a. Accelerate realization of income Prior to becoming a U.S. permanent resident, you may want to recognize income accrued, including early bonuses/dividends/stock options, receivables, capital gains, rental income, royalties, and deferred compensation plans in the years before obtaining the resident status. Doing so may help reduce future U.S. income tax liability.
b. Delay realization of expenses and losses If you anticipate expenses or losses from sales of property, you can wait until recognize them after obtaining against income and gains you earn as a US resident in order to reducing future US tax liability.
c. Make gifts or selling property to non-resident family members prior to becoming a U.S. resident. This may help you maximize your lifetime gift and estates tax exemption.
d. You can restructure your direct held portfolio holdings to avoid “penalizing” tax regime for passive investments. For instances, you can sell foreign mutual funds to replace it with equivalent US mutual funds or similar corporate stock portfolios if appropriate. Or, you can keep securities with unrealized losses or transfer to a US brokerage account to offset future US generate income.
e. Use of financial planning tools
Various tools such as trusts, business entities, loans and life insurance products can also be used to safeguard your financial interest prior to obtaining your resident status.