Non-resident Indians1 (NRIs) residing in the US, constitute the second largest Asian population in the USA next only to China. Many NRIs have dual sources of income i.e. from US and India. Many questions arise as to the taxability of Indian income in the USA not only in case of NRIs but also in respect of the US Citizens/Green Card holders who may be tax residents in India. 2This article attempts to answer some basic issues pertaining to the the US tax laws which will help not only NRIs, but Indian expatriates working in the US or those who are US Citizens or Green Card holders who are not tax residents of the USA. In order to elucidate issues clearly, they are discussed in a Questions
– Answers format.
Introduction
The USA is a unique county which levies taxes on the basis of both Citizenship and Residential status of a person. A US Citizen is taxed on his worldwide income, irrespective of his residential status. The term used for foreign citizen in the US tax law is “alien”. The first seven questions deal with determination of residential status of a person in the US and scope of taxability based on such status. Thereafter, some questions deal with taxability in the USA of certain Indian incomes which are exempt from taxation in India. Many NRIs holding US Citizenship or Green Card holders prefer to settle in India post retirement or may simply return to India for good during their active life. In any event, any US Citizen or Green Card holder who may be a tax resident of India, needs to disclose his Indian income and assets in his US Tax Return and file regular tax return and disclosure returns in the USA.
Many returning Indians are simply unaware about these requirements and expose themselves to unintended penalties and prosecution. They need to be properly advised to comply with the US Regulations, especially in view of the recent stringent enforcement of Foreign Account Tax Compliance Act (FAT CA). When an Indian tax resident, (Resident and Ordinary Resident), who is also a US Citizen or a Green Card holder is subjected to double taxation, (as both India and US taxes on worldwide basis), he can resort to provisions of India-USA Double Tax Avoidance Agreement (DTAA ) for relieving double taxation.
FATCA and India
The Government of India has concluded an ‘In Substance’ agreement with the Government of USA for entering into an Inter-Governmental Agreement (IGA) for implementation of FAT CA. In view of this, all banks and other financial institutions in India will be required to identify, establish and report information on financial accounts held directly or indirectly by US persons.
The last three questions in this Article deal with two reporting requirements, namely, (i) Report of Foreign Bank and Financial Accounts (FBAR) and (ii) Form 8938. It is interesting to read the comments by Robert W. Wood on the stringent penalty and prosecution provisions of FAT CA in his article in Forbes Magazine, reproduced herein below:
“FATCA—the Foreign Account Tax Compliance Act— is America’s global disclosure law. It penalizes foreign banks if they don’t hand over Americans. Most foreign countries and their banks are getting in line to comply, so don’t count on bank secrecy anywhere.
Besides, on top of FATCA, the U.S. has a treasure trove of data from 40,000 voluntary disclosures, whistleblowers, banks under investigation and cooperative witnesses. So the smart money suggests resolving your issues. You can have money and investments anywhere in the world as long as you disclose them.
You must report worldwide income on your U.S. tax return. If you have a foreign bank account, you must check “yes” on Schedule B. You may also need to file an IRS Form 8938 with your Form 1040 to report foreign accounts and assets. Yet tax return filing alone isn’t enough.
U.S. persons with foreign bank accounts exceeding $10,000 in the aggregate at any time during the year must file an FBAR—now rebranded as a FinCEN Form 114—by each June 30. Tax return and FBAR violations are dealt with harshly. Tax evasion can mean five years in prison and a $250,000 fine. Filing a false return? Three years and a $250,000 fine.
Failing to file FBARs can be criminal too. Fines can be up to $500,000 and prison can be up to ten years. Even civil FBAR cases are scary, with non-wilful violations drawing a $10,000 fine. For willful FBAR violations, the penalty is the greater of $100,000 or 50% of the amount in the account for each violation. Each year you didn’t file is a separate violation.”
In light of the severity of penalties under FAT CA, as mentioned above, it is all the more important for NRIs and other US citizens/Green Card holders residing outside US, to understand their tax liability and/or to comply with US tax regulations.
1. When will a person be considered as a resident alien or a non resident alien in the US?
As per US tax law, a foreign citizen4 is considered either as a non resident alien or a resident alien for levy of US taxes. Though in some instances, he/she might be considered as both i.e. Dual Residential Status.
Non Resident Alien:
A foreign citizen is considered as a non resident alien, unless he meets one of the two tests described herein below for Resident Aliens.
Resident Alien:
A foreign citizen is resident alien of the United States for tax purposes if he meets either the green card test or the substantial presence test during a calendar year (January 1–December 31).
2. What is meant by the “Green Card Test”?
A person will be considered as a “resident” for tax purposes if he/she is a lawful permanent resident of the United States at any time during a calendar year. This is known as the “Green Card” test.
A person will be a lawful permanent resident of the United States at any time if he/she has been given the privilege, according to the immigration laws, of residing permanently in the United States as an immigrant. This status is generally received if the U.S. Citizenship and Immigration Services (USCIS) (or its predecessor organisation) has issued to a person an alien registration card, which is also known as a “green card.” Resident status under this test continues unless the status is taken away from or is administratively or judicially determined to have been abandoned.
3. What is meant by the “Substantial Presence Test”?
A person will be considered as a U.S. tax resident if he/ she meets the substantial presence test for the relevant calendar year. To meet this test, one must be physically present in the United States on at least:
1. 31 days during a relevant calendar year, and
2. 183 days during the 3-year period that includes the current year and the 2 years immediately before that, counting:
– All the days he was present in the current year, and
– 1/3 of the days he was present in the first year before the current year, and
– 1/6 of the days he was present in the second year before the current year. (For illustration, please refer answer to the question number 4 below)
4. Mr. A was physically present in the United States on 120 days in each of the years 2012, 2013, and 2014. Will Mr. A be considered as a resident under the substantial presence test for 2014?
To determine whether Mr. A meets the substantial presence test for 2014, full 120 days of presence in 2014, 40 days in 2013 (1/3 of 120), and 20 days in 2012 (1/6 of 120) will be counted. Because the total for the 3-year period is 180 days, Mr. A is not considered as a resident under the substantial presence test for 2014.
Dual Residential Status
5. Who is considered as a dual status alien?
One is considered as a dual status alien when one has been both a uS resident alien and a non-resident alien in the same tax year. dual status does not refer to one’s citizenship, but it refers only to one’s residential status for tax purposes in the united States. In determining one’s US tax liability for a dual-status tax year, different rules apply for the part of the year when a person is a uS tax resident and the part of the year when he/she is a non- resident. The most common dual-status tax years are the years of arrival and departure.
Residential Status can be presented diagrammatically as shown at the bottom of this page:
6. What is meant by days of presence in the US? Are there any exemptions to days of presence in the US?
Days of presence of a person is counted on the basis of his physical presence in the united States of america at any time during the day.
The exemption to days of presence is as follows:
? days on which a resident of Canada or mexico is commuting to the uSa for work on daily basis.
? days a person is in the united States for less than 24 hours when he is in transit between two places outside the united States.
? days a person is present in the united States as a crew member of a foreign vessel.
? days a person is unable to leave the united States because of a medical condition that arose while he was in the united States.
? days spent by certain exempt individuals (students, teachers/trainees).
7. What are the specific rules that apply for the days that are exempt from “days of presence”?
Days in transit: – The days on which a person is in the united States for less than 24 hours and he is in transit between two places outside the united States. Suppose, Mr. A travels between airports in the united States to change planes en route to his foreign destination, he will be considered as being in transit.
? Crew members: – days when a person is temporarily present in the united States as a regular crew member of a foreign vessel (boat or ship) engaged in transportation between the united States and a foreign country or a u.S. possession, should not be counted as days of presence in the uS. however, this exception does not apply if a person is otherwise engaged in any trade or business in the united States on those days.
? Medical Condition
do not count the days where a person intended to leave, but could not leave the united States because of a medical condition or problem that arose while he/ she was in the united States.
? Taxation of income source from US
8. how does one compute the income of a person who has worked partly in the uS and partly outside the US for a uS source income?
US sourced compensation in respect of a job which is partly performed in the uS and partly outside the US, is computed in the proportion of the time spent on such job in the USA.
for example:
Mr. A, resident of india, worked for 240 days for a uS company during the tax year and receives $ 80,000 in compensation (excluding fringe benefits). Mr. A performed services in united States for 60 days and performed services in india for 180 days. Using the time basis for determining the source of compensation, $ 20,000 (80000*60/240) is his US income.
Public Provident Fund (PPF)
9. Whether amount received on maturity of PPF, by a NRI who is US resident Alien, is taxable in US?
amount received on maturity of ppf is not taxable in india but the resident alien will have to pay tax in the US. As per the US tax laws, the interest earned on the amount in PPF account is taxable and the person can choose to pay tax each year or defer it till withdrawal on maturity.
10. Tax regulations in the uS regarding maturity of life insurance policy for resident aliens?
In India, benefits from a life insurance policy, including earnings, whether on death or maturity are treated as tax-free subject to fulfillment of prescribed conditions, as may be applicable. in the US, for instance, taxation of life insurance proceeds is quite complicated. Death benefits are tax-free to the extent of the sum assured or life cover. Any amount over and above the sum assured, such as bonuses, will be taxed. Similarly, there are certain rules regarding withdrawals from a policy. The cash value of life insurance is allowed to grow on a tax deferred basis, that is, earnings are taxed only on withdrawal. In certain cases, withdrawals maybe tax free to the extent of premiums paid till the date of withdrawal.
Gifts
11. Whether gifts received from india by a NRI who is a us resident alien are taxable in us?
as per the indian law, any gift received in cash or kind from a non-resident exceeding Rs. 50,000/- would attract tax except in case of gift from specified close relatives5 which is exempt. however gifts received on the occasion of marriage, and under Will are exempt from taxation.
As per the US law, tax on gifts is levied in the hands of the donor or person making the gift and not the receiver. moreover, this only applies where the person making the gift is a uS taxpayer, that is, a US resident, green card holder or citizen. Where a gift is made by a person resident in india to a uS person, no gift tax is payable as the donor (indian resident) is not a US taxpayer. However, the person receiving the gift, being a uS taxpayer, must report it in form 3520 – ‘annual return to report transactions with foreign trusts and receipt of foreign gifts’.
12. Types of the uS Source income or income received in the uS by non-resident aliens that may be exempt under income tax treaties?
6 Following types of income or receipts in uSA may be exempt under the us Tax Treaties:
? Remuneration of professors and teachers who teach in the united States for a limited period of time.
? Amounts received from abroad for the maintenance, education and training of foreign students and business apprentice who are in the united States for study experience.
? Wages and salaries and pension received by an alien from employment with a foreign government while in the united States.
? Certain capital gains from the sale or exchange of certain capital assets by non-resident aliens under certain conditions.
? Depending upon the facts of each case, the tax payer must study applicability of relevant tax treaty.
13. What are the exclusion of Foreign Earned income in the hands of a us Citizen or a resident alien?
7 If certain requirements are met, a US citizen or a resident alien may qualify for the exclusions of foreign earned income and foreign housing exclusions and the foreign housing deduction.
If a person is a uS citizen or a resident alien of uS and is living abroad, he is taxed on his worldwide income. however, he may qualify to exclude from income up to an amount of his foreign earnings that is adjusted annually for inflation ($ 92,900 for 2011, $ 95,100 for 2012, $ 97,600 for 2013, $ 99,200 for 2014 and $ 100,800 for 2015). in addition, he can exclude or deduct certain foreign housing amounts. he may also be entitled to exclude from income the value of meals and lodging provided to him by his employer.
Certain requirements for exclusion of foreign earned income are as follows:
? A US citizen who is a bona fide resident of a foreign country or countries for an uninterrupted period that includes an entire tax year.
? A US resident alien who is a citizen or national of a country with which the united States has an income tax treaty in effect and who is a bona fide resident of a foreign country or countries for an uninterrupted period that includes an entire tax year.
? A US citizen or a US resident alien who is physically present in a foreign country or countries for at least 330 full days during any period of 12 consecutive months.
14. What is FBAR and who is required to file it?
fBar8 refers to report of foreign Bank and financial accounts.
“United States persons” are required to file an FBAR if:
1. The United States person had a financial interest in or signature authority over at least one financial account located outside of the united States; and
2. The aggregate value of all foreign financial accounts exceeded $10,000 at any time during the calendar year reported.
“united States person” includes u.S. citizens; u.S. residents; entities, including but not limited to, corporations, partnerships, or limited liability companies, created or organized in the united States or under the laws of the united States; and trusts or estates formed under the laws of the united States.
? Exceptions To The Reporting Requirement
Exceptions to the fBar reporting requirements can be found in the FBAR instructions9. There are filing exceptions for the following united States persons or foreign financial accounts:
? Certain foreign financial accounts jointly owned by spouses
? united States persons included in a consolidated fBar
? Correspondent/nostro accounts
? Foreign financial accounts owned by a governmental entity
? Foreign financial accounts owned by an international financial institution
? Owners and beneficiaries of U.S. IRAs
? Participants in and beneficiaries of tax-qualified retirement plans
? Certain individuals with signature authority over, but no financial interest in, a foreign financial account
? Trust beneficiaries (but only if a U.S. person reports the account on an FBAR filed on behalf of the trust)
? Foreign financial accounts maintained on a United States military banking facility.
? the taxpayer must consult his uS tax Consultant in this regard about the current reporting requirements.
15. What is Form 8938 and who is required to submit it?
Certain U.S. taxpayers holding financial assets outside the united States must report those assets to the IRS, generally using Form 8938, Statement of Specified foreign financial assets. The form 8938 must be attached to the taxpayer’s annual tax return.
16. What are the specified foreign financial assets that one needs to report on Form 8938?
The person, who is required to file Form 8938, must report his financial accounts maintained by a foreign financial institution. Examples of financial accounts include:
? Savings, deposit, checking, and brokerage accounts held with a bank or broker-dealer. and, to the extent held for investment and not held in a financial account, he must report stock or securities issued by someone who is not a U.S. person, any other interest in a foreign entity, and any financial instrument or contract held for investment with an issuer or counterparty that is not a US person. Examples of these assets that must be reported if not held in an account include:
? Stock or securities issued by a foreign corporation;
? A note, bond or debenture issued by a foreign person;
? An interest rate swap, currency swap, basis swap, interest rate cap, interest rate floor, commodity swap, equity swap, equity index swap, credit default swap or similar agreement with a foreign counterparty;
? An option or other derivative instrument with respect to any of these examples or with respect to any currency or commodity that is entered into with a foreign counterparty or issuer;
? A partnership interest in a foreign partnership;
? An interest in a foreign retirement plan or deferred compensation plan;
? An interest in a foreign estate;
? Any interest in a foreign-issued insurance contract or annuity with a cash-surrender value.
17. What is the difference between Form 8938 and FinCEN Form 114 (FBAR) i.e. report of Foreign bank and Financial Accounts (FBAR) 10?
a) Who needs to file
i) Form 8938 has to be filed by Specified individuals, which include U.S citizens, resident aliens, and certain non-resident aliens that have an interest in specified foreign financial assets and meet the reporting threshold (total value of assets) i.e. $ 50,000 on the last day of the tax year or $ 75,000 at any time during the tax year (higher threshold amounts apply to married individuals filing jointly and individuals living abroad).
ii) FBAR has to be filed by U.S. persons, which include U.S. citizens, resident aliens, trusts, estates, and domestic entities that have an interest in foreign financial accounts and meet the reporting threshold i.e. $ 10,000 at any time during the calendar year.
b) What needs to be reported
i) Under form 8938, an individual has to report about Maximum value of specified foreign financial assets, which include financial accounts with foreign financial institutions and certain other foreign non-account investment assets i.e. interest in foreign partnership firms, foreign stock or securities not held in a financial account, foreign hedge funds and private equity funds etc.
ii) Under fBar, a person has to report maximum value of financial accounts maintained by a financial institution physically located in a foreign country which also includes indirect interest in foreign financial assets through an entity. One also has to report the foreign financial account for which one is designated as authorised signatory.
c) Form 8938 has to be filed along with one’s income tax return, whereas FBAR is to be filed separately and the due date for filing is 30th June.
Epilogue
The US tax law is a complex subject. one cannot possibly cover all aspects in a short write-up. the intention of few FAQs mentioned herein above is to draw one’s attention to the onerous compliances required by US Citizens/ Green Card holders living outside US and also about disclosure requirements under FATCA.
