Guide to U.S. Taxation of Foreign Investors
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Guide to U.S. Taxation of Foreign Investors INVESTMENTS PRODUCTS: NOT FDIC INSURED. NO BANK GUARANTEE. MAY LOSE VALUE. IN THIS GUIDE I. Introduction 1 Notional Principal Contracts 12 Annuities 13 II. Are You a U.S. Resident Rental Income 13 or Nonresident? 2 Real Property Interests 14 III. Taxation of U.S. Nonresidents 6 Partnership Income 15 IV. Taxation of Investment Income 8 V. U.S. Estate and Gift Tax Planning 18 Stocks 8 U.S. Estate Tax 18 Bank Deposits 9 Debt Instruments 9 U.S. Gift Tax 19 Portfolio Interest 9 VI. Ownership of Investments 22 Short-Term Obligations 10 Corporate Ownership 22 Mortgage-Backed Securities 11 Beneficial Ownership Mutual Funds 11 Through a Trust 23 Unit Investment Trusts 11 VII. Income Tax Treaty Benefits 25 Options, Forward and Future Contracts VIII.Documentation and Reporting 28 12 IX. Reportable Transaction Listed Stock Options 12 Regulations 39 Nonequity Options 12 Commodity Pools 12 Futures And Forward Contracts 12 © 2008 Citibank. Citibank, N.A. Member FDIC. Original Printing 2006 Revised: 03/2008 HB DOC # 6976 v1E 1. Introduction For the foreign investor, the United States presents a myriad of investment opportunities unavailable anywhere else in the world. This Guide is intended to provide you with some of the fundamental tax considerations of U.S. investments and to serve as a reference tool that enables you to identify investment opportunities that will help you maximize the after-tax earnings of your global portfolio. Taxes are a real and substantial cost of earning income. foreign investors who qualify as nonresidents for U.S. By minimizing, or perhaps eliminating, the U.S. tax income tax purposes. The Guide also offers practical cost of investing in U.S. stocks and securities, foreign tax planning ideas and highlights special situations, investors will improve the overall after-tax yield of the which require careful consideration or consultation with securities, professionally managed funds and other a tax or other professional adviser. It is not intended, investments held in their global portfolios. Although nor should it be relied on, as a technical analysis of many types of investment income from U.S. sources are this complex area of U.S. taxation. The U.S. tax rules subject to tax, opportunities are available to reduce or applicable to foreign corporations are similar, but not eliminate this tax: identical, to the rules applicable to nonresidents. Your • Certain types of financial instruments, when held by professional tax adviser should be consulted regarding foreign investors, are given preferred tax treatment the U.S. taxation of foreign corporations. under U.S. tax rules. Note for Married Individuals—This Guide only • U.S. tax treaties with many countries reduce or addresses U.S. federal taxation. It does not address eliminate U.S. tax on dividends, interest and other state or local tax issues, non-U.S. tax issues or the income for residents of the treaty countries. possible interaction of U.S. tax law with non-U.S. tax law. Further, this Guide only addresses the taxation of • Changing the form of ownership (individual, investment activity, including a separate section on corporation, personal investment company or trust, legislation that was enacted in 2003 to expand reporting etc.) may reduce estate and gift taxes in the U.S. and requirements for investors that fit within a regulatory in the investor’s home country. defined concept of a tax shelter.1 Each investor’s This Guide provides information regarding the U.S. tax unique factual circumstances can have an impact on rules as they affect U.S. nonresidents who have U.S. the application of the rules discussed in this Guide. This investment portfolios. It describes how the U.S. estate Guide is intended to provide readers with a general and gift tax rules apply to transfers of U.S. investment understanding of U.S. federal tax issues relating to their property and identifies opportunities to minimize or investments, but does not address all of the intricacies eliminate these taxes. In addition, the Guide includes and exceptions that may apply. It is not a substitute for separate sections that discuss the significant U.S. tax individualized personal tax advice and each investor aspects of particular types of investment products. It should consult his or her own professional tax adviser. is intended to help you understand the theory behind, 1 For further information on the tax shelter disclosure regulations, and the potential impact of, various U.S. tax rules on please refer to section IX. SMITH BARNEY GUIDE TO U.S. TAXATION OF FOREIGN INVESTORS/1 2. Are You a U.S. Resident or Nonresident? United States taxation of foreign persons who invest in the U.S. depends on whether they are residents or nonresidents. A person is defined under the tax law to include an individual, a corporation, a partnership, or a trust. Once it is determined whether such a person is a resident or a nonresident, different rules apply to individuals, corporations, partnerships, and trusts. Note—U.S. citizens, regardless of their residency, may be filed for later years. The election to be treated generally are subject to U.S. tax on their worldwide as a U.S. resident is suspended for any year neither income. All references to nonresidents in this Guide spouse is a U.S. citizen or a resident alien. The election include individuals that are not U.S. citizens. permanently ends if either spouse revokes the election, either spouse dies or there is a legal separation. IndividuaLS Note—Certain former U.S. citizens and former U.S. A foreign individual who is a U.S. resident is subject to residents may continue to be taxed as U.S. citizens U.S. taxation on worldwide income in the same manner or residents on certain income for the first ten years as a U.S. citizen. However, a nonresident generally is following expatriation from the United States. These taxed only on U.S.-source income and income that rules are beyond the scope of this Guide. is treated as effectively connected with a U.S. trade or business. A nonresident’s income from non-U.S. CORPorations investments (that is not treated as effectively connected A foreign corporation is generally subject to U.S. federal with a U.S. trade or business) generally is not subject to income tax on income that is treated as effectively U.S. federal income taxation. connected with a U.S. trade or business or attributable A foreign individual is generally considered a U.S. to U.S. sources. resident for the current year and is subject to U.S. income tax on worldwide income (net of deductions) PartnersHIPS AND Trusts if he or she: (1) is a lawful permanent resident of the Foreign partnerships or trusts are not subject to U.S. United States at any time during the taxable year (holds income tax, but the beneficial owners may incur U.S. tax a green card); (2) meets the substantial presence test; if the partnership or trust is considered to be conducting or (3) makes a first year election. More information on a U.S. trade or business or is earning U.S.-source physical presence follows this section. income. Income of a foreign trust may be taxed either to the trust or the trust’s beneficiaries. If at the end of the tax year, one spouse is a U.S. citizen or a resident alien and the other is a nonresident alien, Note—A nonresident whose spouse is a U.S. citizen or an election may be made to treat the nonresident resident may elect to be taxed as a U.S. resident. spouse as a U.S. resident for the entire tax year. A joint Note—The U.S. income tax rules applicable to an estate federal income tax return must be filed for the tax year are beyond the scope of this Guide. the choice was made. However, joint or separate returns 2 Physical Presence • for a total of 213 days. If the individual leaves the U.S. on March 31 of the For individuals who do not hold a green card, the rules second year, the individual’s U.S. residency will which determine who is treated as a resident or a terminate as of that date if certain conditions are met. nonresident for U.S. tax purposes are based upon the individual’s actual physical presence in the United States. DIPLOMats, Students, TeacHers, ATHLetes AND EMPLOYees OF SUBstantiaL Presence Test InternationaL OrganiZations In general, an individual is treated as a U.S. resident if he For the purposes of the substantial presence test, or she is present in the United States for at least 31 days an individual is not considered present in the U.S. on during the current calendar year and the total number any day on which he or she is present in the U.S. as of days that he or she is present in the United States, as a student, teacher or trainee, a professional athlete calculated below, equals or exceeds 183 days: temporarily in the U.S. to compete in a charitable • the number of days present in the current year, sporting event, or is temporarily present in the U.S. as plus a diplomat with full-time diplomatic or consular status. • one third of the days present in the preceding This exception also applies to full-time employees of year, plus an international organization (e.g., the United Nations, the World Bank or the International Monetary Fund), • one sixth of the days present in the next provided that the employee is neither a U.S.