Being a US citizen abroad |
Key issues relating to shareholdings in UK limited companies and other foreign corporations
There are many rules designed to discourage US taxpayers from using foreign accounts, assets or corporations to avoid or reduce their US tax that many US expats get caught by just by operating as a normal resident in the UK. One of these relates to the holding of what is referred to as a Controlled Foreign Corporation, or “CFC”. A CFC is any foreign corporation that is owned (see below) more than 50% by US persons on any day of the tax year.
It is very common for UK-based US expats to hold shares in a UK limited company. They may, for example, be the 100% sole shareholder; own 10% of the shares in their non-US citizen spouse's company; own a small stake in their employer’s business; or be a 50% shareholder with a business partner. The rules regarding CFCs are very complex, and all of the above scenarios have different implications for IRS reporting requirements.
Congress (and thus the IRS) wants to know if US taxpayers are involved with a CFC and this is done primarily via the Form 5471. This form is filed within the taxpayer’s Form 1040 tax return for the year and is generally (see below) just an information return rather than a tax return. I.e. there is generally no tax due on the numbers reported on the Form 5471 but it nevertheless must be filed to report the taxpayer’s relationship with the CFC.
The Form 5471 is a lengthy and complex form that has various “Categories” of filing which depend primarily on the taxpayer’s overall shareholding in the company and any changes thereof during the tax year. Which of the form’s various schedules need to be filed for that tax year is determined by which Category of form the taxpayer falls in to. At its full length, the form must report (among other things): the identifying details of the company; the share structure and shareholdings of it’s US shareholders; US directors and officers; the full income statement and balance sheet; US taxpayer(s)’ financial transactions with the corporation; and changes in the shareholdings by US taxpayers.
An important issue to be aware of is the rules regarding constructive and indirect ownership of the company’s shares. Of frequent relevance for US taxpayers living in the UK is the constructive ownership rules regarding the control of share owned by their non-US citizen spouses. If a US taxpayer owns any shares in the foreign corporation they are deemed to control all of the shares owned by such spouse, and may then fall into the Category 4 filing which must be done every year, even if they hold only a single share.
In terms of income reporting on taxpayer’s Form 1040 the UK limited company is generally opaque in the sense that the net income of the corporation is not US reportable income and only the wages and dividends received must be reported on the Form 1040. However, there is a category of income referred to as “Subpart F” income that requires the corporation to be “looked-through” and the Subpart F income reported on the Form 1040 even if it has not been distributed to the shareholder. The most common of these that are likely to be an issue for US taxpayers in the UK is that of the “personal service contract company” and “foreign personal holding company income”. The former is designed to discourage the use of a foreign corporation to defer tax on what is in effect employment income, and the latter is to avoid the use of a CFC to hold investment assets offshore. In these cases the Subpart F income is declared on the Form 5471 and reported on the Form 1040 as taxable income.
The above is a very brief overview of key issues. For more details on CFCs, the Form 5471, Subpart F income and how these issues might affect you please get in contact with us.
There are many rules designed to discourage US taxpayers from using foreign accounts, assets or corporations to avoid or reduce their US tax that many US expats get caught by just by operating as a normal resident in the UK. One of these relates to the holding of what is referred to as a Controlled Foreign Corporation, or “CFC”. A CFC is any foreign corporation that is owned (see below) more than 50% by US persons on any day of the tax year.
It is very common for UK-based US expats to hold shares in a UK limited company. They may, for example, be the 100% sole shareholder; own 10% of the shares in their non-US citizen spouse's company; own a small stake in their employer’s business; or be a 50% shareholder with a business partner. The rules regarding CFCs are very complex, and all of the above scenarios have different implications for IRS reporting requirements.
Congress (and thus the IRS) wants to know if US taxpayers are involved with a CFC and this is done primarily via the Form 5471. This form is filed within the taxpayer’s Form 1040 tax return for the year and is generally (see below) just an information return rather than a tax return. I.e. there is generally no tax due on the numbers reported on the Form 5471 but it nevertheless must be filed to report the taxpayer’s relationship with the CFC.
The Form 5471 is a lengthy and complex form that has various “Categories” of filing which depend primarily on the taxpayer’s overall shareholding in the company and any changes thereof during the tax year. Which of the form’s various schedules need to be filed for that tax year is determined by which Category of form the taxpayer falls in to. At its full length, the form must report (among other things): the identifying details of the company; the share structure and shareholdings of it’s US shareholders; US directors and officers; the full income statement and balance sheet; US taxpayer(s)’ financial transactions with the corporation; and changes in the shareholdings by US taxpayers.
An important issue to be aware of is the rules regarding constructive and indirect ownership of the company’s shares. Of frequent relevance for US taxpayers living in the UK is the constructive ownership rules regarding the control of share owned by their non-US citizen spouses. If a US taxpayer owns any shares in the foreign corporation they are deemed to control all of the shares owned by such spouse, and may then fall into the Category 4 filing which must be done every year, even if they hold only a single share.
In terms of income reporting on taxpayer’s Form 1040 the UK limited company is generally opaque in the sense that the net income of the corporation is not US reportable income and only the wages and dividends received must be reported on the Form 1040. However, there is a category of income referred to as “Subpart F” income that requires the corporation to be “looked-through” and the Subpart F income reported on the Form 1040 even if it has not been distributed to the shareholder. The most common of these that are likely to be an issue for US taxpayers in the UK is that of the “personal service contract company” and “foreign personal holding company income”. The former is designed to discourage the use of a foreign corporation to defer tax on what is in effect employment income, and the latter is to avoid the use of a CFC to hold investment assets offshore. In these cases the Subpart F income is declared on the Form 5471 and reported on the Form 1040 as taxable income.
The above is a very brief overview of key issues. For more details on CFCs, the Form 5471, Subpart F income and how these issues might affect you please get in contact with us.
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