1. Determining US Residency
A foreign national is anyone that is not a US citizen. A foreign national is presumed to be a nonresident alien, unless he or she passes one of the following two tests of being a resident alien:
1. Lawful Permanent Resident Alien card (i.e., Green Card)
2. Substantial Presence Test, which means the person must be physically present in the US for at least —
• 31 days during the current year, and
• a total of 183 days over the last three years where —
• all of the days in the current year, plus
• one-third of the days in the preceding year, plus
• one-sixth of the days in the second preceding year.
There is also the closer connection exception, which means the person can avoid resident alien status if the taxpayer —
• was in the US less than 183 days during the tax year,
• has a tax home in another country,
• holds himself or herself as a resident of that country, and
• files IRS Closer Connection Exception Statement for Aliens (Form 8840).
Form 8840 is designed to gather information so that the IRS can determine where the taxpayer resides. The form asks the following types of questions:
• Where is your family located?
• Where are your automobiles located?
• Where are your automobiles registered?
• Where is your personal belongings (e.g., furniture) located?
• Where are your social, cultural, and religious organizations located?
• Where are the banks with which you conduct your everyday business?
• Where is your driver’s license issued?
• Where are you registered to vote?
• From what country did you receive the majority of your income?
If you are a green card holder, you will be taxed as a US citizen in most respects. If you are out of the country when the card is issued, residency begins the moment you enter the US. If you leave the US, but keep your green card, tax liability continues. The simple reason for this is that immigration law and tax laws are not congruent. For example, if you are out of the country without permission for more than six months, the green card can be revoked. However, you continue to be subject to US tax until the green card is turned in.
Many treaties, including the US-Canada treaty, provide that when you are a resident under the laws of both countries, residence is determined under a series of tie-breaking rules determined as follows:
• You are a resident of the country in which you have “a permanent home.”
• If you have a permanent home in both or neither of the countries, residence is in the country in which the economic ties are closer (center of vital interest).
• If the center of vital interest cannot be determined, residence is in the country of your “habitual abode.”
• If you have a habitual abode in both or neither of the countries, residence is determined by citizenship.
• If all of the foregoing rules fail, the residence is determined by agreement between the “competent authorities” of the two countries.
If you are taking advantage of any treaty benefits, you must attach IRS Treaty-Based Return Position Disclosure Under Section 6114 or 7701(b) (Form 8833) to your return to disclose the treaty position taken.
In nearly all respects, a resident alien is taxed exactly like a US citizen. The exceptions are the year of arrival and the year of exit from the US. In these cases, the resident alien is a dual-status alien. The taxpayer is called a dual-status alien because for part of the year he or she will be a resident of the US and for part of the year the taxpayer will be resident of a foreign country. In these cases, the taxpayer will be required to file what is known as a dual-status income tax return. The following are important things to remember with a dual-status income tax return:
• Only the income earned while a resident in the US will be subject to US tax.
• If married, you must file as married filing separately.
Itemized deductions are limited to the following:
• State and local income taxes
• Gifts to US charities
• Casualty and theft losses
• Miscellaneous deductions
1.1 First year elections
An important first year election is to step up the basis of your assets for US tax purposes. We discuss this in more detail in Chapter 3, but essentially the Treaty says that if you pay a deemed disposition tax upon emigrating from Canada (which you will do in nearly all cases), you can elect to step up the basis in your assets to the fair market value of the assets on the day before you emigrate. The purpose is to have you avoid paying tax in the US, at some point in the future, when you have already paid tax in Canada on the same assets. Any appreciation after your date of emigration from Canada will be subject to tax when sold.
You must make the election on your first US tax return, using Form 8833. Failure to make the election will result in you being liable for tax on the entire gain, not just the post-exit gain, which will result in double tax. This election is not available to US citizens. We recommend that you actually sell any assets that are subject to the deemed disposition, before you leave Canada if possible.
If you do not meet either the green card or substantial presence tests, you may be able to meet to be treated as a resident alien taxpayer as long as you met the substantial presence test in following year (year X+1, where X = the tax year in question) and —
• you are present in the US for at least 31 days in a row in year X; and
• be present in the US for at least 75 percent of the time you were in the US in year X, beginning with the first day the 31-day period and ending 12/31/X.
If you make this election, you cannot file the tax return until you have met the substantial presence test for year X+1. For example, if you first came to the US on December 1, 2011, and remained in the US constantly thereafter, you would meet the substantial presence test on May 1, 2012, because February had 29 days in 2012, otherwise it would have been May 2. If you were out of the country at any time during the period, those days absent would increase the time required to meet the test. If you came to the US late in the year, you will have to file an extension and wait the necessary amount of time before filing the return. Under this election, the date of residency will generally begin your first day in the US. You will report only the income earned from that date to
