Entrepreneurs Moving to the US Skip Tax Planning at Their Peril

Many entrepreneurs who start a business outside of the US have dreams of accessing the US market, and some even start a business abroad that serves the 50 states. But if they move to the US without exploring tax compliance matters, they may create a host of problems for themselves and their business.

The corporate and individual tax issues involved with entrepreneurs moving to the US can be overwhelming, costly, and prevent a successful entry. With proper planning, these issues can be avoided or mitigated.

To illustrate these challenges, we’ll use a fictitious UK limited company that has chosen to set up a US corporation as a subsidiary.

Corporate Income Tax

When an executive in an organization moves to the US, they often continue their management role with the UK parent company while expanding the business in the US.

Given the continuation of their role for the UK company, there is a risk of creating a permanent establishment of the UK company, which would require that the UK company allocate income and expenses to the activity in the US and require federal and potentially state tax filings.

For example, an executive may continue signing contracts on behalf of the foreign company, which can trigger a permanent establishment, even in treaty countries. A permanent establishment would require the UK company to allocate income and expenses to the activity in the US and require federal and potentially state tax filings.

From a business model perspective, the UK company may continue selling its products into the US directly or can sell to the US company which acts as a distributor. If the executive is facilitating UK sales to the US, this can cause further risk of creating a permanent establishment.

If there is an intercompany sale, it’s important to address the transfer pricing of the transactions at the outset to avoid the risk of scrutinization and potential double taxation.

To minimize risk of a permanent establishment, the executive’s role should be clearly defined, documented, and followed. In addition, a US tax return, Form 1120-F, that discloses when a non-resident is taking a position under a US tax treaty, is recommended to establish the position and guard against potential challenges to the contrary.

Individual Taxation

Often, we find that the executive has stayed on the UK payroll to keep things easy.

An individual working in the US is subject to federal and potentially state income tax. The employer then is required to withhold and pay payroll taxes. This means that the UK company needs to obtain an employer identification number, get a US bank account, and make tax payments.

Additionally, the individual may have paid UK tax on the income which wouldn’t be a creditable tax on the US tax return since they don’t have foreign source income on which to claim the foreign tax credit. Therefore, we need to pursue correcting the UK tax withholding and reporting as well.

Without proper planning, we miss a potential opportunity to take advantage of the Social Security totalization agreement that would allow the executive to stay on the UK national insurance program for up to five years.

An entrepreneur with US tax residency is subject to US taxation on a worldwide basis. If they have a controlling interest in the UK company, they now have a controlled foreign corporation subject to US anti-deferral provisions such as Subpart F and global intangible low-taxed income, known as GILTI. This creates a potential situation where income of the UK corporation is being taxed immediately to the entrepreneur with no offsetting foreign tax credit unless an election is made under Section 962 of the US tax code.

The entrepreneur also may have a sandwich structure of having a US resident owning a UK company with a US subsidiary, making distributions of profits complex.

Typically, entrepreneurs have other assets and income that is now subject to US taxation including:

• Selling their UK residence, making the sale potentially subject to capital gains tax in the US as well as the UK
• Holding certain retirement assets or investments, often triggering reporting and taxation under the passive foreign investment company system

If the entrepreneur has done some planning using trusts in which they maintain the authority to control all substantial decisions of the trust, their US tax residency will also cause the trust to become a US trust.

It’s imperative that entrepreneurs seek and accept proper tax advice from both the location of the original business and from practitioners in the US.

This article does not necessarily reflect the opinion of Bloomberg Industry Group, Inc., the publisher of Bloomberg Law and Bloomberg Tax, or its owners.

Author Information

Shannon Smith is partner and international tax practice leader at Eide Bailly.

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