Stepping Stones: Brits moving to the US

US rules to prevent tax avoidance schemes

As a historic matter, there have been various tax avoidance schemes using foreign companies and trusts that the US decided were abusive. To restrict these schemes, very detailed rules have been put in place to curb the use of such arrangements in the US. Unfortunately, these rules are frequently so strict that very typical innocent UK arrangements are subject to extensive supplemental reporting and possible unfavourable tax treatment by the US tax system.

For example, if you own and control a UK limited company, there are a number of aspects that you would want to consider before becoming US resident, which include additional reporting requirements and potentially a higher global tax bill in the future. There is pre-immigration tax planning available to mitigate the tax, but there will still be annual reporting requirements. 

Once you become resident, you will have an obligation to report the receipt of any gift or inheritance from a non-US person that exceeds approximately $100k, including any trust distribution whatsoever.

Case study

David was a British resident and domiciled in England from a UK tax perspective. David and his family moved to the US and he took up a position as a full-time employee of a US company based in Chicago, although he may have workdays in other US states such as New York. David’s investments include his family home in the UK worth £1.5m (which will be rented out), a Self-Invested Personal Pension (SIPP) worth £300k, ISAs invested in a number of UK Unit Trusts, and cash in various bank accounts.

We advised David on his UK and US residency status. On the basis that he was leaving the UK in June for full time work abroad, we split the tax year into a period of residence and then non-residence from June. 

How does that work?

We advised David that this was under the condition that his visits back to the UK should be no more than 90 days per year based on his various ties to the UK. We also advised David about the temporary non residence rules should he return to the UK within 5 years. Other areas of advice included what would happen if he decided to sell his UK home while in the US. Unfortunately, it would be better to sell his UK home when not US resident as the exemption available in the US on the sale of your main home is only up to $250k per person.

We advised him about the non-resident landlord scheme whereby withholding tax would start to apply on his rental income unless forms were completed to declare that expenses would cover the income. We also advised that Davids' US residency start date would be in June, even although he had 10 days in the US earlier in the year as there is a 10 day de-minimus on a residency start date. Therefore, David would file a dual resident US tax return for the first year, which unfortunately means separate filing from his wife. In the US, spouses can normally file joint tax returns, which can be beneficial, if one spouse works while the other does not.

What sort of impact will renting David's home have?

We advised on the rental profits being taxable in both the US (Federal and Illinois) and UK tax returns, and how to prevent double taxation by claiming a foreign tax credit on the Federal tax return. UK and Illinois tax would be due in this case as there is no foreign tax credit allowed on an Illinois tax return. 

Where does David stand when it comes to his SIPP?

We advised on the additional filing requirements for his SIPP, as it was trust based and self-funded. Annual filing of Form 3520-A would be required as well as treaty claim Form 8833 to exclude the SIPP income and gains from US tax. As a bit of pre-immigration planning, there is the option to transfer the SIPP to a new SIPP or re-base the assets within the current SIPP, which provides an uplift in basis of the pension before becoming US residence. The advantage could be that if the SIPP is distributed while US resident then it will decrease the amount that is taxable in the US.

What about investments?

The US has special rules, which catch investments in Passive Foreign Investment Companies (PFICs), and investing in such a product may result in punitive taxation. A PFIC is any foreign company of foreign investment trust, which generates the majority of income from passive sources, such as dividends and interest. These rules catch out all UK unit trusts and foreign collective investment schemes. We advised David to review his investments within the ISAs and the conclusion was to hold them during the period of US residence, and accept the additional reporting but not to sell them and recognise a tax liability. They were all accumulation units as opposed to income units, which was also helpful.

By working with us, David was able to get a clear understanding of his UK/US tax position before his move to the US, and was able to implement a plan to manage his global taxes and avoid unnecessary reporting requirements, and a potentially higher tax bill.

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The full Stepping Stones series can be found here.