Even if you are a noncitizen of the United States, you may be required to report your worldwide financial assets to the Internal Revenue Service on Form 8938.
If you spend too many days in the United States, you become a resident for income tax purposes. You must pay U.S. income tax on your worldwide income. This is the so-called “substantial presence test.”
For people who live in countries which have an income tax treaty with the United States, there is a simple solution. You can make an election (using the treaty) to be treated as a tax resident of your home country and a tax nonresident of the United States.
You may think you have escaped the grasp of the U.S. government by doing this. You are wrong. You are still subject to the filing requirement for Form 8938. If your financial assets exceed certain (complicated) thresholds, you must tell the U.S. government about all of your financial assets outside the United States.
The person who should be worried about this (this is the “you” I am speaking to) is someone who:
Form 8938 is a new disclosure document that most people are seeing apply to their 2011 income tax returns. It largely duplicates the FBAR (Form TD F 90-22.1) with some startling exceptions. Here I show you one of these startling exceptions.
The disclosure requirements that are embodied in Form 8938 are found in Internal Revenue Code Section 6038D and the Temporary Regulations issued in late December, 2011. See Treasury Decision 9567 (December 14, 2011).
The law is written so that everyone on the planet is a potential filer of Form 8938:
Any individual who, during any taxable year, holds any interest in a specified foreign financial asset shall attach to such person’s return of tax imposed by subtitle A [26 USCS §§ 1 et seq.] for such taxable year the information described in subsection (c) with respect to each such asset if the aggregate value of all such assets exceeds $50,000 (or such higher dollar amount as the Secretary may prescribe).
See Internal Revenue Code Section 6038D(a).
This is self-evidently silly. Therefore, the law includes a command to the Secretary of the Treasury to write regulations in order to make the law workable:
The Secretary shall prescribe such regulations or other guidance as may be necessary or appropriate to carry out the purposes of this section, including regulations or other guidance which provide appropriate exceptions from the application of this section in the case of–
(1) classes of assets identified by the Secretary, including any assets with respect to which the Secretary determines that disclosure under this section would be duplicative of other disclosures,
(2) nonresident aliens, and
(3) bona fide residents of any possession of the United States.
See Internal Revenue Code Section 6038D(h).
. . . and no Form 8938 if you don’t file a tax return
There is another exclusion from the filing requirements: if you are not required to file a U.S. income tax return, then you are not required to file Form 8938:
A specified person, including a specified individual who is a bona fide resident of a U.S. possession, is not required to file Form 8938 with respect to a taxable year if the specified person is not required to file an annual return with the Internal Revenue Service with respect to such taxable year.
See Temporary Regulations Section 1.6038D-2T(a)(7)(i).
Therefore, if you have to file a U.S. income tax return, you are subjected to the Form 8938 filing requirements. This might trip you up in one of two ways:
The Temporary Regulations say that a “specified person” must file Form 8938:
Except as otherwise provided, a specified person that has any interest in a specified foreign financial asset during the taxable year must attach Form 8938, “Statement of Specified Foreign Financial Assets,” to that specified person’s annual return for the taxable year to report the information required by section 6038D and section 1.6038D-4T if the aggregate value of all such assets exceeds [certain thresholds].
See Temporary Regulations Section 1.6038D-2T(a)(1).
A “specified person” who has enough in “specified foreign financial assets” must file Form 8938. We assume that this applies to you. So are you a “specified person”?
A “specified person” means someone who is a “specified individual” or a “specified domestic entity.”7 Since a human being is not an entity, you must be an individual. But are you a “specified” individual?
A “specified individual” is someone who is a a resident alien of the United States for any part of the tax year [see Temporary Regulations Section 1.6038D-1T(a)(2)(ii)], or a nonresident alien who makes a tax election to be treated as a resident of the United States for tax purposes see Temporary Regulations Section 1.6038D-1T(a)(2)(iii)]. Let’s ignore the idea of making the tax election [see Internal Revenue Code Section 6013(g)] to be treated as a resident of the United States. (There are other definitions that apply to U.S. citizens and residents of U.S. possessions. Let’s ignore those, too).
Are you a “resident alien” of the United States for any portion of calendar year 2011? If you are, then you must file Form 8938 if you meet the financial thresholds for filing and you are required to file a U.S. income tax return.
“Resident alien” is a term of art defined in the Internal Revenue Code and Treasury Regulations.
The term resident alien has the meaning set forth in section 7701(b) and section 301.7701(b)-1 through 301.7701(b)-9 of this chapter. See Temporary Regulations Section 1.6038D-1T(a)(3).
Let us now look at the normal definitions of “resident alien” to determine whether you are one. Or not. If you are not a “resident alien” then you are not required to file Form 8938.
One way to become a “resident alien” for income tax purposes is to spend too many days in the United States. [Internal Revenue Code Section 7701(b)(1)(A)(ii).] There is a bit of light mathematics required to figure out what “too many days” means. [See Internal Revenue Code Section 7701(b)(3).] Briefly, do the following calculations:
Let’s assume the worst. You are a resident alien for 2011 because you spent “too many days” in the United States.
The Treasury Regulations tell us what to do if someone is treated–for income taxation purposes–as a resident of the United States and a resident of another country. If there is an income tax treaty between the two countries, you may elect to be treated as a resident of the other country, and a nonresident of the United States:
* * * If the alien individual determines that he or she is a resident of the foreign country for treaty purposes, and the alien individual claims a treaty benefit (as a nonresident of the United States) so as to reduce the individual’s United States income tax liability with respect to any item of income covered by an applicable tax convention during a taxable year in which the individual was considered a dual resident taxpayer, then that individual shall be treated as a nonresident alien of the United States for purposes of computing that individual’s United States income tax liability under the provisions of the Internal Revenue Code and the regulations thereunder . . . with respect to that portion of the taxable year the individual was considered a dual resident taxpayer.
See Treasury Regulations Section 301.7701(b)-7(a)(1).
The United States and Canada, for instance, have such a treaty, and the treaty contains the required “tie-breaker” language that you can use to be treated as a resident of Canada and nonresident of the United States. The language is at Article 4 of the treaty. In fact, you will find the tie-breaker language at Article 4 of almost every income tax treaty that the United States maintains with other countries.
There are some paperwork requirements to be satisfied if you want to be treated as a nonresident alien for income tax purposes in the United States. You must file a nonresident income tax return (Form 1040NR) and attach a statement to it:
An alien individual described in paragraph (a) of this section who determines his or her U.S. tax liability as if he or she were a nonresident alien shall make a return on Form 1040NR on or before the date prescribed by law (including extensions) for making an income tax return as a nonresident. The individual shall prepare a return and compute his or her tax liability as a nonresident alien. The individual shall attach a statement (in the form required in paragraph (c) of this section) to the Form 1040NR. The Form 1040NR and the attached statement, shall be filed with the Internal Revenue Service Center, Philadelphia, PA 19255. The filing of a Form 1040NR by an individual described in paragraph (a) of this section may affect the determination by the Immigration and Naturalization Service as to whether the individual qualifies to maintain a residency permit.
See Treasury Regulations Section 301.7701(b)-7(b).
The specific statement required is Form 8833:
The statement filed by an individual described in paragraph (a)(1) of this section, for a return relating to a taxable year for which the due date (without extensions) is after December 15, 1997, must be in the form of a fully completed Form 8833 (Treaty-Based Return Position Disclosure Under Section 6114 or 7701(b)) or appropriate successor form. See section 6114 and Section 301.6114-1 for rules relating to other treaty-based return positions taken by the same taxpayer.
Treasury Regulations Section 301.7701(b)-7(c)(1).
Therefore, you will be a nonresident alien for U.S. income tax purposes if you:
Let’s say that you do both of these things. As far as the definition of “nonresident alien” is concerned, Treasury Regulations Section 301.7701(b)-7 makes you a “nonresident alien” in the eyes of the United States for income tax purposes.
Becoming a nonresident alien by using the income tax treaty does not make you a nonresident alien for all purposes of U.S. tax compliance. Making the election under an income tax treaty makes you a nonresident alien for the purpose of computing your U.S. income tax liability. But all other provisions of U.S. tax law will continue to apply to you as if you are a U.S. resident:
Generally, for purposes of the Internal Revenue Code other than the computation of the individual’s United States income tax liability, the individual shall be treated as a United States resident. Therefore, for example, the individual shall be treated as a United States resident for purposes of determining whether a foreign corporation is a controlled foreign corporation under section 957 or whether a foreign corporation is a foreign personal holding company under section 552. In addition, the application of paragraph (a)(2) of this section does not affect the determination of the individual’s residency time periods under section 301.7701(b)-4.
Treasury Regulations Section 301.7701(b)-7(a)(3).
This means that your income tax obligations in the United States would be computed using the rules applicable to nonresidents. However, your U.S. legal obligations in the tax realm (including the obligation to declare foreign bank accounts on Form 8938) would remain intact, because this is a “[purpose] of the Internal Revenue Code other than the computation of [your] United States income tax liability.”
The Form 8938 filing requirement remains intact, and you will have to complete Form 8938. The introductory text to the Temporary Regulations tells us that the little legal analysis above is correct:
For section 6038D purposes, a specified individual is a U.S. citizen, a resident alien of the United States (as determined under section 7701(b) and section 301.7701(b)-1 through 301.7701(b)-9 of this chapter), or a nonresident alien who has elected under section 6013(g) or (h) to be taxed as a U.S. resident. A resident alien who elects to be taxed as a resident of a foreign country pursuant to a U.S. income tax treaty’s residency tie-breaker rules is a specified individual for purposes of section 6038D and the regulations.
Emphasis added. See Treasury Decision 9567 (December 14, 2011), Explanation of Provisions, Section 1(A).
At least it is internally consistent logic within the alternate universe that is the Internal Revenue Code. But I foresee a great number of people who will screw this up mightily.