How to Determine Your US Tax Residency Status
It’s important to know whether you are a US federal income tax resident.
US income tax residents are required to report and pay tax to the United States on their worldwide income. They’re also responsible for preparing and submitting extensive annual disclosures of their non-US investments. Not complying with these annual disclosures can leave US income tax residents exposed to thousands of dollars in penalties, an indefinitely open statute of limitations for their tax returns, and even criminal prosecution.
Non-residents are only required to report and pay tax on US sourced income. It’s common for non-US business owners and children of family wealth who have moved to the US to find that US residency brings significant unexpected tax reporting challenges.
The following discussion will outline the basic rules for determining if you are an income tax resident and how to properly present your non-US income and investments to the U.S. government.
Why Tax Residency Status is Important
Residency status plays a significant role in determining an individual’s federal tax obligation and the amount of reporting required for non-U.S. investments. Understanding tax residency and how it can impact individual reporting needs, income calculations, and compliance requirements, can make navigating the US tax landscape less complex.
Tax residency status is complex and can easily be confused with other aspects of residency. Keep in mind tax residency is:
- Unrelated to immigration or visa status.
- Not the same as US estate tax residency or US domicile.
- Not the same as resident of one of the 50 states. It’s possible to be a state income tax resident but not a federal income tax resident.
Working in the United States may bring additional complications. Even if you aren’t considered a US income tax resident, income you earn while physically in the US is likely to be subject to federal tax.
If you perform work in the United States for a non-US company, you may create a taxable income base for that company in the United States. It’s important to consider the broader consequences of working from the US even if you don’t meet the residency requirements.
US residency can add additional complications such as:
- Deemed current taxation of passive investment income resulting in lost deferral opportunities.
- U.S. tax owed today on cash never received.
- Tax-favored investments in your home country that are no longer tax favorable because they’re subject to US tax.
Complications with Worldwide Income Taxation
If you’re a US tax resident, the foreign tax credit may be available to address taxation by both the United States and another country. However, timing of income recognition and other nuances in the calculation may render the foreign tax credit ineffective in mitigating double taxation. US income tax treaties include language that helps avoid taxation of the same income by both countries. However, the United States doesn’t have an income tax treaty with every country.
Reporting for US Residents
US federal income tax residents file Form 1040, US Individual Income Tax Return, annually and report their worldwide income. The due date is typically April 15. An extension is allowed to October 15. Some exceptions apply.
US residents follow the calendar year when reporting income and determining residency. If the individual has foreign investments additional disclosures may be required, such as:
- FinCEN Form 114, Report of Foreign Bank and Financial Accounts (FBAR)
- Form 8938, Statement of Specified Foreign Financial Assets
- Form 8621, Information Return by a Shareholder of a Passive Foreign Investment Company or Qualified Electing Fund
- Form 8833, Treaty-Based Return Position Disclosure Under Section 6114 or 7701(b)
- Form 3520, Annual Return to Report Transactions with Foreign Trusts and Receipt of Certain Foreign Gifts
- Form 3520-A, Annual Information Return of Foreign Trust with a US Owner
- Form 5471, Information Return of US Persons With Respect to Certain Foreign Corporations
- Form 8992, US Shareholder Calculation of Global Intangible Low-Taxed Income (GILTI)
- Form 8865, Return of US Persons With Respect to Certain Foreign Partnerships
- Form 8858, Information Return of US Persons With Respect to Foreign Disregarded Entities (FDEs) and Foreign Branches (FBs)
- Form 1116, Foreign Tax Credit (Individual, Estate, or Trust)
Reporting for Non-Residents
Non-residents file Form 1040-NR, Nonresident Alien Income Tax Return, and report only US sourced income. Depending on the type of income there may be no filing requirement at all.
As a non-resident you are not subject to extensive reporting requirements for your non-US investments unless you meet the US domestic law residency tests but are making a treaty-based claim that you are a non-resident.
How to Determine US Federal Income Tax Residency
Determining US federal income tax residency primarily involves counting days in the United States—the substantial presence test—with two exceptions:
- The closer connection exception under US domestic tax law
- A treaty-based claim available if two countries treat you as a tax resident under each country’s domestic tax law
The substantial presence test is formulaic based on the number of days in the U.S. whereas the closer connection exception and treaty-based claim apply a facts and circumstances analysis which require you to build up a case and factual support for a non-residency claim.
Substantial Presence Test: Days Physically Present in US
To determine if you are a US federal income tax resident for the calendar year, start by determining if you meet the substantial presence test.
You meet the substantial presence test if you were physically present in the United States:
- At least 31 days during the current calendar year, and
- A total of 183 days over a three-calendar-year period
The 183 days include:
- All days in the current year
- One-third of the days in the previous year
- One-sixth of the days in the second preceding year
Example
You want to determine if you meet the substantial presence test for the 2024 tax year. You were physically present in the US as follows:
- 150 days between January 1, 2024, and December 31, 2024
- 90 days between January 1, 2023, and December 31, 2023
- 30 days between January 1, 2022, and December 31, 2022
You’re considered to be a US tax resident under the substantial presence test because you were physically present for greater than 31 days between January 1, 2024, and December 31, 2024—at least 31 days—and the days in in the three-calendar-year period test is 183 days or more.
Closer Connection Exception to the Substantial Presence Test: Days Physically Present in US and Facts and Circumstances Assessment
If you meet the substantial presence test for the current calendar year but you were physically present in the United States for less than 183 days in the current calendar year, you may be able to claim the closer connection exception. This exception is only available for a calendar year if you spent less than 183 days physically present in the United States during that calendar year.
If it’s established that you maintained more significant contacts with the foreign country than with the US, you have a closer connection to a foreign country. In determining whether you have maintained more significant contacts with the foreign country than with the United States, the facts and circumstances to be considered include, but are not limited to:
- The country of residence designated on forms and documents
- The types of official US tax forms you have submitted, such as. Form W-9, Form W-8 BEN, or Form W-8 ECI
- The location of the following:
You claim the closer connection exception by filing Form 8840, Closer Connection Exception Statement for Aliens, with your Form 1040-NR if you are required to file one for the calendar year.
If you aren’t required to file a Form 1040-NR the Form 8840 is sent to the IRS by itself. The form includes a long list of factual questions that you can use to help determine if your facts are substantial enough to support your closer connection exception position.
Additional requirements include:
- A closer connection during the calendar year to one foreign country where you have a tax home. Additional requirements apply if you had a closer connection to two foreign countries.
- A tax home in that foreign country during the entire calendar year.
- You haven’t applied, or taken steps during the year, to change your status to Lawful Permanent Resident—Greencard—or have a pending application for adjustment of status to Lawful Permanent Resident during the year.
Filing any of the following forms during or before the current calendar year suggest intent to become a Lawful Permanent Resident of the United States.
- Form I-508, Waiver of Rights, Privileges, Exemptions and Immunities
- Form I-485, Application to Register Permanent Residence or Adjust Status
- Form I-130, Petition for Alien Relative
- Form I-140, Immigrant Petition for Alien Worker
- Form ETA-750, Application for Alien Employment Certification
- Form OF-230, Application for Immigrant Visa and Alien Registration
Treaty Tiebreaker
If you’re considered a resident of both the US and a foreign country that has an income tax treaty with the United States, you may be able to make a claim under that tax treaty that the foreign country is your true tax home.
Treaty tie-breaker rules help resolve the issue of an individual being considered a tax resident in two countries. Not all US tax treaties are the same and it’s important to work with your tax advisor to review the relevant tax treaty in your case.
Most US tax treaty tie-breaker rules follow the following logic.
There are four factual tests:
- Permanent Home. A residence must always be available and not occupied by a third party. It doesn’t matter whether it’s a single-family house, an apartment, or a furnished room. It also doesn’t matter whether you rent or own it or whether a company rents or owns it for you. However, the home must be always available, continuously, and not solely for short stays.
- Closer Economic Relations and Center of Vital Interests. These tests are like the factual tests discussed above in the closer connection exception.
- Habitual Abode. Determining habitual abode involves collecting evidence demonstrating how much time you spend in each country. Typical factors tax authorities and courts look at include the number of days in each country, patterns of stay, length of visits, travel and lodging records, and lifestyle indicators.
- Citizenship. If none of the above tests breaks the tie you are considered a tax resident of the country of which you are a citizen.
Evaluate each of these in order beginning with Permanent Home. Once the tie is broken, you don’t proceed to the next test.
Example 1
You lease an apartment in the United States and you own a flat in the UK. Both residences are available to you the entire year— no sub-lease or short-term rental. In this case you’re considered to have a permanent home in both countries and the Permanent Home test wouldn’t break the tie. Therefore, you’d move to the next test.
Example 2
You own a flat in the U.K. that’s available to you for the entire year. Your company leases a corporate apartment for you in the United States and the apartment availability is managed by your employer and also available to other employees. Therefore, the US apartment isn’t always available for your use. This would break the tie and the UK would be viewed as your true tax home. You wouldn’t proceed to the remaining tests.
It’s important to remember that if you meet the substantial presence test and are unable to meet the closer connection exception—for example, you’re physically present in the United States for 183 days or more—but you rely on a treaty tiebreaker to claim non-residency you aren’t absolved from filing the international disclosures discussed above.
Additional Considerations for Tax Residency
As you determine your tax residency status, consider:
- A treaty-based claim for federal income tax purposes doesn’t eliminate state income tax residency or taxation.
- Many states, for example New York and California, apply only a facts and circumstances test for residency similar to the closer connection exception analysis. Because the federal test is based on counting days, it’s possible to be a factual resident under state law but not meet the federal substantial presence—day count—test.
We’re Here to Help
To learn more about tax residency and how it can impact your US income tax, contact your firm professional.