Are you a foreign individual or a foreign business from one of the many countries that the US has a tax treaty with (such as the UK, France, or Australia)? If so, then you may know that you can come to the US and perform certain services for US clients without being taxed in the US. Of course, then you probably also know that certain activities can deny you this privilege by resulting in the creation of a “permanent establishment” (PE) in the US. As such, you are careful not to do anything that would trigger PE and jeopardize your exemption. So, you keep your activities to a minimum. You keep your visits short, And you definitely do not have an office in the US.
Then, COVID-19 happens. It wreaks travel (and other) havoc. You have employees stuck in the US, unable to fly home due to travel restrictions. One week goes by, two weeks, three… You are paying these stranded employees. They are still working, and their activities end up crossing the very gray threshold that is PE. Now what? Will you be taxed?
On April 21, the IRS issued a short piece entitled, “Information for nonresident aliens and foreign businesses impacted by COVID-19 travel disruptions.” The article conveys:
- If a nonresident alien or a foreign corporation is engaged in a US trade or business and ordinarily does not have PE
- But then does indeed create PE as a result of being impacted by COVID-19 travel disruptions
- Then, those activities that created PE will be ignored.
This assumes the person or business is from a country that has a tax treaty with the US.
So, what about a foreign individual or business who is not from a treaty country but is temporarily stranded in the US?
The IRS addresses this, too. Generally, a nonresident alien or foreign corporation from a non-treaty country that is engaged in a US trade or business is taxable on its business income connected to that US trade or business. This happens regardless of whether they have PE. If the person is temporarily in the US and considered to be engaged in a US trade or business that they otherwise would not have been engaged in, then they may be exempted from tax for the 60-day calendar period originating between February 1, 2020, and April 1, 2020.
Foreign individuals and businesses that fall within these parameters should document their positions by submitting “protective filings” to the IRS.
These are, essentially, tax returns claiming exemption from tax. The returns would need to be filed in early 2021 for the 2020 US tax year. And they serve several purposes:
- First, they make the IRS aware of the foreign individual or business in the US, and its intent to be honest and forthcoming with its US activity.
- Second, if the foreigner is ever audited and the IRS determines that they did not qualify to be exempt, the IRS will tax the revenues, but it will also allow deductions against this income—deductions that otherwise would have been disallowed had the protective filing not been made!
- Last, the filings start the clock running on the statute of limitations, a clock that would otherwise remain open indefinitely. This means that after 6 years go by, the IRS cannot pursue the taxpayer for any unpaid tax unless there is fraud involved.
The definitions of a “US trade or business” and “PE” are not black and white. It is always best to err on the side of caution when evaluating one’s US activity. And, of course, documentation is critical. Foreign persons or businesses finding themselves in one of these situations should carefully review their US activity and record all interruptions to their business and travel plans that were caused by COVID-19. If you need assistance, please contact us.