The Worldwide Principle
A government's power to tax is limited to that government's jurisdiction. Governments have a measure of power over acts within their territorial limits, and over their own citizens and nationals who may be outside those limits.
Tax US here, US there and them here
US uses both territory and nationality as bases for income tax. This requires a definition of "US person" and "US corporation" Sec. 7701(b). It also requires rules to determine the territorial source of income. Sec. 861 ff
Individuals: US person or NRA?
US person = citizen, permanent resident, or substantial presence. Not the same as the immigration (INS) definition.
Substantial presence = more than half the year, using a weighted averaging of current and 2 prior years. Exceptions for students (5 year NRA status), diplomats, etc.
"Dual status" in the year a NRA becomes or ceases to be a US person.
US Corporations
US looks to the place of incorporation. Many other countries look to managing office -- can be overlap.
The "corporate veil". A foreign corporation's income from foreign sources is not taxed to its US owners until there is an actual or "deemed" distribution to those owners.
Sourcing rules
- Work = where the work is done (de minimus exception for NRA's)
- Interest and Dividends = location of payor
- Real Estate = location of the property
- Moveable Property = where the property is used
- Sale of Goods = split between place of manufacture and place of sale
- Transportation = split between origin and destination points
- Capital asset sales = residence of the recipient
- etc. etc.
The Basic Intenational Tax Problems: Double or Nothing
Double tax problem of overlapping national tax systems
Several nations seek to tax the same person, the same transaction or the same income. The nations have different policies, goals, administrative systems and rules.
Double taxation destroys incentives -- the deal doesn't get done and there is no income to tax.
Solution #1: priority rules. Generally, territory trumps nationality. US implements this by the Foreign Tax Credit (FTC) to offset US tax otherwise payable on foreign income
Solution #2: treaties. Network of bilateral agreements stating how each country taxes income sourced to the other.
The no tax problem of haven jurisdictions
Tax havens = minature "nations" that compete to offer low rates and act as bases for multinational corporations
US there: Taxation of US persons with foreign source income
Individual foreign earned income exclusion
Foreign Tax Credits
Dividend Gross-ups (and Imputation Credits explained)
The FTC limitation to US tax on foreign income. FTC max = US tax * (net foreign income / net US income). C/b or C/f of excess credits
The FTC limitation "baskets"
The "Corporate Veil" and the anti-deferral "hexapus"
deemed dividends of Foreign Personal Holding Company income
deemed dividends of "Subpart F income" from CFC's - non-active business, haven type income
Passive Foreign Investment Companies - interest charges or mark to market to offset deferral and conversion to capital gains
Anti-Haven enforcement initative
Transfer Pricing and Sec. 482 (see below)
Tax Subsidies for Exports
The WTO response to Disc, Fisc and ET schemes. Current policy problem
Them here: Taxation of NRA's with US source income
The 30% flat tax on gross income
Withheld on dividends, interest (some) and rents (some). Interest characterization rules and the branch profits tax try to bar loopholes re dividends.
Note sourcing rule issues with interest (eg bank deposits) and capital gains
The sec 1 /sec 11 tax on "effectively connected" income
Special regime for real estate: FIRPTA (Sec. 897) and withholding on sales proceeds
Transfer Pricing (also issue for US there)
Issue involves determining the amount of income that is sourced into US or outside US when buyer and seller are parts of the same entity, so invoice prices are potentially meaningless. There is some double tax problem, but mostly it's a haven-influenced "no tax" problem
Federal approach is "as-if arm's length", which has evolved by regulation into arcane substitute formulas. Sec. 6038, 6039 give IRS enormous investigatory power.
State approach is "formula apportionment" (usu. property, payroll and sales) of the profits of a "unitary business"