Vol. 14, No. 5, Pg. 34. 5 common international tax pitfalls in inbound commercial planning.

• Author: By F. Ronald Jenkins Jr.

South Carolina Lawyer

2003.

Vol. 14, No. 5, Pg. 34.

5 common international tax pitfalls in inbound commercial planning

345 common international tax pitfalls in inbound commercial planningBy F. Ronald Jenkins Jr.The South Carolina Department of Commerce reports that during the decade of the 1990s, South Carolina benefited from more than $16 billion in foreign investment and the creation of more than 49,000 new jobs by foreign companies. One hundred twenty-five German companies employ more than 20,000 workers in the state, 89 U.K. companies use more than 10,000 staff, 68 Japanese companies utilize more than 14,000 employees, 46 French companies have hired the same number as the Japanese and 42 Swiss companies employ nearly a 5,000 member workforce. This remarkable volume of inbound investment has changed our economic landscape. It should also have changed the analytical framework of professional advisors in the state. The provisions of our federal income tax laws and regulations that govern inbound investment are rife with traps for the unwary. This article identifies and briefly examines five of the more common international tax pitfalls that arise in inbound commercial tax planning.

36Foreign sellers of U.S. real property

Most international lawyers are familiar with the basic federal income tax framework applicable to inbound investment: if a non-resident alien individual or foreign corporation engages in a trade or business in the United States, the income effectively connected with that trade or business (ECI) will be taxed, under Internal Revenue Code (IRC or Code) §§ 871(b) and 882 respectively, in the same manner as the business income of a U.S. citizen or domestic corporation; if there is no U.S. trade or business, the U.S. taxes (under IRC §§ 871(a) and 881(a)) only certain U.S. source, fixed or determinable, annual or periodical (FDAP) income at a flat rate of 30 percent on gross income, unless that rate has been reduced by a double taxation treaty.

In some instances, income that is neither ECI nor FDAP will escape U.S. taxation altogether. For example, a foreign individual or corporation that has no physical presence in the United States, and that opens a brokerage account in the United States. through which U.S. securities are bought and sold, should not be liable for federal tax of any kind on the capital gains generated in the account. Why? On these facts, the foreign seller should not be deemed to be conducting a U.S. trade or business, and therefore does not have ECI. Further, since the income generated from the sale of the securities, though passive and non-business, is not annual or periodical and more importantly is not U.S. source (under IRC § 865(a) securities are treated as non-depreciable...