Form 5471 and Nonresident Status Under Tax Treaties
BLUF: Form 5471 is required even if an individual claims nonresident status under a tax treaty, despite being classified as a resident alien. Yes, the IRS still wants this form filed, even though certain income reported on it won’t be taxed in the U.S (subpart F income and global intangible low-taxed income (GILTI)). You didn’t think you’d get off that easy, did you?
Resident Aliens and Nonresident Treatment
Green card holders are automatically treated as resident aliens for US tax purposes (IRC §7701(b)(1)(A)(i)), as are individuals who overstay their welcome via the Substantial Presence Test (also sometimes called the 183-Day Rule). However, certain tax treaties (Usually Article IV) might offer a way out, allowing resident aliens to be treated as nonresidents for US tax purposes, and file a Form 1040-NR instead of the standard Form 1040. When filing a 1040 could be disastrous, this treaty relief might just be the lifeline you need.
Dual Status: Nonresident for Tax, Resident for Filing
Okay what's the catch? Well, even if a tax treaty deems you a nonresident, the IRS isn’t done with you yet. For income tax purposes, you may be considered a nonresident. BUT, for everything else like disclosure forms and stuff, you can still treated as a resident. Make sense?
Here’s how the IRS breaks it down:
- Nonresident for calculating US income tax (Reg. §301.7701(b)-7(a)(1)).
- Resident for all other purposes (Reg. §301.7701(b)-7(a)(3)).
This dual status determines which forms you’re stuck filing. And while resident aliens and citizens enjoy the full buffet of IRS paperwork, nonresidents get a slightly lighter load—though "lighter" is relative when it comes to US taxes.
Sometimes, You Catch A Break
In some cases, the IRS kindly waives certain filing requirements for treaty nonresidents, even though they’re technically classified as resident aliens. Take Form 8938, for example—if someone is a full-year treaty nonresident, they only need to file for the part of the year when they were actually a resident. So, if you're lucky enough to be a full-year treaty nonresident, no Form 8938 for you. See Reg. §1.6038D-2(e) for the details. And if you're too lazy to read that, go see the Form 8938 Instructions - It's helpfully right there in front of you.
Oops. Not For 5471
Unfortunately, not all forms get the same leniency. The 5471 is one of these traps. The IRS hasn’t waived a thing here, which means that, treaty nonresident or not, you're still on the hook for filing it. Even if your Form 1040-NR has no pass-through income, you’re still saddled with preparing a full-blown Form 5471.
The filing requirements for Form 5471 come from IRC §6038, and neither the Code nor the Regulations make exceptions for treaty nonresidents. In other words, silence means you’re stuck filing. (You could attempt to try the audited financial statement route as a workaround, but that’s egregiously expensive. Google it.)
The IRS confirmed its stance on this in a memorandum (FAA 20223302F), which states that resident aliens claiming nonresident status under treaty tie-breaker rules still need to file Form 5471. No exceptions.
No Taxes Due, But Tons of Work
The irony of Form 5471 is that it’s the method of delivery for subpart F income and global intangible low-taxed income (GILTI) to a US shareholder’s tax return. But here’s the kicker: treaty nonresidents don’t have to pay US tax on this income. So, you’ll go through the hassle of preparing Form 5471, only to discover it doesn’t generate any taxable income on the 1040-NR.
A lot of paperwork for no tax liability. And even better: If you late file this Form, you get a nice $10,000 USD penalty. You don't owe any taxes of course, but you have the privilege of paying an offensively-high fine just because? Definitely sounds like the IRS.
CFC Status
The IRS regulations make it clear: a treaty nonresident is still treated as a resident alien when determining if a corporation is classified as a Controlled Foreign Corporation (CFC). According to Reg. §301.7701(b)-7(a)(3), if a treaty nonresident (like a green card holder living abroad) holds 100% of the stock in a foreign corporation, that corporation is considered a CFC, even if it has zero US business or assets.
Result? The individual is stuck being treated as a US shareholder for CFC purposes.
Subpart F IncomeStuff
So, let’s say this foreign corporation earns subpart F income. According to Reg. §301.7701(b)-7(a)(3), the treaty nonresident is treated as a US resident for CFC status and must include subpart F income under IRC §951(a)(1)(A). Seems pretty straightforward, right?
Not so fast. For tax liability purposes, that same treaty nonresident is taxed like a nonresident. Reg. §301.7701(b)-7(a)(1) reminds us that the IRS has a little twist here.
So how is a nonresident taxed on subpart F income? Spoiler alert: they’re not.
IRC §871 dictates that a nonresident’s exposure to US tax is limited to US source income, either as "fixed or determinable annual or periodical income" (IRC §871(a)) or "effectively connected income" (IRC §871(b)).
Subpart F income, though? It’s foreign source. Strike one. It’s also neither "fixed or determinable" nor "effectively connected." Strike two and strike three.
In other words, all the hours spent crafting a pristine Form 5471 to calculate that subpart F income? It amounts to zero US tax liability for the treaty nonresident. But you still have to file it. The same goes for global intangible low-taxed income (GILTI)—foreign source, not taxed, but still needs to be reported on IRC §951A.
Summary: Get Ready For Some Useless Work
So why the heck does the IRS want this filed, you might ask? Because there is a chance the CFC might have US assets, US source income, or business activity in the States.
Summary: The IRS expects you to file that Form 5471 regardless of whether it leads to US tax liability or not. It’s a lot of accounting and tax prep for something that results in no US tax. (The Internet says that the IRS estimates that this form can take up to 38 hours to prepare, and 82.5 hours required for record keeping. I’m still searching for the source document for this though.)
So if you're a Canadian citizen living in the US, and you happen to own a Canadian corp, watch out for this trap, and get your ducks in a row.