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Employment Income Sourcing | International Tax Lawyer & Attorney

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Employment income sourcing is a very important tax issue for employees of US corporations sent overseas, employees of foreign corporations stationed in the United States and employees who work in different countries during a tax year. For employees who are tax residents of a foreign country, this issue will determine whether their income will be taxed in the United States; whereas for US tax residents, the source of income rules will determine the amount of the allowable foreign tax credit. In this article, I will focus on the employment income sourcing rules concerning monetary compensation of employees.

Employment Income Sourcing: General Rules

The source of income rules concerning employees are very similar to the rules that apply to self-employment income, but there are some differences. The main rule is that the location where the services are rendered determines whether this is US-source income or foreign-source income. If an employee works in the United States, then his salary would be considered US-source income; if he works in a foreign country, his salary would be sourced to that country. See §§861(a)(3) and 862(a)(3).

If the employer pays for work partly performed in the United States and partly outside of the United States, then the salary needs to be allocated between the countries. Treas. Reg. §1.861-4(b)(2)(ii)(A). The key issue arises here – how does an employee allocate this income between the countries?

Employment Income Sourcing: Time Basis Allocation

The first methodology for allocation of income between the countries is stated directly within the regulations – time basis. Id. Here, the IRS offers two choices to the employees: allocation based on specific number of days working in the United States versus separate time periods.

Under the “number of days” variation, the employee adds together the number of days worked in the United States and the number of days worked in a foreign country, figures out the percentages for each country and sources the income according to the percentage allocation. Treas. Reg. §1.861-4(b)(2)(ii)(F).

Under the “time periods” variation, a tax year is split into distinct time periods: one where employee spends all of his time in the United States and one where employee spends all of his time in a foreign country. The compensation paid in the first period is allocated entirely to the United States, whereas the salary paid in the second time period is considered to be foreign-source income. Id.

Employment Income Sourcing: Multi-Year Compensation

An interesting situation occurs with respect to employees with multi-year compensation contracts. A multi-year contract in this context means a situation where the “compensation that is included in the income of an individual in one taxable year but that is attributable to a period that includes two or more taxable years.” Reg. §1.861-4(b)(2)(ii)(F).

Generally, the employment income sourcing in this case occurs in the following manner: (1) employee first aggregates his total contract compensation for the entire year; (2) then, the employee sums up all of the days worked in the United States and all of the days worked in a foreign country for the period covered by the multi-year contract; and (3) the employee sources the income to the United States based on the number of days worked in the United States vis-a-vis the total number of days worked under the contract; the rest of the income is considered foreign-source income. Id. While this approach is specifically described in the regulations, the regulations also generally refer to the “time basis” allocation. Hence, it appears that an employee may have a choice between the “number of days” approach that was just described and the “time periods” variation.

Employment Income Sourcing: Alternative Basis Sourcing

Employees have the right to disregard completely the time basis approach to employment income sourcing and adopt an alternative basis approach. Treas. Reg. §1.861-4(b)(2)(ii)(C)(1)(i).  An employee can do so as long as he is able to establish that “under the facts and circumstances of the particular case, the alternative basis more properly determines the source of the compensation than a basis described in paragraph (b)(2)(ii)(A) or (B), whichever is applicable, of this section.” Id.

An employee is not the only person who has this right; the IRS also has the right to utilize an alternative basis for employment income sourcing “if such compensation either is not for a specific time period or constitutes in substance a fringe benefit.” Treas. Reg. §1.861-4(b)(2)(ii)(C)(1)(ii). The IRS can do so as long as the “alternative basis determines the source of compensation in a more reasonable manner than the basis used by the individual pursuant to paragraph (b)(2)(ii)(A) or (B) of this section.” Id.

A taxpayer does not need to obtain the IRS consent in order to use the alternative basis for employment income sourcing. He should, however, keep the records in order to be able to show how his method is better than the time basis approach. TD 9212, 70 FR 40663, 40665 (07/14/2005).

Special requirements apply to employees who received $250,000 or more in compensation and use the alternative basis for employment income sourcing. Not only must such employees answer the relevant questions on Form 1040, but they should also attach a detailed statement to their tax returns. Id. The statement must contain the following information: “(1) The specific compensation income, or the specific fringe benefit, for which an alternative method is used; (2) for each such item, the alternative method of allocation of source used; (3) for each such item, a computation showing how the alternative allocation was computed; and (4) a comparison of the dollar amount of the compensation sourced within and without the United States under both the individual’s alternative basis and the basis for determining source of compensation described in § 1.861-4(b)(2)(ii)(A) or (B).” Id.

Contact Sherayzen Law Office for Professional Help With US International Tax Law

If you are a US taxpayer who receives foreign-source income and/or has foreign assets, contact Sherayzen Law Office for professional help. Our professional tax team, headed by international tax attorney, Mr. Eugene Sherayzen, has helped hundreds of US taxpayers around the world with their US international tax issues. We can help You!

Contact Us Today to Schedule Your Confidential Consultation!

Sherayzen Law Office Successfully Completes October 2018 Tax Season

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Sherayzen Law Office, Ltd., successfully ended yet another tax season. The October 2018 tax season presented formidable challenges not only due to the diversity of the issues involved, but also the sheer volume of deadlines that needed to be completed between September 16 and October 15, 2018.

Let’s analyze the October 2018 tax season in more detail.

October 2018 Tax Season: Diversity of Tax Forms

During this October 2018 tax season, the tax team of Sherayzen Law Office had to deal with highly diverse tax issues – as usual. Our team is very well-versed in foreign income reporting and US international information returns such as: FBAR and FATCA Form 8938, business tax forms (926, 5471, 8858 and 8865), foreign trust forms (3520 and 3520-A), foreign gifts & inheritance reporting (Form 3520 and other relevant forms), PFICs and others. All of these forms needed to be completed for the October 2018 tax season.

However, there was something very new this time – Section 965 Transition Tax. As a result of the 2017 tax reform, US owners of certain foreign corporations were forced to recognize as income the accumulated E&P of their foreign corporations at their ownership percentage. The Section 965 tax compliance added a significant burden to the October 2018 tax season.

October 2018 Tax Season: High Volume of Deadlines & High Diversity of Assets

Between September 16 and October 15, 2018, Sherayzen Law Office completed over 70 deadlines for its clients. As part of these deadlines, we filed about 50 FBARs and a similar number of Forms 8938, about two dozens of Forms 5471/5472 and a smaller number of Forms 8865, about a dozen of Forms 3520 and over 200 Forms 8621.

Numerous forms were filed to report foreign rental income as well as foreign dividend and interest income. The vast majority of the filed tax returns included Foreign Tax Credit calculations.

October 2018 Tax Season: Diversity of Countries

The reported assets belonged to a wide variety of countries. During the October 2018 Tax Season, Sherayzen Law Office reported assets from virtually all main areas of the world. The majority of assets were reported from the European (particularly: France, Germany, Italy and the United Kingdom) and Asian countries (especially, China, India and Thailand); a smaller number of assets reported for Canada and Latin America. The deadlines for most of our New Zealand and all of our Australian clients were completed prior to September 15.

Lebanon and Egypt stood out among the Middle Eastern clients.

Sherayzen Law Office is a Leader in US International Tax Compliance

Sherayzen Law Office is committed to helping our clients to properly comply with their US international tax requirements. Our highly knowledge and higher experienced tax team has successfully helped hundreds of clients around the world with their US tax compliance issues, including offshore voluntary disclosures of foreign assets and foreign income. Our successful October 2018 tax season is just another proof of our commitment to our clients!

Contact Us Today to Schedule Your Confidential Consultation!

October 15 2018 Deadline for FBARs and Tax Returns | US Tax Law Firm

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With just a week left before October 15 2018 deadline, it is important for US taxpayers to remember what they need to file with respect to their income tax obligations and information returns. I will concentrate today on four main requirements for US tax residents.

1. October 15 2018 Deadline for Federal Tax Returns and Most State Tax Returns

US taxpayers need to file their extended 2017 federal tax returns and most state tax returns by October 15, 2018. Some states (like Virginia) have a later filing deadline. In other words, US taxpayers need to disclose their worldwide income to the IRS by October 15 2018 deadline. The worldwide income includes all US-source income, foreign interest income, foreign dividend income, foreign trust distributions, PFIC income, et cetera.

2. October 15 2018 Deadline for Forms 5471, 8858, 8865, 8938 and Other International Information Returns Filed with US Tax Returns

In addition to their worldwide income, US taxpayers also may need to file numerous international information returns with their US tax returns. The primary three categories of these returns are: (a) returns concerning foreign business ownership (Forms 5471, 8858 and 8865); (b) PFIC Forms 8621 – this is really a hybrid form (i.e. it requires a mix of income tax and information reporting); and (c) Form 8938 concerning Specified Foreign Financial Assets. Other information returns may need to be filed by this deadline; I am only listing the most common ones.

3. October 15 2018 Deadline for FBARs

As a result of the Surface Transportation and Veterans Health Care Choice Improvement Act of 2015, the due date of FinCEN Form 114, The Report of Foreign Bank and Financial Accounts (also known as “FBAR”) was adjusted (starting tax year 2016) to the tax return deadline. Similarly to tax returns, the deadline for FBAR filing can also be extended to October 15; in fact, under the current law, the FBAR extension is automatic. Hence, October 15 2018 deadline applies to all 2017 FBARs which have not been filed by April 15, 2018.

The importance of filing this form cannot be overstated. The FBAR penalties are truly draconian even if they are mitigated by the IRS rules. Moreover, an intentional failure to file the form by October 15 2018 may have severe repercussions to your offshore voluntary disclosure options.

4. October 15 2018 Deadline for Foreign Trust Beneficiaries and Grantors

October 15 2018 deadline is also very important to US beneficiaries and US grantors (including deemed owners) of a foreign trust – the extended Form 3520 is due on this date. Similarly to FBAR, while Form 3520 is not filed with your US tax return, it follows the same deadlines as your income tax return.

Unlike FBARs, however, Form 3520 does not receive an automatic extension independent of whether you extended your tax return. Rather, its April 15 deadline can only be extended if your US income tax return was also extended.

Sherayzen Law Office warns US taxpayers that a failure to file 2017 Form 3520 by October 15 2018 deadline may result in the imposition of high IRS penalties.

NPB Neue Privat Bank Signs Non-Prosecution Agreement | OVDP Lawyer

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On July 18, 2018, the US Department of Justice (the “DOJ”) announced that it signed a Non-Prosecution Agreement with NPB Neue Privat Bank AG (“NPB”). Let’s explore in more detail the history of this case and its resolution.

Background Information: 2001 QI Agreement between NPB and the IRS

NPB is a Swiss private bank based in Zurich. In 2001, NPB entered into a Qualified Intermediary Agreement (“QI Agreement”) with the IRS, which had extensive requirements for US tax withholding and US information reporting. Among these requirements was the obligation for NPB to ask its new and existing US clients to complete IRS Forms W-9 if they engaged in US securities transactions. In such cases, NPB was required to report the relevant transactions on IRS Form 1099.

Based on the QI Agreement, NPB arrived at a paradoxical conclusion that became prevalent among Swiss banks in the early 2000s. It believed that, as long as the bank complied with its QI Agreement, it could continue to accept and service US taxpayers even if NPB knew or had reason to believe that these taxpayers engaged in tax evasion. In other words, the bank could service such clients as long as they were not trading US-based securities or the investment accounts were nominally structured in the name of a foreign-based entity. It does not appear that an opinion of a legal counsel was secured in support for this belief.

Background Information 2009: NPB Accepts Noncompliant US Taxpayers

Prior to 2009, NPB had relatively few US clients; in fact, at the close of 2008, all of the NPB accounts owned by its US clients held approximately 8 million Swiss francs in assets.

The situation changed dramatically in 2009. As a result of the UBS case and other signs of increased IRS activity with respect to undisclosed foreign accounts, major Swiss banks started closing accounts owned by US taxpayers, creating a flood of potential clients for NPB. In early 2009, certain external-asset managers asked the bank to give refuge to these taxpayers and their money. The managers told the bank that they asked their US clients to become tax compliant, but some of them still had not done so.

On March 9, 2009, the NPB’s board of directors unanimously voted to allow US taxpayers to open accounts with the bank, even for those clients who fled other Swiss banks. As a result, by the end of 2009, NPB accumulated close to 450 million Swiss francs in accounts owned or beneficially owned by US taxpayers. The DOJ estimated that only 69% of these assets were reported to the US government at that time.

It appears that the bank’s executives had hoped that their US clients would eventually come into full compliance with US tax laws, but no written or formal policy to encourage or mandate such compliance was ever created.

Years 2010-2012: NPB Stops Accepting US Clients and Implements Some Procedures to Encourage US Tax Compliance

In August of 2010, as a result of the fact that US tax enforcement made the environment for Swiss banks which accepted noncompliant US taxpayers more and more dangerous, NPB decided not to open any new accounts for US clients who were noncompliant with US tax laws.

This decision (which was not reduced to writing) did not stop the bank from continuing to service its already existing noncompliant US taxpayers. Moreover there were at least 89 US-related accounts, both declared and undeclared, held in the name of offshore structures, such as trusts or corporations. These offshore structures were domiciled in countries such as Panama, Liechtenstein, the British Virgin Islands, Hong Kong, and Belize. All of these structures, however, were set up before the clients were accepted by the bank.

Starting August of 2010, NPB finally started to require new US clients to provide Forms W-9. The existing clients were required to submit Form W-9 only starting in the summer of 2011. The bank started to require evidence of tax compliance from its external asset managers only in August of 2011.

Swiss Bank Program: NPB is a Category 1 Bank

On August 29, 2013, the DOJ announced the Swiss Bank Program, but it declared NPB as a Category 1 bank ineligible to participate in the Program. By that time, the DOJ already started its investigation of the bank and its activities with respect to noncompliant US taxpayers.

Non-Prosecution Agreement with the DOJ

NPB cooperated throughout the DOJ investigation. In fact, the bank turned over the identities of US account holders and beneficial owners of more than 88% of the US-held assets.

The parties finally reached the agreement on July 18, 2018, when they signed the Non-Prosecution Agreement. Under the Agreement, the DOJ promised not to prosecute NPB. In return, the bank agreed to pay a penalty of $5 million. The bank further agreed to cooperate in any related criminal or civil proceedings as well as demonstrate that it implemented the necessary procedure to stop misconduct involving undeclared US-related accounts.

Contact Sherayzen Law Office for Help With the Voluntary Disclosure of Your Foreign Accounts

The NPB-DOJ Non-Prosecution Agreement demonstrates the continued IRS focus on US international tax enforcement. The IRS has devoted considerable resources to this area and all noncompliant US taxpayers around the world are at a significant risk of discovery, not just taxpayers with undisclosed Swiss bank accounts.

If you have undisclosed foreign accounts, contact Sherayzen Law Office as soon as possible to explore your voluntary disclosure options. Time is of the essence: the IRS flagship Offshore Voluntary Disclosure Program (“OVDP”) will close on September 28, 2018.

Contact Us Today to Schedule Your Confidential Consultation!

Belarus-Hong Kong Tax Treaty Signed | MN International Tax Attorney

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On January 16, 2017, the Belarus-Hong Kong Tax Treaty was signed by government officials from both countries – K.C. Chan, Hong Kong’s secretary for financial services and the treasury, and Sergei Nalivaiko, Belarusian minister of taxes and duties. Let’s explore the most important provisions of the new Belarus-Hong Kong Tax Treaty.

Elimination of Double-Taxation Under the Belarus-Hong Kong Tax Treaty

The new tax treaty will provide real benefits to businesses and individuals in both countries. In the absence of the treaty, the profits of Hong Kong companies earned through a permanent establishment in Belarus would be taxed in Belarus and Hong Kong. Similarly, prior to the treaty, the income earned by Belarusian companies in Hong Kong would be subject to both, Belarusian and Hong Kong taxation.

The Belarus-Hong Kong Tax Treaty will now eliminate the risk of double taxation by allowing Belarusian companies to claim a tax credit for taxes paid in Hong Kong. Similarly, Hong Kong companies will be able to claim tax credit for taxes paid in Belarus.

Belarus-Hong Kong Tax Treaty: Taxation of Dividends, Interest and Royalties

The new treaty establishes a 5% maximum tax rate for dividends and interest payments. This is a large reduction from the current highest rate of 13%. Moreover, in certain cases (mainly Hong Kong or Belarusian government-owned entities), dividends and interest are entirely exempt from taxation.

Additionally, under the new treaty, the royalties will generally be taxed also at 5%. However, if the royalties are paid for the use of (or the right to use) aircraft, then the tax withholding rate is further reduced to 3%. Again, this is a major reduction from the current highest rate of 15%.

Belarus-Hong Kong Tax Treaty: Concessions to Hong Kong Airlines

The special reduction for aircraft-related royalties is a major concession to Hong Kong Airlines, but it is not the only one. Additionally, Belarus agreed that Hong Kong Airlines operating flights to Belarus will be taxed at Hong Kong’s corporation tax rate. Furthermore, the profits from international shipping transport earned by Hong Kong residents that arise in Belarus (and which are currently taxed in Belarus) will now fully escape Belarusian taxation.

Belarus-Hong Kong Tax Treaty: Other Provisions and Entry into Force

The new treaty contains a number of other provisions regulating taxation of capital gains, pensions, government salaries and other income. Additionally, Article 25 of the treaty provides for exchange of tax-related information between Belarus and Hong Kong. This provision may have an unintended consequence for US tax residents who operate in Belarus and Hong Kong, because some information exchanged between Belarus and Hong Kong may be further provided to the United States under Hong Kong’s FATCA tax information exchange obligations.

The Belarus-Hong Kong Tax Treaty will enter into force once both sides complete their own ratification procedures.