Your domicile determines your tax status.
One of the first questions we ask prospective clients is where they are officially domiciled — in other words, where do they live as recognized by tax authorities? Your domicile determines your tax status. Countries, including the United States and Switzerland, have very specific rules about these matters.
RESIDENCY STATUS AND THE IRS
Why does it matter how many days I spend in the United States if I am an alien, not a US citizen and not green card holder?
A US resident alien is taxed exactly as a United States citizen is taxed: all income is taxed. However, a non-resident alien is taxed only on certain income. See the information on the differences in tax liability between these groups at the end of this article.
Any green card holder is automatically given resident status and taxed as a US citizen would be.
Who is and is not a nonresident alien is determined by IRS rules. Several rules spell out just how long a nonresident can be in the US before triggering a change in residency status and becoming a resident alien – and being taxed on all income.
The Substantial Presence Test
Under the substantial presence test, an alien must be present in the United States, including territorial waters, for:
- 31 days during the current year, and
- 183 days during the 3-year period that includes the current year and the 2 years immediately before that, counting:
- All the days you were present in the current year, and
- 1/3 of the days you were present in the first year before the current year, and
- 1/6 of the days you were present in the second year before the current year.
Here is a simplified example to illustrate this test (please note that these rules, like most tax rules, are subject to exceptions and various caveats):
|Second previous year||98||0.1667||16.3366|
|Total resident days||86.3326|
|If total resident days are less than 183, then you are not considered a resident under the substantial presence test for tax purposes. But there are other ways of determining residency that may be applicable.|
RESIDENCY FOR TAX PURPOSES IN SWITZERLAND
An individual is considered to be a Swiss resident for tax purposes if one of these conditions is met:
- He or she maintains a tax domicile in Switzerland, or
- He or she has a tax residence in Switzerland.
A domicile is defined as a place where the person lives and plans to stay permanently. It is about more than taxes and work; the person maintains relationships and spends their non-working hours there. They have friendships and perhaps family ties in the area.
A tax residence has a more practical definition. If a person has a place of abode where they stay for a minimum of 30 days, irrespective of short interruptions, and combine that stay with gainful activity, or they stay a minimum of 90 days without gainful activity.
Taxable persons in Switzerland include legal entities, or companies. (This includes stock companies, limited liability companies, stock companies with unlimited partners, cooperatives, associations and foundations, investment companies with fixed capital, and collective investment schemes with a direct investment in real estate). These entities are residents for tax purposes in Switzerland if their legal domicile is in Switzerland, which means the place of effective management is in Switzerland, it is formally incorporated in Switzerland and it is registered in a commercial registry. “Place of management” means Switzerland is where important company decisions are made and the manager of the company resides, or the major shareholder resides in Switzerland and is actively involved in decision-making at the company.
What are the specific US tax liabilities you will incur if you are designated a resident for tax purposes or a nonresident?
If an non-resident alien is deemed a U.S. resident for income tax purposes:
(1) Taxpayer pays U.S. income tax at regular rates on all of worldwide income but is entitled to a foreign tax credit for foreign taxes paid on his foreign-source income.
(2) Pays tax on all interest income, whether derived from U.S. banks and savings institutions, from Eurodollar bonds or otherwise. The taxpayer can, however, obtain tax-free interest from U.S. municipal bonds.
(3) Pays U.S. income tax on capital gains derived from anywhere in the world. Gain is determined by reference to a historic cost basis in U.S. dollars, even if the property was acquired many years before becoming a U.S. resident.
(4) Owning tax on shares in a foreign corporation may subject the taxpayer to current U.S. tax on his pro-rata share of the corporation’s undistributed earnings if the foreign corporation is a controlled foreign corporation (CFC) or a passive foreign investment company (PFIC).
(5) Transfers of appreciated property to a foreign corporation or a foreign partnership are subject to the same rules that apply to a U.S. citizen who makes those transfers.
(6) Taxpayer becomes subject to the net investment income tax (“NIIT”). (7) He is required to file a FinCEN Form 114 (what, at one time, was the Form TD F 90-22.1)—that is, the FBAR form—when holding the appropriate bank or securities account.
(8) Taxpayer is required to file Form 8938 if his “specified foreign assets” meet the required threshold.
(9) Taxpayer is not necessarily a resident of the United States for estate and gift tax purposes. That would depend on a separate determination of his domicile under a different set of rules.
If the alien is nonresident, he is subject to a substantially different tax regime:
(1) Does not pay any U.S. income tax on his foreign-source income except under very limited circumstances.
(2) Pays U.S. income tax at regular rates on any income that is effectively connected with the conduct of a U.S. trade or business.
(3) Pays a maximum 30-percent U.S. withholding tax on dividends, some interest, and other investment income that he derives from U.S. sources. The 30-percent U.S. tax rate may be reduced or eliminated by favorable income tax treaty provisions. However, anti-treaty-shopping rules may restrict his ability to use third-country treaties.
(4) Interest income derived by him from U.S. banks and savings institutions or from Eurodollar bonds is tax free.
(5) Pays U.S. income tax on his capital gains from the sale of U.S. real property interests, but does not pay any U.S. tax on most other capital gains from U.S. or foreign sources.
(6) The person is probably also a non-domiciled alien and can therefore avoid U.S. estate and gift taxes by holding his U.S. property in a foreign corporation. Note, however, that the corporation’s U.S. business income and gains are subject to the regular 21-percent corporate income tax and a branch profits tax of up to 30-percent of the after-tax profits.