US taxation of non-US entrepreneurs

Disclaimer: the treatment of nonresidents by the US tax system is a complex and expansive topic that varies significantly depending on factors such as company structure, nationality, and industry. This article aims to provide only an overview of common scenarios. It is impossible to provide complete information about specific tax obligations without more information about your US related businesses, and we recommend for you to contact a tax advisor to receive a full picture of your company’s tax obligations.

Introduction

The US is the largest consumer market in the world. The US possesses one of the most diverse populations in the world, which includes over 17 million Italian Americans as of 2010. Therefore, it is a very attractive market for companies, however, businesses must remain vigilant of their tax burdens in operating in the United States to prevent an unexpected tax bill and potential penalties.

Income Tax

A US LLC can be opened by a non-US citizen or nonresident to allow for earnings that are not taxed in the US.

Foreigners are only subject to US tax if they are “engaged in a trade or business in the United States” (ETOB). This means:

• You have at least one “dependent agent” in the US, which are employees or companies that work for you almost exclusively, and

• This dependent agent does something substantial to further your business in the US, as opposed to something purely administrative, or

• You are engaged in “considerable, continuous, and regular” business in the US

This includes:

·       Selling tangible goods in the US

·       Shipping physical products from within the US

·       Performing services domestically

This excludes:

·       Personal services performed from abroad

·       Selling digital products

·       Web design etc.

·       Selling physical products if the shipping point is from outside of the US.

If your corporation is liable for US federal corporate taxes, the US will tax “effectively connected income” (ECI). The IRS employs two tests to determine ECI, the asset-use test and the business activities test. The asset-use test looks for whether the income is derived from assets used in the US. The business activities test looks at whether the activities of the business were conducted in the US and were a material factor in the realization of the income.

Note: if you do have to pay for income made in the US, you can always set up a US C corporation. While it is not tax-free, a US C Corp must pay tax on net income after all expenses. Since such expenses include the management fee that the owner pays to their main company, the actual taxable income is significantly reduced. Also, since the service is performed by a non-US person outside the US, a lower tax rate, often zero, applies to the management fee. There are many details and restrictions in this process, so please contact an accountant for more details.

Sales Tax

Sales tax can be collected in the US even for foreign sales into the US. Nexus is the required contact between a state and a business before the state has the jurisdiction to tax the business. In many states, companies with annual sales of more than $100,000 or over 200 transactions can be taxed at the state sales tax rates. Please refer to our article on Nexus for more details. Additionally, a company can be liable for state income tax at $500,000 or more of sales. This can occur even when the company has not incurred any federal corporate tax burdens. Even when there is not a high enough volume of sales for economic nexus, mere presence in a state (physical nexus), such as having employees and property in a state, or in-state activities of an agent or affiliate (affiliate nexus) can qualify a company for state corporate tax.

Passive Income (FDAP payments)

US-source fixed, determinable, annual, or periodical (FDAP) payments to foreign entities generally must be reported and 30% of the gross payments must be withheld. This includes interest, dividends, and royalties. This applies even if the foreign entity would otherwise not be liable for federal corporate tax. Due to US-Italian tax treaties, the maximum tax withholding is 15% for dividends, reduced to 5% for dividends that qualify for the direct dividend rate, 10% for debt interest, and 5% for royalties. There are different treaties with many countries, so consult an accountant for more information about your specific country.

In summary, income received from the US in the form of FDAP payments (passive income) is almost always taxed. The rate varies based on the type of investment or security as well as the treaties with the individual country. The taxation of income from activities in the US depends on the type of activity. Digital, remote services, and overseas distribution tend not to incur federal corporate tax but may result in a tax burden from state governments. Even if your company is liable for corporate income tax, it can be partially mitigated through the establishment of a well-structured US class C LLC within the overall framework. There are many other regulations, requirements, and potential taxes in setting up a company in the US, and eligibility for many tax-exemptions depend on the structure of the company in question. Contact an accountant for formulating a long-term strategy for your firm. Our offices are at your disposal.

Sources:

IRS
Mckinsey
Online Taxman
Tax Foundation
PwC
Freeman Law
Startfleet
Congress
The White House
US Italy taxation treaty