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April 12, 2015 - Phil Hodgen

Dual-Status Tax Returns and Treaty Tax Rates

I get questions. Here is an answer for a Sunday afternoon:

I’ve scoured the Internet for an answer to this question, and I can’t find it anywhere. Since you’re the go-to guru on the subject, I hope you can help.

Background info:

I renounced my U.S. citizenship on [Month] 31, 2014 and I have received my CLN. I’m a Canadian citizen and have lived in Canada almost my entire life.

As I understand it, I’m supposed to file form 1040NR for the entire 2014 tax year, and file form 1040 for Jan 1 to July 29, 2014, plus form 8854 and the FBAR. That’s fine. Well, not fine, but I’ve accepted it.

Question:

What do I write in Item L of Form 1040NR, Schedule OI (the section about claiming exemption from income tax under a U.S. income tax treaty with a foreign country)? My Form 1040NR is a sea of zeros. Am I supposed to write anything in Item L, or do I just leave it blank?

Thank you!

Short answer

Leave Item L blank.

Long answer: who cares about Item L?

Item L applies to a nonresident alien individual who has U.S. source income that is taxable in the United States under the normal tax rules.

Such a person has two choices:

  • pay the U.S. tax and claim a foreign tax credit in his or her home country; or
  • use the terms of an income tax treaty to reduce or eliminate the U.S. tax on that U.S. source income.

Dividends are a prime example of this. The default tax rate imposed by the United States is 30%. Income tax treaties reduce this. The Canada/USA income tax treaty, for instance, reduces the tax rate to 15%. Look at Article X, Section 2(b).

If you are using a treaty to reduce the U.S. tax rate on your U.S. income, you have to let the IRS know. You do that by (among other things) filling in this information on Form 1040NR, Schedule OI, Item L. The other way you tell the IRS is by putting the income item in the correct column on Schedule NEC, and (sometimes) by attaching Form 8833 to your Form 1040NR. More information is in the Instructions to Form 1040NR for when you are supposed to attach Form 8833.

Long answer: you (probably) don’t care about Item L

None of this matters to you if you have no U.S. source income. In fact, this is sort of the point of expatriating. Very, very few people would expatriate if the tax reasons did not exist. You do not see British citizens renouncing their passports. Or Canadians, for that matter. Citizenship-based taxation is the only reason that expatriation is a Thing.

You have expatriated so you are out of reach of citizenship-based taxation.

If you have no investments in the United States, you will completely eliminate your U.S. tax paperwork requirements in the United States. This is true for the year of expatriation (from your expatriation date in [Month Obscured], 2014 until December 31, 2014). It is also true for future years.

As a result, if you have no income from U.S. sources for the after-expatriation time period (from now until eternity) you can completely ignore Item L.

Expatriation