International taxation is a complex field, and navigating through it is challenging without the assistance of an attorney specializing in international tax. As a foreign individual establishing your business in the United States, or a U.S. citizen with foreign tax assets, you should get familiar with the fundamental principles and terminology associated with international taxation. Even more so if you are about to hire a tax attorney who will address the nuances of international tax law – it can’t hurt to have your basics covered.
Below are some of the basic terms regarding international tax.
The term expatriate covers a U.S. citizen who lives and works overseas, as well as a former U.S. citizen who has renounced their U.S. citizenship.
For tax purposes, a resident alien is person that meets either the green card test or the substantial presence.
Note that a person can be a considered a resident for tax purposes, while remaining a non-resident for immigration purposes.
Non-resident alien and Foreign Person
A non-resident alien (or NRA) is a person who is neither a citizen nor resident of the U.S. A foreign person is either a NRA or a company organized under the laws of a country other than the US.
A US person is either an individual who is a citizen or resident of the US or a company that is organized under the laws of the US.
Economic and statutory incidence
Economic incidence and statutory incidence sometimes coincide in effect, although they do not mean the same thing. Economic incidence refers to individuals or group of individuals who bear the actual cost of the tax. For example, in case of economic incidence of corporate tax, it falls on individual employees in the form of salary reductions, consumers in the form of price increases, etc. By contrast, statutory incidence refers to individuals or group of individuals who have the responsibility to physically remit the tax. In the case of corporate tax, the statutory incidence falls on the corporate executives.
Foreign tax credit
Foreign tax credit is a credit that can be claimed against the U.S. taxes by U.S. persons for the taxes they paid in foreign countries. Since the U.S. taxation has a worldwide tax system as one of its fundamentals, the purpose of foreign tax credits is avoiding double taxation of earnings.
As a company or individual with foreign taxable income, you should consult an attorney who specializes in international taxation matters.
In international taxation terms, a basket is one of the nine categories into which foreign-sourced earnings must be divided. It is important to know that you cannot use foreign tax credits earned in one basket to offset any earnings from another basket.
Foreign Earned Income Exclusion
A US citizen or resident alien living and working overseas might claim an exemption up to $104,100 (for 2018) on the taxable income earned abroad.
Inversion (also referred to as expatriation or re-incorporation) happens when a corporation or entity established in a low-tax country purchases shares and/or assets of a domestic corporation. Corporate inversion entails the transfer of the company’s legal (rather than operational) location to a foreign country.
Repatriation (of earnings)
Repatriation also falls under the category of international tax fundamentals. When a U.S. company repatriates its earnings, it ‘’moves’’ the earnings from foreign-based affiliates to the parent company (or shareholders) in the U.S.
A 30% tax withholding is imposed on NRAs and foreign companies that derive FDAP income (see below). In essence, it applies to earnings derived from passive activities such as, a rental property, receipt of royalties, dividends, interest, income from a limited partnership or any other enterprise where an NRA or foreign company are not actively involved.
FDAP income (Fixed or Determinable Annual or Periodic U.S. Source Income) applies to foreign persons who earn passive income in the U.S., and subjects them to 30% withholding tax. The rate can be lower, depending on whether there is a tax treaty between the U.S. and the foreign individuals’ country of origin.
Effectively Connected Income (ECI)
In a nutshell, ECI is the income a foreign person receives that is connected with the conduct of a US trade or business. The nature of the activities performed will determined whether the foreign individual or business is engaging in a US trade or business.
Effective tax rate
Effective tax rate translates as the percent of total income that is paid in taxes.
Marginal tax rate
As opposed to the effective tax rate, marginal tax rate is the highest published tax rate at which a taxpayer’s last dollar earned is taxed. Marginal rates are typically higher than effective tax rates.
To find out why this information may be important for you regarding international taxation, consult an experienced tax attorney to guide you through the fundamentals.
CFC stands for Controlled Foreign Corporation. In other words, it’s a foreign entity of which more than 50% of the stock is owned by U.S. shareholders.
DISC stands for Domestic International Sales Corporation, and is unique to the U.S. tax law. A DISC is not subject to Federal income tax, and is essentially an entity whose activities are conducted solely on paper.
Subpart F is a system of ‘’anti-deferral’’ rules imposed by the Federal government, by which certain types of foreign-sourced income are taxed even if the foreign company (CFC) didn’t repatriate the profits.
Have the fundamentals explained by an expert
No matter how reliable a source you may find in the library or online, when it comes to international taxation, chances are you need expert guidance. International tax is too complex an issue to be fully grasped by a layman.
Paula Brunoro-Borokhov of Brunoro Law is an experienced attorney specializing in international tax. She is fluent in English, Spanish, Portuguese and French, and as such, likely to be able to answer all your concerns regarding international tax in your native language. Reach out to schedule a free 1-hour consultation.