October 2018
Your 2018 Tax Return? A Mighty Thick Postcard
Last year, proponents of U.S. tax reform expressed their goal to enable taxpayers to file returns “on a postcard.” Of course, this was not to be taken literally. Filing a postcard tax return would be fraught with many issues, chief among them the security of your personal information, as postcards are not generally mailed in envelopes. Instead, the postcard objective was symbolic of the intent and desire to simplify the tax code, do away with intricacies and caveats, and streamline U.S. tax reporting. The thought was, if you simplify tax reporting, the standard Form 1040 tax return could be a fraction of its former size, shrunk to the size of a postcard. So, did they succeed? Will you be able to file a “postcard” tax return next year to report your 2018 taxes? Not exactly. The new draft version of 2018 Form 1040 has indeed been significantly reduced in size. It contains 56 fewer lines compared to the 2017 version. However, this reduction is offset by the creation of six new supporting schedules. The new schedules are as follows: Schedule 1 – Additional Income and Adjustments to Income Schedule 2 – Tax Schedule 3 – Nonrefundable Credits Schedule 4 – Other Taxes Schedule 5 – Other Payments and Refundable Credits Schedule 6 – Foreign Address and Third-Party Designee So, were things actually simplified, or did content just move from one part of the tax return to the other? The answer is: a little of both. In some ways, the tax code was simplified, and in others, it was rendered more complex (resulting in somewhat of a wash in terms of simplification). Plus, some content was moved from the Form 1040 to other schedules. It is important to understand that the Form 1040 itself (in its old and new versions) is just a summary of all the information contained on the supporting forms and schedules in the rest of the tax return. The new 2018 draft Form 1040 is indeed shorter, but it is still merely a summary, so the bulk of most taxpayers’ returns will reside in the numerous forms and schedules. For example, take the common situation of a husband and wife who file joint returns and have two children. The husband is a self-employed consultant, and the wife receives W-2 employment wages. They pay daycare expenses for their children. They have some investment income—interest, dividends and capital gains—and their combined annual income is over $300,000. In addition to the wife’s withholding, they make quarterly estimated tax payments. Under the current tax return filings, they would be required to file the Form 1040, Schedule B, Schedule C, Schedule D, Schedule SE, Form 8960, and Form 2441. Under the new tax return regime, they will be required to file the Form 1040, Schedule 1, Schedule C, Schedule D, Schedule 3, Form 2441, Schedule 4, Schedule SE, Form 8960, and Schedule 5. Their tax return grows from 7 forms to 10 forms. What does this mean for you for your returns [...]
August 2018
New Strategies for Cross-Border Estate Planning in Light of Tax Reform
The Tax Cuts and Jobs Act (TCJA) made significant changes to U.S. tax law, including various aspects related to international issues. An important example is cross-border estate planning for non-U.S. families who have one or more U.S. beneficiaries and U.S. investment accounts. These families will need proper U.S. tax planning to minimize U.S. estate tax and income tax, and families who previously obtained advice need to revisit the issue following passage of the TCJA. Background Whereas the United States imposes an estate tax on the worldwide assets of U.S. citizens and domiciliary residents, individuals who are neither citizens nor residents of the U.S. are subject to estate tax only on their U.S.-situs assets, including U.S. securities. However, U.S. citizens and residents who die in 2018-2025 have an exemption of $11,200,000 (adjusted annually for inflation)[1] after the exemption was raised by TCJA, and nonresidents have an exemption of only $60,000[2] against their U.S.-situs assets. In some cases, a relevant estate tax treaty may provide for a higher exemption amounts, but the U.S. has estate tax treaties with only 16 countries. Without the benefit of a treaty, an estate tax nonresident will owe U.S. estate tax if his U.S. assets exceed $60,000. Many non-U.S. investors hold U.S. investment portfolios well in excess of this amount. A common estate tax planning strategy for estate tax nonresidents who own U.S. assets in excess of the $60,000 exemption amount is to hold those assets through a non-U.S. corporation. As a result, the nonresident owns stock in a foreign corporation, which is not subject to U.S. estate tax even if the corporation itself owns U.S. investments. This strategy can cause problems, however, if the foreign corporation will be inherited by U.S. citizens or residents upon the nonresident’s death, as it will likely be considered a controlled foreign corporation (CFC). Controlled Foreign Corporations A CFC is a foreign corporation in which “U.S. shareholders” own (directly, indirectly, or constructively) more than 50% of the total combined voting power of all classes of stock or more than 50% of the total value of the stock on any day during the year.[3] A U.S. shareholder in this context is a U.S. person who owns (directly, indirectly, or constructively) 10% or more of the total voting power or value of the foreign corporation’s stock.[4] U.S. shareholders of a CFC are required to include in income each year certain types of passive income (“Subpart F income”) earned in the CFC, even if they do not receive a distribution from the CFC during the year.[5] Subpart F income includes capital gains from the sale of property that gives rise to passive income.[6] TCJA made significant changes to the CFC rules that will make CFCs more common, all else equal. First, TCJA expanded the definition of a U.S. shareholder to include an owner of 10% of the value of the corporation; the definition previously relied only on 10% voting power. It also changed the attribution rules used to determine whether a U.S. person is [...]
Court of Federal Claims Says FBAR Penalties Can Exceed $100,000
In a recent case, the Court of Federal Claims disagreed with two district courts that decided earlier in 2018 that the civil penalties for willfully failing to file a “Report of Foreign Bank and Financial Accounts” (FBAR) must be capped at $100,000. The Claims Court determined that the Treasury Regulation that provided the $100,000 maximum penalty is invalid because it is not consistent with the relevant statute. Background Statute and Regulations Every U.S. person who has a financial interest in, or signature authority over, a foreign financial account in excess of $10,000 must file an FBAR to report the account to the Internal Revenue Service (IRS).[1] The maximum civil penalty for a non-willful failure to file is $10,000[2] (adjusted for inflation). The maximum civil penalty for a willful failure to file “shall be increased to the greater of” $100,000 or 50% of the balance of the account at the time of the violation.[3] The above penalties reflect amendments to the statute made by Congress when it passed the American Jobs Creation Act of 2004 (AJCA). AJCA increased the maximum penalty for a willful failure to file from $100,000 to “the greater of $100,000 or 50% of the account balance.” The relevant regulations were promulgated before this amendment, and although they have been renumbered and amended to account for inflation, they continue to reflect the earlier $100,000 maximum willful penalty.[4] Previous District Court Cases In May 2018, a Texas district court ruled that the maximum civil penalty for willfully failing to file an FBAR was the $100,000 maximum penalty provided for in the regulations.[5] In its ruling, it held that the existing regulation[6] can be applied consistently with the statute,[7] and therefore that the amendment to the statute increasing the maximum penalty did not implicitly invalidate or supersede the regulation. In July, a Colorado district court came to the same conclusion, ruling that both the pre-amendment version and the current version of the statute specifically grant the Secretary discretion to assess penalties because they state that the Secretary “may assess” penalties.[8] Claims Court Findings The Court of Federal Claims disagreed with the two district courts and found that the regulation was invalid, as it was inconsistent with the relevant statute.[9] The court focused on the fact that in the amended statute, Congress used the imperative “shall” rather than the permissive “may” in stating that the maximum penalty “shall be increased” to the greater of $100,000 or 50% of the account balance.[10] The court ruled that with this wording, Congress raised the maximum penalty itself and removed the Secretary’s discretion to provide for a different maximum penalty. The court also said that “in order to be valid, regulations must be consistent with the statute under which they are promulgated.” Because the regulation’s maximum penalty of $100,000 is inconsistent with the statute’s maximum penalty of the greater of $100,000 or 50% of the account balance, the regulation is no longer valid, and the statute’s maximum penalty applies. In addition, the [...]
Repatriation Tax Proposed Regulations – Let the Mirrored Calculations Begin!
On August 1, 2018, the Internal Revenue Service (IRS) announced the proposed regulations[1] for Internal Revenue Code §965 (Transition or Repatriation Tax). The proposed regulations are broken down into several sections. The areas and issues that are affected the most by the proposed regulations are as follows: Calculation of Earnings & Profits (E&P) Calculation of the Cash and Non-Cash Positions Disregarded Transactions between Measurement Dates Foreign Tax Credit §962 Election for Individuals Foreign Withholding Taxes Calculation of Previously Taxed Income The IRS is accepting commentary on the proposed regulations until October 9, 2018. The final regulations will be published after that date but likely not before the individual filing deadline of October 15, 2018. Several of the proposed regulations, especially with regard to the calculations of E&P, cash position, and previously taxed income, may result in a higher inclusion amount (and therefore a higher Transition Tax due) than originally considered under the notices previously issued. Additionally, for those considering a §962 election,[2] the regulations are very helpful for determining how this election may affect taxpayers on a go-forward basis. We strongly recommend that taxpayers who had the Transition Tax calculated earlier in the year (based off the notices[3] and/or FAQs[4]) obtain a “mirrored calculation” before filing their 2017 tax return. This will help ensure adherence to the proposed regulations and also make sure that proper transitions are in place for the Global Intangible Low-Taxed Income (GILTI)[5] tax in 2018. [1] https://www.irs.gov/pub/irs-drop/reg-104226-18.pdf [2] https://www.law.cornell.edu/uscode/text/26/962 [3] https://www.irs.gov/newsroom/international-taxpayers-and-businesses [4] https://www.irs.gov/newsroom/questions-and-answers-about-reporting-related-to-section-965-on-2017-tax-returns [5] https://www.law.cornell.edu/uscode/text/26/951A
The 2018 CrossFit Games Offer More Than a Taxing Workout—They Illustrate How New U.S. Tax Law (§199A) Affects Non-Resident Aliens
The 2018 Reebok CrossFit Games just came to an end. There are many categories of competition, but the main draw is the individual competition for men and women. The two winners are deemed “The Fittest (Man or Woman) on Earth.” In the men’s category, the winner for the third year in a row is Mathew Fraser (an American from Tennessee). In the women’s category, the winner for the second year in a row is Tia-Clair Toomey (an Australian from Queensland). The winner in each category is awarded a main prize of $300,000. There are other awards for winning individual events and of course endorsement deals for clothing and shoes. Since athletes from around the world come to the U.S. for the competition, any foreign athletes who win are generally subject to U.S. taxes on their awards. Assuming we just focus on the main award of $300,000 and consider the perspective of a nonresident alien (NRA) individual such as Ms. Toomey, what is the most U.S. tax-efficient method for her to receive this income? To make this tax analysis simple and straightforward, I am removing any discussion or analysis related to the U.S.-Australian tax treaty and to tax rules for professional athletes. I am looking at this solely as an NRA who will receive $300,000 of U.S. compensation (as an independent contractor or self-employed person). My first question would be the following: As an NRA, can Ms. Toomey take advantage of Internal Revenue Code §199A (brand new for 2018), which allows a business deduction of up to a 20%? The answer is yes. There are no prohibitions against an NRA taking advantage of §199A. But the income would need to “Qualified Business Income[1]” (QBI). To be QBI, it would need to be income that is “effectively connected with the conduct of a trade or business within the United States.[2]” Since the earnings were made in Madison, Wisconsin, while Ms. Toomey was conducting her trade, the earnings are QBI for purposes of §199A. What is the benefit of §199A? IRC §199A allows a deduction of 20% of the taxpayer’s QBI. Example (assuming the highest tax rate): Taxable income of $300,000 x 37% = $111,000 tax Taxable income of ($300,000 - $60,000 (QBI Deduction)) x 37% = $88,800 tax Savings = $22,200 But wait, there is a twist here. Ms. Toomey’s profession as an athlete makes her a “Specified Services Trade or Business.[3]” This means that she is only able to benefit from IRC §199A if her taxable income is below a specified threshold limit. For individuals, the threshold limit for the full 20% deduction is $157,500. However, a partial deduction is available for individuals with taxable income between $157,000 and $207,000 (the deduction phases out over this range). This means that if Ms. Toomey were to receive the entire $300,000, then she would be completely phased out of IRC §199A and unable to claim any of the QBI deduction. But is there a way she could still receive a tax break on [...]
July 2018
June 2018
Nonresidents, Think You Are Safe from U.S. Gift and Estate Taxes? Think Again.
Do you live in the U.S. on a nonresident visa (e.g., G-4, A, or J visa)?Do you live outside the U.S. but own U.S. real estate or investments?Did you give up your green card or U.S. citizenship but maintain property or accounts in the U.S.?If you answered yes to any of these questions, you may know the rules that apply to you for U.S. income tax, but what about U.S. gift and estate taxes?This article is meant to help you avoid an expensive lesson by covering some basic information about the U.S. gift and estate taxes for nonresidents.What Most Nonresidents Don’t KnowThere are three main points that every nonresident should know about U.S. gift and estate taxes:The definition of “resident” is different for U.S. gift and estate tax purposes (vs. income tax purposes). Rather than being based on visa type or days spent in the U.S., “residency” for gift and estate tax purposes is based on the taxpayer’s “domicile.” If you are domiciled in the U.S., then you are subject to U.S. gift and estate taxes on a worldwide basis (more on this later).If you are a nonresident who is domiciled outside the U.S., and you own U.S. real estate or other U.S. assets (e.g., personal property, investment accounts, bank accounts), then you may be subject to U.S. gift tax on gifts of your U.S. assets > $15,000 and U.S. estate tax on your U.S. assets > $60,000. This is true even if you have previously given up your U.S. citizenship or green card.Certain U.S. states have their own estate and gift taxes.The Gray Area That Is “Domicile”A key concept in determining whether you are subject to U.S. gift and estate taxes (and to what extent) is “domicile.”For income taxes, tax residency is usually very clearly defined. It can be determined based on clear-cut criteria and bright-line tests.For estate and gift taxes, the concept of “domicile” is not so clear cut.While the relevant rules are varied and complex, the two essential elements are physical presence and intent. Individuals are considered U.S.-domiciled if they are living in the U.S. for even a brief period (the physical presence element), with no definite, present intention of later relocating to live in a specific other location (the intent element).In practice, the determination of domicile involves considering a variety of factors that may be evidence of intent—location of primary residence, family ties, social interests, personal belongings, and so forth.This means that individuals may be considered nonresident for income tax purposes but U.S.- domiciled for estate and gift tax purposes, or vice versa.For example, individuals present in the U.S. on nonresident visas (such as G-4 visas) may be considered U.S.-domiciled for estate and gift tax purposes if they want to permanently remain in the U.S., even though their current visas do not allow permanent residence and even though they are considered nonresident aliens for U.S. income tax purposes.Whether or not you are domiciled in the U.S., you may owe U.S. gift and estate taxes. Your domicile [...]
Nonresidents: Do You Qualify for the 20% Qualified Business Income Deduction?
Many self-employed foreign nationals perform consulting services in the U.S. on an infrequent basis. As such, they may not accrue enough days in the U.S. to be considered tax resident under the so-called Substantial Presence Test. Instead, these individuals are nonresidents of the U.S. and generally will be subject to tax on their U.S. source effectively connected income (ECI). The question arises as to whether nonresidents are eligible for the new 20% Qualified Business Income (QBI) deduction on business income earned in the U.S. This article specifically addresses the QBI deduction for nonresident self-employed consultants. Background—Tax Reform Created a New 20% Deduction When the Tax Cuts and Jobs Act of 2017 (TCJA) was passed in December 2017, it added a new provision (Internal Revenue Code §199A) that is effective for taxable years beginning January 1, 2018, and the law expires on December 31, 2025. This provision provides business owners of pass-through entities, including self-employed consultants (who typically file their returns using Schedule C), a 20% deduction related to the business owner’s “qualified business income” (QBI). The QBI deduction is only applicable to “effectively connected income” (ECI) from a U.S. trade or business. Generally, when a foreign person who is a self-employed consultant performs services in the U.S., all income derived from services performed within the U.S. is considered ECI. What is Qualified Business Income (QBI)? Generally, QBI is ordinary business income less ordinary business deductions. The 20% QBI deduction is generally equal to the sum of the LESSER OF: The "qualified business income" of the taxpayer, or 20% of the excess of taxable income over the sum of any net capital gain. Limitations for Self-Employed Consultants Unfortunately for consultants, the law limits and—at certain income thresholds—ultimately eliminates the 20% QBI deduction if the taxpayer is in a “specified service trade or business” (SSTB). A SSTB means any trade or business involving the performance of services in the fields of: Health, law, accounting, consulting, financial services, brokerage services, or any trade or business where the principal asset of such trade or business is the reputation or skill of one or more of its employees, or which involves the performance of services that consist of investing and investment management, or trading or dealing in securities. However, a trade or business that involves the performance of engineering or architectural services is not a specified service business. Therefore, since the profession of consulting is a SSTB, consultants need to understand when or if they will be able to avail themselves of the QBI deduction. What are the restrictions for the QBI deduction related to my specified service trade or business? For SSTBs, the QBI deduction begins to be phased out for individuals whose taxable income is $157,500. Between $157,500 and $207,500 a partial deduction is available, and the deduction is completely phased out at $207,500. The law specifies that on a jointly filed income tax return, the phase-out does not begin until $315,000 of taxable income; however, as nonresidents may not file joint 1040 nonresident income [...]
Moving for a Job Just Got a Lot More Expensive
Taxpayers have been subject to the new U.S. tax rules under the Tax Cuts and Jobs Act (TCJA) for almost half a year now. TCJA has changed the way qualified job-related moving expenses are treated for tax purposes. This new legislation went into effect at the beginning of the 2018 calendar tax year and remains in effect through December 31, 2025. The new law affects what used to be called “qualified” moving expenses, such as movement of household goods and personal effects, airfare for the employee and family (including pets), and in-transit lodging. The tax treatment of “nonqualified” moving expenses, such as in-transit meals, lodging outside of the transit period, and other nonqualified moving expenses, remains the same under the old and new laws. It is important to note there is an exception for any active duty members of the military, who are able to deduct required moving expenses under both the old and new laws. Employer Tax Consequences Under the new law, if the employer reimburses qualified moving costs to the employee or pays a third-party moving company directly, these payments are now taxable to the employee as additional compensation, and they are deductible by the employer as a compensation expense. For the employer, this represents only a minor change from prior treatment. Before the new law, the employer was still able to deduct these expenses; however, they were considered an operating expense rather than a compensation expense. Overall, there is only a small net tax impact to the employer, with the important exception of the tax gross-up option, as discussed below. Employee Tax Consequences For employees, on the other hand, the new law has significant implications. First, if an employee pays moving costs out of pocket, the qualified job-related moving expenses will no longer be deductible on an employee’s federal income tax return (i.e., IRS Form 3903 is no longer valid). Second, if the employer reimburses the employee for qualified moving costs or pays a third-party moving company directly, the payments are no longer excluded from the employee’s taxable compensation. Instead, they are now treated as additional compensation, subject to federal, state, local, social security, and Medicare taxes. This treatment results in a significant tax cost to the employee. These changes mean that, overall, under the new law, there are no tax relief provisions for incurring job-related moving expenses, nor are there alternative methods to restructure the moving expense reimbursement to gain a favorable tax deduction or credit. Internal Revenue Service Focus on Moving Expenses What was the impetus for the change in tax treatment for qualified moving expenses? It appears that Congress decided that many tax-free employee benefits should be scaled back under the new law, and “qualified moving expense” benefits fit into the category of employee tax-favored benefits. Employee Relief Outside of the Tax Code Although the employee bears the brunt of the tax law changes related to moving expenses, the employer can provide relief by choosing to gross-up the payments for taxes, including federal, state, [...]
Gazing into the IRS Crystal Ball—What Is Next on the IRS’s Hit List ?
Over the past 6 months, several major changes have had a significant impact on the tax industry. First, the Tax Cuts and Jobs Act of 2017 (TCJA) was passed in late December 2017. TCJA ushered in a new era of domestic and international corporate taxation that affects all U.S. taxpayers—individuals and businesses alike. Many provisions in the law were not fully fleshed out, so, as practitioners, we are still waiting for substantial clarification and guidance in certain areas. Second, on March 13, 2018, the IRS announced the end of the Offshore Voluntary Disclosure Program (OVDP), the full-scale amnesty program for U.S. taxpayers with unreported foreign income and/or assets. Taxpayers who still want to use the program effectively have until July 15, 2018, to start the process if they want to timely submit all information by the deadline of September 28, 2018. Third, several court rulings and international campaign announcements signaled potential changes and developments in IRS priorities. In this article, we will attempt to gaze into the IRS crystal ball to make predictions on a few ways these changes may affect taxpayers in 2018 and beyond. Cryptocurrency Voluntary Disclosure Program On May 30, 2018, the American Institute of CPAs (AICPA) issued a 23-page letter to the IRS asking for guidance on the taxation of virtual currencies, such as Bitcoin. U.S. taxpayers have been on the hook for accurate reporting of virtual currencies since 2014, when the IRS issued its first guidance on the subject. However, in the past few years, the taxation of virtual currency has expanded and become significantly complicated, with questions surrounding acceptable valuations, computation of gains/losses, and treatment of currency events, such as chain splits, airdrops, giveaways, token swaps, staking, mining, like-kind exchanges, installment sales, and wash sales, just to name a few. At the same time, tax practitioners have noticed a significant increase in clients who report having virtual currency income and assets. Furthermore, we know that the IRS is already targeting virtual currency reporting. It recently won a legal battle to compel Coinbase to release information on owners of virtual currencies, which it plans to use to assess taxpayer compliance. Our prediction: Because very few exchanges even produce Forms 1099 to report gains and losses from virtual currency transactions (let alone provide other documentation), the current situation reminds us of the early days of the 2009 and 2011 OVDP programs where tax firms were forced to expend significant resources to recreate financial histories to calculate untracked gains/losses from Swiss bank accounts. There are potentially hundreds of thousands of individuals who may have virtual currency income and information reporting issues with the IRS. Consequently, we believe that the IRS will create concrete guidance (or at least better guidance than issued in 2014) for the taxation of virtual currency and will simultaneously create a voluntary disclosure program for taxpayers who have non-compliance issues. We expect this program to be very similar to Streamlined Filing. Foreign Bank and Financial Accounts Report (FBAR) Penalty Limits In May, [...]
SPOTLIGHT: International Tax Attorney David H. Gershel
How Tax Reform Has Changed the Structure and Planning for Nonresident Aliens with U.S. Real Property Interests Wolf Group International Tax Director Mishkin Santa recently interviewed International Tax Attorney David Gershel to solicit his perspectives on how the Tax Cuts and Jobs Act of 2017 (TCJA) has changed the structure and planning for nonresident aliens with U.S. real property interests. David is an associate with the law firm of Grant, Herrmann, Schwartz & Klinger, LLP. He counsels high-net-worth individuals, multi-jurisdictional families, closely-held businesses, and fiduciaries on U.S. and international tax, wealth management, and estate and trust planning. This article summarizes the questions and answers from the interview. Prior to TCJA, most nonresident aliens used offshore structures to hold U.S. real property in an effort to shield them against U.S. estate tax. TCJA changed some of the rules that make this structure advantageous. Can you briefly discuss the changes and how they affect these structures? Do you have any recommendations or thoughts on how to optimize the structure for estate planning purposes under TCJA? Offshore planning structures are still generally effective tools for mitigating U.S. estate tax for nonresident aliens. A typical pre-TCJA structure for a nonresident alien generally consisted of an offshore corporation holding a U.S. limited liability company (LLC). Holding shares of a non-U.S. intangible (i.e., shares in the offshore corporation) generally ensures that the nonresident alien is holding a non-U.S. intangible asset that should not be subject to the U.S. gift or estate tax regime. The U.S. entity, rather than the non-U.S. corporation, should file the U.S. tax return and pay any taxes owed. This should also permit the LLC to sell the property without implicating the Foreign Investment in Real Property Tax Act (FIRPTA). The TCJA, however, does affect such a structure in a few ways. First, the reduction of the U.S. corporate income tax rate to 21% may trigger a non-U.S. country’s controlled foreign corporation (CFC) rules. For example, in many Latin American countries, the CFC rules are triggered if the foreign corporation is taxed at an effective tax rate of less than 75% of the home country’s tax rate for corporations. However, a few countries, such as Mexico, will include state and local corporate taxes levied on the U.S. corporation in the calculation of the effective tax rate applicable to the U.S. entity. The U.S. corporate tax rate reduction may cause complications at home, and it is advised that such individuals contact their local tax advisor to review whether there is a CFC issue in the non-U.S. jurisdiction. The use of U.S. or non-U.S. trust structures to purchase and hold real estate has not been significantly impacted. However, changes to the U.S. CFC rules eliminated the 30-day rule, which provided that a non-U.S. corporation must have been classified as a CFC for at least 30 consecutive days in the tax year for Subpart F rules to apply to such entity. As a result, upon the death of a non-U.S. grantor of a non-U.S. grantor trust which is, [...]
The Wolf Group Celebrates 35 Years! Our Story—A Look Back and a Glance Forward
Founder Len Wolf 's mother visits him in his early office space. It was time. The year was 1983, and I was a young, single guy, successfully employed as an accountant with a growing, mid-size Northern Virginia defense contractor. I enjoyed my work and the people around me. My employer’s uncompromising commitment to quality suited me well, but the company wasn’t mine to grow. I had an entrepreneurial passion to build a high-quality professional services practice, and I needed a “project.” It was indeed time to act. Only one problem: I had been in the D.C. area only 3 years, did not have any roots here, and was employed by a company that served the Department of Defense, which did not need a financial auditor or tax advisor. What was I going to do for clients? Hmmmm. The solution as I saw it was to stock up on peanut butter and jelly (and Hebrew National hot dogs) and worry about that later. So I resigned my position at BDM International, Inc. and, as they say, hung out my shingle...in the dining room of my apartment. With a few quick residence-to-office conversions—the Scandinavian style desk, a screen to block the kitchen from view, and replacement of pictures on the wall with a few diplomas and certificates—I could be ready to welcome clients. Shooing my girlfriend (now wife of 32 years) into the bedroom with instructions to keep the TV volume low also seemed appropriate. When I got tired of switching pictures with diplomas—before and after client meetings—and had more than one or two meetings a week, it was time to find a real office. That real office turned out to be a small room above a bank branch office on Broad Street in Falls Church. I didn’t mind the lack of air conditioning (although my papers blew all over the place every time I had to open the window for air, and I had to meet more than a few elderly clients in the bank’s lobby when the elevator broke, which usually happened every Monday and most Thursday afternoons for some reason). I shared a secretary and office equipment with five other businessmen and women, and a wonderful CPA (Will Soza of Soza & Company) offered me access to his tax library and conference room. Another fine man, Scott Yancey (my boss at BDM who left the company just prior to my departure) needed some help in his new position as CFO of a British telecom company and hired me on a per diem basis until he could build up his staff. Goodbye, peanut butter and hot dogs—hello tuna fish and hamburgers with steak on alternate Fridays! Next, an introduction to in-house counsel at the IMF and World Bank, coupled with my work for the British telecom company and its expat assignees, and I found myself having launched a specialty practice in international and expatriate tax planning and compliance. In 1985, I hired our first employee (a lovely woman [...]
Thinking About Giving Up Your Green Card? Tax Reform Provides New Opportunities
A near-record number of U.S. citizens and green card holders expatriated in calendar year 2017—5,133 as reported by the IRS[1]—and this list is widely considered to undercount the true number of expatriates. In fact, since 2010, when Congress passed the Foreign Account Tax Compliance Act (FATCA), the number of expatriations has risen steadily each year. Now, the recent passage of the Tax Cuts and Jobs Act (TCJA) may ease the way for more potential expatriates to remove themselves from the U.S. tax net without subjecting themselves to the dreaded U.S. “Exit Tax.” Why Expatriate? U.S. citizens and green card holders who live abroad or have international financial interests have become frustrated with the increasingly onerous U.S. tax and reporting regime. In addition to reporting their worldwide income to the IRS each year, these individuals must also report detailed information about their non-U.S. financial assets, businesses, and other financial transactions. Many non-U.S. financial institutions stopped accepting U.S. persons as clients due to the complexity and burden of FATCA before it even came into effect.[2] Foreign business partners have declined or withdrawn from business opportunities with U.S. partners to avoid the heavy tax and reporting requirements levied on Americans abroad. The high financial and mental costs of complying with the U.S. tax and reporting system have driven many U.S. citizens to renounce their citizenship, and many U.S. green card holders to relinquish their green cards. While this is often not an easy decision for a number of non-tax reasons, the difficulty is compounded by the U.S. Exit Tax regime.[3] Individuals who may wish to relinquish their citizenship or green card may hesitate to do so for fear of being caught in the Exit Tax net, which is designed to extract one last pound of flesh from those who expatriate. When Does the Exit Tax Apply? Generally, the U.S. Exit Tax may be imposed on U.S. citizens who relinquish their citizenship or “long-term residents” who give up their green cards. A long-term resident is someone who held a green card in 8 of the last 15 years.[4] In addition to giving up their citizenship or green card, individuals must also meet one of the following parameters: The individual’s net worth (including the present value of any pension) on his expatriation date is $2,000,000 or more,[5] or The individual’s annual net income tax liability for the 5 years prior to expatriation exceeds a certain threshold ($165,000 for 2018),[6] or The individual fails to certify on Form 8854 that he has met U.S. tax law requirements for the prior 5-year period.[7] An individual who expatriates and meets one of the above tests is considered a “covered expatriate” subject to the Exit Tax. A covered expatriate must calculate the taxable gain on all worldwide assets as if those assets were sold on the day before expatriation and pay the Exit Tax on the gain above a certain exclusion amount ($713,000 for 2018).[8] In addition, foreign pensions, individual retirement accounts, and certain other tax-advantaged accounts are treated [...]
IRS Offers First Amnesty Program for the Repatriation Tax
When tax reform was passed last December, the new legislation included a requirement for certain individuals with an interest in a foreign corporation to calculate and report a Repatriation Tax on their 2017 tax returns. This tax (or the initial installment payment) was due by April 18, 2018, with no extensions. (Please see our previous article, blog, and alert for further background on the tax and requirements.) On June 4, 2018, the Internal Revenue Service (IRS) announced that, subject to certain conditions, it will waive late payment penalties and allow late installment payment election relief related to the Internal Revenue Code (IRC) §965 Repatriation Tax. Who does this amnesty apply to? It applies to the following situations: Taxpayers who improperly attempted to apply a 2017 overpayment of the Repatriation Tax to their 2018 estimated tax. These taxpayers will not be subject to the estimated tax penalty. How to obtain the relief? To access this relief, all estimated tax payments must have been made by June 15, 2018. If you missed this deadline, we recommend that you make all estimated tax payments as soon as possible. [hr style="1,2,3,4" margin="40px 0px 40px 0px"] Taxpayers living inside the United States who missed the April 18, 2018 deadline for making the first of eight installment payments for the Repatriation Tax under IRC §965(h). These taxpayers will not be subject to a late payment penalty and will be allowed to access the installment payment plan under IRC §965(h). NOTE: interest will still be due on the tax that should have been paid in the first installment payment. How to obtain the relief? Step 1 - Calculate the Repatriation Tax. If the total Repatriation Tax is less than $1,000,000, then go to Step 2. If the total Repatriation Tax is more than $1,000,000, then you do not qualify for relief and must seek a different IRS amnesty program to make the correction. Step 2 - Make the first installment payment on or before April 15, 2019.[hr style="1,2,3,4" margin="40px 0px 40px 0px"] Individual taxpayers who have already filed their 2017 tax return without electing to pay the Repatriation Tax under the installment plan. The election can be cured retroactively. How to obtain relief? The taxpayer must paper file an amended tax return (Form 1040X), along with the proper forms electing the installment plan on or before October 15, 2018. [hr style="1,2,3,4" margin="40px 0px 40px 0px"] Our view is that the terms of this current amnesty are quite favorable. After the timelines have passed on situations # 2 and # 3, we anticipate that any future amnesty programs related to the Repatriation Tax will not have terms as favorable. We strongly urge taxpayers who have these issues to take advantage of this guidance as soon as possible. [hr style="1,2,3,4" margin="40px 0px 40px 0px"] The Wolf Group, PC has assisted many individuals, partnerships, and corporations with the calculation of the Repatriation Tax and the election for the installment payment plan. Please contact us at (703) 502-9500 with any questions or [...]
Planning Considerations for Global Families: Navigating IRC §2801 Inheritance Tax and Multi-Jurisdictional Transfer Taxes
While individuals expatriating from the U.S. often consider the income tax impacts of expatriation, few have a clear understanding of the U.S. gift and estate tax implications that their families may face should they, as a covered expatriate[1]: Make gifts or bequests to U.S. persons, including U.S. family members, after expatriating, or Pass away while retaining U.S. real estate or other U.S. situs assets after expatriating. The tax implications in these scenarios can be severe, and advisors may offer great value to mobile families in devising planning solutions to mitigate the global tax impact. Background Internal Revenue Code (IRC) Section 2801, the Code section that governs gifts and bequests from expatriators, was enacted effective June 17, 2008, by the Heroes Earnings Assistance and Relief Tax Act of 2008 (the “HEART Act”). Section 2801 generally taxes U.S. persons who receive, directly or indirectly, an otherwise nontaxable gift or bequest in excess of the annual gift tax exclusion amount ($15,000 in 2018)[2] from a covered expatriate.[3] The §2801 tax is equal to the product of the highest gift or estate tax rate on the date of receipt (currently 40%)[4] multiplied by the fair market value of the covered gift or bequest.[5] There is a credit available for any foreign gift or estate taxes paid on the transfer.[6] Because the imposition of the §2801 tax depends on a number of factors, including whether a gift or bequest is reported on a timely filed U.S. gift or estate tax return[7] and whether the gift or bequest is subject to foreign gift or estate taxes, it is extremely important for a taxpayer who may be subject to §2801 to obtain appropriate tax advice in the U.S. and his home country. Potential planning strategies will create tradeoffs between the two countries, so advisors must take into consideration both countries to ensure the most beneficial global result for the taxpayer. The complexities involved can be briefly illustrated with an example. Facts Taxpayer A and Taxpayer B are citizens of Country X. They moved to the United States and lived here for many years as lawful permanent residents (green card holders). They have two U.S. citizen children. After their many years in the U.S., in Year 1, they relinquish their green cards and move back to Country X. They are both covered expatriates. In Year 2, Taxpayer A passes away. At the time of his death, in addition to his assets in Country X, he still owned a U.S. stock account holding $500,000 of securities. Country X charges an estate tax of 30%, and it does not have an estate tax treaty with the U.S. Analysis As a nonresident not a citizen of the United States,[8] Taxpayer A is subject to U.S. estate tax on his U.S. situs assets, which in this case include his $500,000 U.S. stock account.[9] He is entitled to an exemption of only $60,000.[10] He must file a Form 706-NA nonresident estate tax return, and he will owe approximately $140,000 in U.S. estate tax. [...]
May 2018
GILTI Planning for Individuals – Reduce Your New Tax Rate by Double Digits
If you are an individual who owns or holds at least a 10% interest in a Controlled Foreign Corporation (CFC), you have probably spent the last 4 to 6 weeks working your CPA on how to calculate the new Repatriation Tax[1] under the Internal Revenue Code (IRC) §965. By April 17, you paid the Repatriation Tax in full—or one-eighth of the tax due under the 965(h) installment plan. You may be under the impression that everything now goes back to normal. Unfortunately, that is incorrect and represents nothing more than a false sense of security. Instead, you may be positioned for a large ongoing tax hit. The good news is, a few planning steps now could help you significantly reduce the annual impact. The payment of the Repatriation Tax with your 2017 tax return transitioned you into the new U.S. system of international corporate taxation, and that game has just begun. As of today, the IRS has yet to release notices, guidance, or regulations related to certain aspects of the new system, and individual owners of CFCs must now concern themselves with learning and understanding how the following provisions will impact their foreign corporations: IRC §951A, §962, §245A, §246, and §250. Although the Repatriation Tax transitioned you to the new system, you are likely still structured for tax efficiency under the old system. U.S. International Corporate Tax (1962–2017) The old system of international corporate taxation, called deferral, was enacted in 1962. Under this system, foreign corporations could defer earnings until one of three things happened: Subpart F Income was triggered, Dividends were paid, and/or A §956 inclusion was triggered.[2] Most individual owners of CFCs may have taken steps to plan their operations to not trip the Subpart F and §956 traps. If no dividends were ever issued, then individual owners likely have had a history of filing Form 5471 as a Category 4 and 5 filer. This “informational” filing is just as it sounds. Information about the foreign corporation is provided, including the profit and loss statement, balance sheet, and retained earnings. If you polled most tax professionals who deal with individual owners of small CFCs in early 2017, they would have uniformly responded that the form has had little to no impact on their clientele other than informational reporting[3]—that the form did not have a tax effect, at least not until IRC §965 was introduced for the 2017 tax return. Deferral came to an end with the new tax legislation, the Tax Cuts and Jobs Act of 2017, which was passed in December. U.S. International Corporate Tax (2018–Current) The new system of international corporation is called “Global Intangible Low-Taxed Income” or “GILTI.” This system was designed for a U.S. multinational company (USMNC)—i.e., a U.S. C corporation that has offshore subsidiaries—not for individuals who have direct ownership in foreign corporations. Although not designed for individuals with direct ownership, GILTI now applies to them, and unless those individuals make changes in their ownership structure, they risk being taxed at high rates [...]
April 2018
IRS Releases New Guidance on the Repatriation Tax
The IRS released Frequently Asked Questions for the Repatriation Tax on March 13, 2018. Under FAQ 11, the IRS politely asked all individuals who have a repatriation tax issue not to electronically file Form 1040 until April 2, 2018. Well, here we are, and on April 2 this week, the IRS released IRS Notice 2018-26. At 43 pages in length, this notice has a lot of information. Here are my ten big takeaways: The notice provides a lot of guidance related to partnerships. It starts by giving general guidance. For example, on page 12 the IRS highlights and underlines a reference to Notice 2010-41, which talks about regulations treatment of certain domestic partnerships as foreign partnerships when identifying U.S. shareholders required to include 951(a) inclusion amounts. Moreover, on page 30 of the notice, the IRS clearly indicates that each domestic pass-through owner must take into account its share of the Repatriation Tax inclusion regardless of whether the owner is a U.S. shareholder with respect to the Deferred Foreign Income Corporation. Partners who have less than a 10% ownership interest will not be allowed to make a §962 election (see the top of page 34). On page 14, the IRS discusses how §962 elections work for individuals. On page 15, the IRS discusses timing and payment of the tax due for citizens and residents abroad—June 15, 2018. On page 17, we get our first de minimis tax rule. When it comes to downward attribution, if a partner owns less than 5% in a partnership, then that interest will be considered de minimis and not be subject to the downward attribution analysis. At the bottom of page 17, we begin with a discussion on cash measurement dates. I think this may be the most important section of this notice. The IRS addresses the issue of a U.S. shareholder disposing of an interest in a specified foreign corporation before the November 2, 2017, measurement date. In this situation, the notice indicates that shareholders must look at their interests as of three different measurement dates: First Cash Measurement Date: Close of the last calendar date that ends after November 1, 2015, and before November 2, 2016. Second Cash Measurement Date: Close of the last calendar date that ends after November 1, 2016, and before November 2, 2017. Final Cash Measurement Date: Close of the last calendar date that begins before January 1, 2018, and ends on or after November 2, 2017. This notice provides a lot of guidance related to the Anti-Avoidance Rules. The IRS will disregard certain transactions if the following conditions are satisfied: Transaction (in whole or in part) occurs on or after November 2, 2017 The principal purpose is to reduce the Repatriation Tax Transaction reduces the Repatriation Tax liability Reduces the §965 inclusion amount Reduces the aggregate foreign cash position Increases the amount of foreign taxes paid The anti-avoidance guidance provided in §3.04(a)(ii) through (iv) is all presumptions. Taxpayers must attach a statement to rebut the presumption. Any changes to [...]
March 2018
Insights from across the Pond: Investing Tips for U.S.-UK Individuals
In March 2018, The Wolf Group caught up with Andrea Solana, Head of Advanced Planning at MASECO Private Wealth in the UK. Andrea has considerable experience advising high-net-worth individuals with financial interests in multiple countries and holds investment licenses in both the U.S. and UK. In addition to being near and dear to Wolf Group hearts (having worked at Wolf Group Capital Advisors for 8 years before moving to London), Andrea is well-positioned to offer on-point insights on issues and planning considerations for UK-U.S. individuals. We are pleased to share with you Andrea’s tips and insights on these timely U.S.-UK topics. UK Pension Considerations for UK-U.S. Taxpayers 1. If used properly, UK pensions can be a great planning tool. In the UK, individuals who have not maxed out their annual pension contributions can take advantage of a 3-year look-back for catch-up contributions. This is true for U.S. individuals who move to the UK. If they qualify to contribute to a UK pension and also have enough excess Foreign Tax Credits (FTCs) on their U.S. tax return, they can reduce their future U.S. tax without substantially increasing their current U.S. or UK tax. To do so, they make current and catch-up contributions to the pension, forego U.S. tax relief on those contributions (i.e., choose to keep them fully taxable), and then offset the increase in U.S. tax by applying their excess FTCs. This allows them to use up more excess FTCs (which normally only have limited uses) and generate US tax basis in the contributions. That way, when they retire and begin taking distributions, the distributions are partially or fully non-taxable in the U.S. This becomes valuable for U.S.-UK persons who decide to retire in the U.S. when distributions begin and are no longer UK resident. 2. The pension’s underlying investment strategy should align with the individual’s long-term residency intentions. If appropriate for individual circumstances, there may be opportunities to custody the UK pension on UK platforms or U.S. platforms, which expands the investment opportunities available to an individual and also allows investment strategies to remain tax efficient and cost effective. 3. Many reasons for expats to move their UK pensions offshore have been eliminated, but some individuals may still benefit from considering offshore options. Recent events, including the introduction of flexible drawdown rules for UK pensions in 2015 and the removal of the lump-sum death charge in the UK, have eliminated many of the reasons expats used to move their UK pensions offshore. Two groups of expats, however, may still wish to consider offshore qualified pension options in their tax planning: (1) certain individuals who have large amounts of expiring FTCs, and (3) individuals who have pension balances large enough to be concerned with the Lifetime Allowance Charge but who are not yet old enough to begin drawing down their pensions. Tax-Efficient Investing Tips for U.S.-UK Taxpayers For tax-efficient investing in both jurisdictions, U.S.-UK taxpayers should invest directly, if at all possible, rather than hold investments within a “tax wrapper” [...]
Planning a Move to the U.S.? Move These 4 Tasks Up Your Priority List
Preparing for an international move generally involves an extensive to-do list, topped by tasks such as finding a new home, choosing schools for the children, establishing a banking relationship, and figuring out transportation. If you are like most people, “tax matters” is likely pretty low on your to-do list, if it is even on the list at all. The stark truth, however, is that the U.S. tax system is very different from most tax systems around the world, and many new arrivals to the U.S. face surprises and unintended consequences. By moving tax planning up on your priority list, you can save yourself not only unnecessary tax costs but also a lot of headache. These four essential tasks can make a world of difference: 1. Find out ahead of time—will you be considered a U.S. tax resident or nonresident for your first year? What about subsequent years? Will you be a state tax resident, as well? Residency status determines how you will be taxed, how much income will be subject to tax, what forms you are required to file, what special elections are available, and what tax treaty benefits you can use. Determining residency status is the first step in all planning. Tip: Find out what your residency status will be in your home country during your time in the U.S., as well. This may affect your ability to claim foreign tax credits and invoke tax treaty benefits. 2. Find out ahead of time—what will be your U.S. residency start date? Make important transactions before this date, if possible. If you have income that was earned in your home country but will not be paid until after you arrive in the U.S. (e.g., income from bonuses, stock options, other incentives and equity awards), be careful! If paid during your nonresident period, the income is generally not taxable. If paid after becoming a U.S. resident, then it is taxable for U.S. federal and state purposes even if it was earned before you became a resident! Similarly, if you have stocks, securities, funds, or investment assets (including non-U.S. real estate) that have appreciated over time, if you sell them after you become U.S. resident, then the full gain is generally taxable in the U.S.—sometimes at capital gains rates, and sometimes at high, punitive rates. Tips: Consider selling problematic assets, such as non-U.S. mutual funds and life insurance accounts, before your U.S. residency start date. Work with both your U.S. tax advisor and your home country tax advisor to develop a comprehensive plan, especially if you have stock options, equity awards, retirement savings, and appreciated investment or real estate assets. If there is a possibly of obtaining a U.S. green card, where you intend permanent residence status in the U.S., seek both immigration and tax advice prior to the move. 3. Find out ahead of time—what options and elections will be available to you, and what is their impact? Many elections are available to nonresidents and to residents during the first year of [...]
Spotlight: International Tax Attorney Paul Marcotte, Jr. Opines on the End of OVDP
Paul Marcotte, Jr., Principal of law firm Paley Rothman, advises clients on complex international tax matters, including expatriation, structuring of offshore holdings, and cross-border estate planning, investments, and tax compliance. In this Spotlight, Paul addresses the top 3 considerations for individuals who may want to use the Offshore Voluntary Disclosure Program (OVDP) before it closes on September 28, 2018. 1. What are the top 3 considerations for individuals who may want to use the Offshore Voluntary Disclosure Program (OVDP) before it closes on September 28, 2018? First and foremost, is the OVDP the right strategy for the taxpayer to fix compliance issues? The IRS provides other remedial programs, including Streamlined Procedures and the Delinquent FBAR/International Information Return Procedures, which are much less intrusive and onerous in terms of penalty exposure. The OVDP is really intended for situations where a taxpayer’s conduct (noncompliance) was willful in nature, and thus, concerns arise as to criminal prosecution. Plus, much higher levels of civil penalties, in particular the civil FBAR willful penalty, come into play. Second, the IRS is more closely scrutinizing Streamlined submissions, specifically taxpayer assertions that noncompliance was not willful, and is selecting some of these for full audit. The IRS is concerned that some taxpayers who should have proceeded under the OVDP have tried to sneak by under the Streamlined Program, which has a less onerous penalty structure. Third, it is generally advisable for taxpayers to make sure they are eligible for the OVDP (i.e., the IRS does not already have their name) through the pre-clearance process. The OVDP pre-clearance procedure has been taking at least 30 days or more to complete, so given the sunset date for OVDP, it makes sense to start the pre-clearance process sooner rather than later. 2. The IRS indicated that the Streamlined Program will remain open after September 28. When do you think this program may be closed or modified? I suspect the IRS does not have a finite termination date in mind. However, as happened with the OVDP, I could see the IRS increasing the penalty level (which is currently 5% for residents) and possibly requiring some penalty for overseas filers.
The Ides of March 2018 – The end of OVDP!
On March 13, 2018, the IRS announced that the 2014 Offshore Voluntary Disclosure program, better known as OVDP, is coming to an end on September 28, 2018. The next few months will be the last opportunity taxpayers will have to avail themselves of the beneficial and protective terms of the program. After September 28, individuals who do not qualify for Streamline Filing will have to revert to pre-OVDP voluntary disclosure practice methods, which are much more stringent and less certain (not to mention more onerous and expensive). Although this is a last opportunity for those who are thinking about using the program, completing the program is especially important for taxpayers who gained initial pre-clearance or clearance for OVDP and have not yet completed their submissions. In these cases, the IRS already has these individuals on its radar (and potential list to pursue if the filings are not completed). “Alea Iacta Est” – The Die Is Cast! Like Julius Caesar crossing Rubicon into Italy, the die has been cast, and the time to act is now. The IRS has already made clear that a complete disclosure must be made by the 28th, not “partial, incomplete, or placeholder submissions.” Thus, it is critically important to note the documentation needed to make an accurate disclosure. Here are the steps required for a complete OVDP submission: Confirm you are not under audit or examination for any issues. We typically recommend that you defer to legal counsel or an experienced tax practitioner to review the transaction codes on the last 8 years of account transcripts to make this determination. Check your foreign financial institutions and advisers against the IRS blacklist, available on the IRS website at https://www.irs.gov/businesses/international-businesses/foreign-financial-institutions-or-facilitators. If they are on the list, then you may be subject to the 50% penalty. Make sure to get your Pre-Clearance Letter, OVDP Letter, and Required Attachments all completed well before the September 28 deadline. These letters and attachments have specific format and content requirements and should be assembled with the assistance of an attorney. Also, it is best to have these steps completed by early June (at the latest). Why? It will take the IRS Criminal Investigations time to process the Pre-Clearance Request (30 days for the pre-clearance authorization letter and then 45 days to submit the OVDP Letter and Attachments). Once the OVDP Letters and Attachments are submitted, it can take the IRS up to 45 days to provide the OVDP entrance letter. For the file to be complete, you will need to have the IRS responses approving each of these submissions. You will also need to sign consent forms to extend the time to assess civil penalties and FBAR violations. Provide full copies of your last 8 years’ worth of tax returns. Assuming that your 2017 return has not been filed, this would include the 2009–2016 returns. Provide amended tax returns for the last 8 years that include all of the unreported foreign financial income and international informational reports including but not limited to Forms [...]
Consultants: Do You Qualify for the 20% Qualified Business Income Deduction?
Many of our clients are self-employed consultants who perform their consulting services both in and outside the United States. Many of these clients have asked us how the new tax reform law might affect them. Specifically, they are inquiring about whether they qualify for the new 20% Qualified Business Income (“QBI”) deduction. In this article, I will address common questions and concerns about the QBI deduction for consultants. Background The Tax Cuts and Jobs Act, passed on December 22, 2017, reduced corporate income tax rates from graduated rates up to 35% to a flat 21% rate. Since small business owners, including consultants, often do business using passthrough entities (the income from which flows through to their individual returns and is taxed at individual tax rates) instead of C corporations, they also requested a tax reduction related to their business income. Congress obliged by adding Internal Revenue Code Section 199A, which generally allows a 20% deduction on certain Qualified Business Income (QBI). The top individual tax rate in the United States is 37%, and a 20% deduction related to passthrough business income effectively lowers the top rate to 29.6%. The 20% QBI deduction is effective for taxable years beginning on January 1, 2018, and expires on December 31, 2025. General Calculation Generally, QBI is the ordinary business income less ordinary business deductions you earn through a passthrough entity. QBI does not include wages you may earn as an employee. The 20% QBI deduction is generally equal to the sum of the LESSER OF: The "qualified business income" of the taxpayer, or 20% of the excess of taxable income over the sum of any net capital gain Limitations for Consultants Congress and the Administration believed that not all non-corporate businesses should get this tax break. At certain income thresholds, the law limits and ultimately eliminates the 20% QBI deduction if the taxpayer is in a “Specified Service Trade or Business.” A Specified Service Trade or Business means any trade or business involving the performance of services in the fields of: Health, law, accounting, consulting, financial services, brokerage services, or any trade or business where the principal asset of such trade or business is the reputation or skill of one or more of its employees, or which involves the performance of services that consist of investing and investment management, or trading or dealing in securities. However, a trade or business that involves the performance of engineering or architectural services is not a specified service business. Therefore, since the profession of consulting is a Specified Service Trade or Business, consultants need to understand when or if they will be able to avail of the QBI deduction. Here are answers to some common questions we are receiving in this regard: How can I easily estimate my QBI deduction? If your family’s total income is composed almost entirely of consulting income from a passthrough entity and your taxable income is less than $157,500 a year or $315,000 married filing a joint income tax return, then then your [...]
IRS to End Amnesty Program for Taxpayers with Unreported Foreign Financial Assets
The IRS announced yesterday that it would ramp down its current Offshore Voluntary Disclosure Program (“OVDP”) and entirely close the program on September 28, 2018. The OVDP is a partial amnesty program that generally allows U.S. citizens, green card holders, and U.S. resident taxpayers with undisclosed foreign financial accounts to come forward voluntarily and pay reduced penalties. According to the IRS statement, “By alerting taxpayers now, the IRS intends that any U.S. taxpayers with undisclosed foreign financial accounts have time to use the OVDP before the program closes.” The program closure comes at a time when the IRS has begun using advanced data analytics to identify noncompliant taxpayers with foreign accounts. It also comes on the heels of the IRS consolidating its elite special agents who pursue international tax cases into one expert International Tax Enforcement Unit. Many saw these actions as the early steps in shutting down the OVDP, which has been in place since 2014, and taking a harder-line stance against noncompliant taxpayers. While the current program allows taxpayers to pay a reduced “offshore penalty” of 27.5% (or 50% if the taxpayer has an account with a foreign bank or facilitator that is already under investigation by the IRS), taxpayers who are caught by the IRS outside a program can face criminal charges and even steeper fines and penalties. Although the closure affects the full-scale OVDP, the IRS states that taxpayers will be able to continue to avail themselves of some of the more narrowly focused amnesty programs, including the Streamlined Filing Compliance Procedures and procedures for delinquent FBARs and international information returns. The Wolf Group has assisted hundreds of clients come into U.S. tax compliance and avoid the draconian penalties that the IRS may impose on U.S. persons with undisclosed foreign financial accounts. Please contact us at (703) 502-9500 x154 to set up a consultation with one of our International Tax Directors.
February 2018
It is Six of One, Half a Dozen of the Other – Changes to U.S. Shareholders and Downward Attribution
The Tax Cuts and Jobs Act of 2017 ushered in a host of tax provisions you may have heard of, including the Repatriation Tax,[1] GILTI,[2] and Base Erosion[3] taxes. But, there are some little-known changes that may make a big difference on the 2017 tax return. In this post, I will talk about two specific changes: (1) the expanded definition of United States (U.S.) shareholder[4] and (2) downward attribution of stock ownership for determining whether a foreign corporation is a controlled foreign corporation (CFC).[5] Let’s start with the change to the definition of a U.S. shareholder. Under the old law, a U.S. shareholder was a U.S. person who owns either directly, indirectly, or constructively 10% of the voting stock of a CFC. Under the new law, a U.S. shareholder is now a U.S. person who owns either directly, indirectly, or constructively 10% of the stock of a CFC, by vote or by value. Let’s look at an example of how this will change things. Facts: Assume Foreign Corporation 1 (FC1) has two classes of stock for vote and value. Assume Taxpayer X, a non-U.S. person, owns 95% of the voting stock of FC1 and 5% of the total value of FC1. Assume Taxpayer Y, a U.S. person, owns 5% of the voting stock of FC1 and 95% of the total value of FC1. Assume that neither person is related by blood or marriage. Result Old Rules – Not a CFC Under the old rules, Taxpayer Y is not a U.S. shareholder because Taxpayer Y owns less than 10% of the voting stock. Since there are no other U.S. shareholders, FC1 is not a CFC. Result New Rules – CFC Under the new rules, Taxpayer Y is a U.S. shareholder because Taxpayer Y owns 95% of the total value of FC1. This would also make FC1 a CFC. Now let’s assume the same facts with one twist, let’s make FC1 a Passive Foreign Investment Company (PFIC) in the prior year. The result under the new rules is still the same. But what about the rule, “once a PFIC, always a PFIC?” In order to make the transition, the PFIC would need to conduct a purge election.[6] Then, in the following year, it can be treated as a CFC. _________________________________________________________________ Let’s move on to our second topic, the change in attribution rules. This is a change that will affect a lot of taxpayers. It has drawn attention in the tax practitioner community since the bill was passed and subsequent IRS notices[7] were issued. The American Institute of Certified Public Accountants (AICPA) has gone so far as to issue a letter[8] to the IRS about the topic. Without going into the specific code sections of 958 and 318, the new law now allows downward attribution of ownership from a foreign person to a U.S. person. What does this mean? Let’s look at an example: Facts: FC2 is a foreign corporation in the United Kingdom (UK). FC2 is owned by Taxpayer Z, a UK [...]
