Taxation Of Foreign Individuals And Us Citizens In Foreign Countries

<div class="Section1"><br /> <br /> The estate tax computation base of a nonresident alien&rsquo;s estate consists of his or her taxable estate plus any taxable gifts made during his or her lifetime.<a href="#_ftn1" name="_ftnref1">¹</a> The taxable gifts of a nonresident alien made after 1976 (other than gifts included in the gross estate) also form part of the tax base upon which the estate tax is computed. The adjusted taxable gifts of a nonresident alien are computed in the same manner as for a resident citizen.<a href="#_ftn2" name="_ftnref2">²</a><br /> <br /> Once the taxable estate of the nonresident alien decedent is determined, the mechanics of the actual tax calculation and the applicable rate schedule (before the unified credit) are the same for nonresident alien decedents as for citizen-residents. However, a very important difference comes into play in the use of the unified credit, which is greatly reduced for nonresident alien decedents. This, of course, indirectly results in a higher effective tax rate. <em><em>See</em></em> Q <a href="javascript:void(0)" class="accordion-cross-reference" id="964">964</a> for a discussion of the unified credit as applied to nonresident aliens.<br /> <br /> <div class="refs"><br /> <br /> <hr align="left" size="1" width="33%"><br /> <br /> <a href="#_ftnref1" name="_ftn1">1</a>&nbsp;&nbsp;&nbsp;&nbsp; IRC &sect;&nbsp;2101(c).<br /> <br /> <a href="#_ftnref2" name="_ftn2">2</a>&nbsp;&nbsp;&nbsp;&nbsp; IRC &sect;&nbsp;2101(b), (c).<br /> <br /> </div></div><br />

<div class="Section1"><br /> <br /> The unified transfer tax credit in the case of a nonresident alien decedent is only $13,000.<a href="#_ftn1" name="_ftnref1">¹</a> This effectively exempts only the first $60,000 of his or her taxable estate from estate tax, a considerably lower threshold than applies to a domestic decedent.<br /> <br /> A special rule applies if the decedent was a nonresident of the United States, but resided in a U.S. possession (e.g., Puerto Rico, Guam) and was a U.S. citizen only because of birth or residence in, or citizenship of, the possession. Under these circumstances, the decedent is considered to be a “nonresident noncitizen,”<a href="#_ftn2" name="_ftnref2">²</a> and the estate of a decedent in this category qualifies for a credit that is the greater of:<br /> <blockquote>(1)     $13,000, or<br /> <br /> (2)     $46,800 multiplied by the ratio that the value (at death) of that part of the decedent’s gross estate that is located in the U.S. bears to the entire value of the decedent’s gross estate.<a href="#_ftn3" name="_ftnref3">³</a></blockquote><br /> In either case, the credit may not be more than the amount of the estate tax.<a href="#_ftn4" name="_ftnref4">⁴</a> Further, the amount of the available credit is reduced by the value of any lifetime gifts made by the nonresident alien-decedent.<a href="#_ftn5" name="_ftnref5">⁵</a><br /> <br /> </div><br /> <div class="refs"><br /> <br /> <hr align="left" size="1" width="33%" /><br /> <br /> <a href="#_ftnref1" name="_ftn1">1</a>     IRC § 2102(b)(1).<br /> <br /> <a href="#_ftnref2" name="_ftn2">2</a>     IRC § 2209.<br /> <br /> <a href="#_ftnref3" name="_ftn3">3</a>     IRC § 2102(b)(2).<br /> <br /> <a href="#_ftnref4" name="_ftn4">4</a>     IRC § 2102(b)(4).<br /> <br /> <a href="#_ftnref5" name="_ftn5">5</a>     IRC § 2102(b)(3)(B).<br /> <br /> </div>

<div class="Section1"><br /> <br /> The general rule that a U.S. citizen or resident alien is taxed on all worldwide income applies in the case of a sale of real property in the same manner as income from any other source.<a href="#_ftn1" name="_ftnref1">¹</a> Therefore, a U.S. citizen or resident alien who sells real property that is located in a foreign country must report and abide by U.S. tax rules relating to the sale of real property (<em><em>see</em></em> Q <a href="javascript:void(0)" class="accordion-cross-reference" id="7845">7845</a>).<br /> <br /> Thus, for example, a U.S. citizen who sells a principal residence that he or she has used as a principal residence for two of the five preceding tax years is entitled to exclude a portion of the gain from taxation in the U.S. in the same manner as though the property was located within the U.S. (<em><em>see</em></em> Q <a href="javascript:void(0)" class="accordion-cross-reference" id="7845">7845</a>).<br /> <br /> Though the U.S. citizen or resident alien may also be required to pay taxes upon disposition of foreign-located real property both in the U.S. and in the country in which the property is situated, he or she will be entitled to claim a credit for certain foreign taxes paid on his or her U.S. tax return.<a href="#_ftn2" name="_ftnref2">²</a><br /> <br /> Further, a U.S. citizen or resident alien may be entitled to deduct any real property taxes that are imposed by a foreign country on his or her U.S. tax return.<a href="#_ftn3" name="_ftnref3">³</a><br /> <br /> <div class="refs"><br /> <br /> <hr align="left" size="1" width="33%"><br /> <br /> <a href="#_ftnref1" name="_ftn1">1</a>&nbsp;&nbsp;&nbsp;&nbsp; See IRS Publication 544.<br /> <br /> <a href="#_ftnref2" name="_ftn2">2</a>&nbsp;&nbsp;&nbsp;&nbsp; See IRS Publication 54.<br /> <br /> <a href="#_ftnref3" name="_ftn3">3</a>&nbsp;&nbsp;&nbsp;&nbsp; IRS Pub. 54.<br /> <br /> </div></div><br />

<p>While many U.S. citizens and residents who are transferred abroad by multinational employers may continue to be covered by the multinational&rsquo;s U.S. retirement plan, in some cases, a U.S. individual may obtain benefits under a foreign plan. Because U.S. citizens and residents are taxed on their worldwide income, benefits accrued under foreign retirement plans may be subject to U.S. taxation absent a treaty provision that provides otherwise. Most treaties provide that a pension or annuity received from a foreign employer is taxed in the country of residence under its domestic laws.<a href="#_ftn1" name="_ftnref1">¹</a><br /> <br /> Treaties with some countries provide for liberalized treatment of retirement accounts&mdash;for example, the treaty between the U.S. and the U.K. provides that U.S. citizens residing in the U.K. can deduct, for U.S. tax purposes, amounts contributed to a pension plan established in the U.K.<a href="#_ftn2" name="_ftnref2">²</a><br /> <br /> Further, while a U.S. individual residing abroad may exclude a portion of foreign earned income from U.S. gross income each year, the foreign earned income exclusion does <em>not</em> apply to income received as a pension or annuity while abroad<a href="#_ftn3" name="_ftnref3">³</a> ( Q <a href="javascript:void(0)" class="accordion-cross-reference" id="3559">3559</a>).<br /> <br /> <hr></p><br />

In some cases, a U.S. individual will continue to earn U.S. Social Security credit if liable for Social Security and Medicare taxes on amounts earned while performing services as an employee in a foreign country. The IRS has issued guidance that provides that Social Security and Medicare taxes continue to apply to wages paid for services performed by a U.S. individual abroad if any of the following are true:<br /> <p style="padding-left: 40px;">(1)     The individual is working for a U.S. employer,</p><br /> <p style="padding-left: 40px;">(2)     The individual performs services in connection with a U.S. aircraft or vessel and the individual has (a) entered into an employment contract in the U.S. or (b) the vessel or aircraft touches down at a U.S. port while the individual is employed on it,</p><br /> <p style="padding-left: 40px;">(3)     The individual is working in a country with which the U.S. has entered a Social Security agreement providing that the foreign earned income is subject to U.S. Social Security and Medicare taxes, or</p><br /> <p style="padding-left: 40px;">(4)     The individual is working for a foreign affiliate (a foreign entity in which the U.S. employer has at least a 10 percent interest) of a U.S. employer under a voluntary agreement (under IRC Section 3121(l)) entered into by that employer and the U.S. Treasury Department.<a href="#_ftn1" name="_ftnref1">¹</a></p><br /> The IRS guidance further provides that an individual is “working for a U.S. employer” for purposes of (1), above, if the individual is working for (a) the U.S. government (or instrumentality thereof), (b) another individual who is a U.S. resident, (c) a partnership in which at least two-thirds of the partners are U.S. residents, (d) a trust, in which all of the trustees are U.S. residents or (e) a corporation organized in the U.S., or in any U.S. state (including D.C., the Virgin Islands, Guam, American Samoa and the Northern Mariana Islands).<a href="#_ftn2" name="_ftnref2">²</a><br /> <br /> A U.S. employer who voluntarily enters into an agreement to extend Social Security coverage to its employees working in a foreign country is liable for the entire amount of the covered employees’ Social Security taxes that would otherwise apply under Sections 3101 and 3111 if those employees were employed domestically.<a href="#_ftn3" name="_ftnref3">³</a><br /> <br /> The IRS has advised that U.S. individuals who are working in a country with which the U.S. has entered a Social Security agreement providing that the individual’s income will <em>not</em> be subject to U.S. Social Security taxes obtain a statement from the relevant agency in the foreign country stating that the individual’s income is subject to Social Security coverage in that foreign country.<br /> <br /> The U.S. Social Security Administration (SSA) will issue determinations that a U.S. individual’s income is subject only to U.S. Social Security taxes if the employer contacts the SSA and provides certain basic identifying information about that individual and his or her employment abroad.<br /> <br /> <hr align="left" size="1" width="33%" /><br /> <br /> <a href="#_ftnref1" name="_ftn1">1</a>     See IRS Guidance: “Social Security Tax Consequences of Working Abroad,” available at http://www.irs.gov/Individuals/International-Taxpayers/Social-Security-Tax-Consequences-of-Working-Abroad (last accessed June 17, 2024).<br /> <br /> <a href="#_ftnref2" name="_ftn2">2</a>     IRC § 3121(h).<br /> <br /> <a href="#_ftnref3" name="_ftn3">3</a>     IRC § 3121(l)(1)(A).

<div class="Section1">If a U.S. citizen or resident alien is married to a nonresident alien, the couple may elect to treat the nonresident alien as a U.S. resident for tax purposes. The couple may elect this treatment by attaching a statement to this effect to their U.S. tax return for the relevant tax year. The election may be made at the time of filing, or by filing an amended tax return for up to three previous tax years (though in this case, the couple must also elect such treatment for all tax returns that have been filed since the date of the amended return).</div><br /> <div></div><br /> <div class="Section1">The couple must file a joint tax return for the year in which the election is originally made, though separate returns may be filed in later years.</div><br /> <div></div><br /> <div class="Section1">While this election will result in the nonresident alien being treated as a resident alien for income tax purposes, the individual may continue to be treated as a nonresident alien for purposes of Social Security and Medicare taxes.<a href="#_ftn1" name="_ftnref1">¹</a></div><br /> <div></div><br /> <div class="Section1">The election will apply until it is suspended or ended. The election is suspended if, during a later tax year, neither spouse is a U.S. citizen or resident alien. The election is ended if (a) it is revoked by either spouse, (b) one spouse dies, (c) the spouses are legally separated or (d) the spouses have failed to keep adequate records to prove their income tax liability.<a href="#_ftn2" name="_ftnref2">²</a> If the election is “ended,” neither spouse may apply to make the election in a subsequent tax year.</div><br /> <div class="refs"><br /> <br /> <hr align="left" size="1" width="33%" /><br /> <br /> <a href="#_ftnref1" name="_ftn1">1</a>     IRS Guidance, “US Citizens and Resident Aliens Abroad – Nonresident Alien Spouse,” available at https://www.irs.gov/individuals/international-taxpayers/nonresident-alien-spouse (last accessed June 17, 2024).<br /> <br /> <a href="#_ftnref2" name="_ftn2">2</a>     IRS Pub. 519.<br /> <br /> </div>

<div class="Section1"><br /> <br /> The foreign earned income exclusion is available if the following requirements are met:<br /> <blockquote>(1)&nbsp;&nbsp;&nbsp;&nbsp; The individual has income received for work performed in a foreign country,<br /> <br /> (2)&nbsp;&nbsp;&nbsp;&nbsp; The individual has a tax home in a foreign country, and<br /> <br /> (3)&nbsp;&nbsp;&nbsp;&nbsp; The individual meets either (i) the bona fide residence test or (ii) the physical presence test (<em><em>see</em></em> Q <a href="javascript:void(0)" class="accordion-cross-reference" id="956">956</a>).<br /> <br /> &nbsp;</blockquote><br /> According to IRS guidance, an individual&rsquo;s &ldquo;tax home&rdquo; is the general area of the individual&rsquo;s principal place of business or employment. The individual&rsquo;s principal place of residence is irrelevant for determining the individual&rsquo;s tax home. However, if the individual is not consistently present in one business location, the location of that individual&rsquo;s principal residence may be used as a factor in the tax home determination. If the individual has neither a regular principal place of business or residence, the individual is considered itinerant and his or her tax home is wherever he or she works. The individual&rsquo;s tax home is <em>not</em> considered to be in a foreign country if that taxpayer&rsquo;s &ldquo;abode&rdquo; is in the U.S.<a href="#_ftn1" name="_ftnref1">¹</a><br /> <br /> <div class="Section1" style="padding-left: 40px;"><br /> <br /> <em>Example:</em> Joe is a U.S. citizen who is employed on a fishing enterprise in the waters of a foreign country. His schedule provides that he works one month on and one month off. Joe continues to maintain a residence in the U.S., where his family lives and where he returns on his &ldquo;off&rdquo; months. Joe is considered to have a &ldquo;tax home&rdquo; in the U.S. because his time is split equally between the U.S. and foreign waters. He is not entitled to take advantage of the foreign earned income exclusion, though he may be entitled to deduct his living expenses while living abroad as business travel expenses.<a href="#_ftn2" name="_ftnref2">²</a><br /> <br /> A taxpayer&rsquo;s election to exclude foreign earnings under the foreign earned income exclusion may be revoked by the taxpayer by filing a statement to that effect with the IRS, but if the taxpayer attempts to claim the exclusion within five tax years after the revocation, he or she must apply for IRS approval.<a href="#_ftn3" name="_ftnref3">³</a><br /> <br /> </div><div class="refs"><br /> <br /> <hr align="left" size="1" width="33%"><br /> <br /> <a href="#_ftnref1" name="_ftn1">1</a>&nbsp;&nbsp;&nbsp;&nbsp; IRS Pub. 54 (2019), p.12<br /> <br /> <a href="#_ftnref2" name="_ftn2">2</a> &nbsp;&nbsp;&nbsp; IRS Guidance, &ldquo;Foreign Earned Income Exclusion &ndash; Tax Home in Foreign Country,&rdquo; available at https://www.irs.gov/individuals/international-taxpayers/foreign-earned-income-exclusion-tax-home-in-foreign-country (last accessed August 15, 2025).<br /> <br /> <a href="#_ftnref3" name="_ftn3">3</a> &nbsp;&nbsp;&nbsp; IRS Guidance: &ldquo;Revocation of the Foreign Earned Income Exclusion,&rdquo; available at http://www.irs.gov/Individuals/International-Taxpayers/Revocation-of-the-Foreign-Earned-Income-Exclusion (last accessed August 15, 2025).<br /> <br /> </div></div><br />

<div class="Section1"><br /> <br /> A nonresident alien’s taxable estate is determined by deducting the following items from the alien’s gross estate:<br /> <blockquote>(1)     Expenses, indebtedness, taxes and losses. These items may be deducted only in the proportion that the value of the decedent’s gross estate in the U.S. bears to the value of the entire estate, wherever situated.<a href="#_ftn1" name="_ftnref1">¹</a> Thus, the deductible portion of each item is limited to the amount of each item multiplied by a fraction, the numerator of which is the value of the property located in the U.S., and the denominator of which is the value of the entire gross estate, wherever located.<br /> <br /> (2)     Charitable bequests. Charitable bequests are fully deductible if made to organizations meeting the requirements for an estate tax charitable deduction under IRC Section 2055 and are computed in the same manner as similar deductions allowed the estates of U.S. citizens and residents.<a href="#_ftn2" name="_ftnref2">²</a><br /> <br /> (3)     Marital Deduction. The marital deduction is not available for property passing to a surviving spouse who is an alien (either a resident alien or a nonresident alien) unless the property passes to the spouse in a qualified domestic trust (QDOT) or is placed in a QDOT before the date on which the decedent’s estate tax return is filed.<a href="#_ftn3" name="_ftnref3">³</a> The policy behind this limitation is that if the surviving spouse is an alien, there is a considerable likelihood that the marital deduction property will eventually be moved abroad, and not be taxable upon the death of the surviving spouse. This possibility can be eliminated, however, through the QDOT mechanism, which assures that the property in question will remain subject to U.S. estate tax upon the death of the surviving spouse.</blockquote><br /> <em>Allowance of Deductions.</em> A deduction is allowed only if the executor discloses in the estate tax return the value of that part of the gross estate not situated in the U.S.<a href="#_ftn4" name="_ftnref4">⁴</a><br /> <br /> </div><br /> <div class="refs"><br /> <br /> <hr align="left" size="1" width="33%" /><br /> <br /> <a href="#_ftnref1" name="_ftn1">1</a>     IRC § 2106(a)(1).<br /> <br /> <a href="#_ftnref2" name="_ftn2">2</a>     IRC § 2106(a)(2).<br /> <br /> <a href="#_ftnref3" name="_ftn3">3</a>     IRC § 2056(d).<br /> <br /> <a href="#_ftnref4" name="_ftn4">4</a>     IRC § 2106(b).<br /> <br /> </div>

<div class="Section1"><br /> <br /> Generally, foreign insurance companies cannot sell insurance products to U.S. persons without becoming subject to U.S. regulation. Despite this, if a U.S. person resides in a foreign country for an extended period of time, it is possible that he or she may choose to purchase a life insurance or annuity product from a foreign insurance company in that country. In order for a foreign-issued life insurance or annuity product to qualify for the same tax preferences given to domestic products, it will be required to comply with the U.S. requirements for these products (including, for example, the definition of &ldquo;life insurance contract&rdquo; under Section&nbsp;7702 or the annuity provisions of Section&nbsp;72).<br /> <br /> Further, under the IRC, most annuity contracts issued by domestic insurance companies are exempt from the original issue discount (OID) rules (discussed in Q <a href="javascript:void(0)" class="accordion-cross-reference" id="495">495</a> to Q <a href="javascript:void(0)" class="accordion-cross-reference" id="501">501</a>).<a href="#_ftn1" name="_ftnref1">¹</a> An annuity contract issued by a foreign insurance company will be subject to the OID rules, however, unless that insurance company is subject to tax under subchapter L with respect to income earned on the annuity contract. If the insurance company is not subject to tax under subchapter L, the annuity contract will be included in the definition of a debt instrument and the growth on the annuity cash value can be subject to tax as interest income even if payouts under the annuity contract have not yet begun.<a href="#_ftn2" name="_ftnref2">²</a><br /> <br /> In the context of variable life insurance contracts, a contract will not qualify as a variable life insurance contract unless it is a &ldquo;variable contract&rdquo; for purposes of IRC Section&nbsp;817(d). Under this provision, the amounts received under the variable contract must be segregated into an account that is separate from the company&rsquo;s general asset accounts <em>under state law or regulation.</em><a href="#_ftn3" name="_ftnref3">³</a> The question that arises in this context is whether an insurance company that segregates its assets pursuant to <em>foreign law</em> will qualify. The IRS has found that a foreign insurance company that elects to be taxed as a domestic company under IRC Section&nbsp;953(d) (meaning it will be subject to subchapter L taxation), and that segregates amounts received under life insurance contracts from general company assets under foreign law, can meet the requirements of Section&nbsp;817(d)<em><em><strong>.</strong></em></em><a href="#_ftn4" name="_ftnref4">⁴</a><br /> <br /> This, however, leaves open the possibility that variable contracts issued by a foreign insurance company that has <em>not</em> elected to be taxed as a domestic company will not qualify for treatment as such under the IRC.<br /> <br /> <div class="refs"><br /> <br /> <hr align="left" size="1" width="33%"><br /> <br /> <a href="#_ftnref1" name="_ftn1">1</a>&nbsp;&nbsp;&nbsp;&nbsp; IRC &sect;&nbsp;1275(a)(1)(B).<br /> <br /> <a href="#_ftnref2" name="_ftn2">2</a>&nbsp;&nbsp;&nbsp;&nbsp; Treas. Reg. &sect;&nbsp;1.1275-1(k).<br /> <br /> <a href="#_ftnref3" name="_ftn3">3</a>&nbsp;&nbsp;&nbsp;&nbsp; IRC &sect;&nbsp;817(d)(1).<br /> <br /> <a href="#_ftnref4" name="_ftn4">4</a>&nbsp;&nbsp;&nbsp;&nbsp; Let. Rul. 200919025.<br /> <br /> </div></div><br />

<div class="Section1"><br /> <br /> A foreign corporation is a PFIC if at least 50 percent of its assets produce passive income or are held for the production of passive income.<a href="#_ftn1" name="_ftnref1">¹</a> The passive asset test is calculated by determining the value of the foreign corporation’s assets each tax year. Asset valuation is based on fair market value unless the corporation is also a controlled foreign corporation (CFC), in which case assets are valued based on their adjusted bases.<a href="#_ftn2" name="_ftnref2">²</a><br /> <br /> An asset will be treated as though it is held for the production of income if it is held to produce capital gains and/or foreign currency gains.<a href="#_ftn3" name="_ftnref3">³</a><br /> <br /> The asset test applies on a gross basis. In other words, if the corporation’s liabilities are secured by particular assets, that fact does not reduce the value of those assets for purposes of the 50 percent test.<br /> <br /> The 50 percent test is based on the average of the fair market value of the foreign corporation’s assets determined at the end of each quarterly period. Typically, foreign corporations will not be required to obtain an independent appraisal to apply the 50 percent test.<a href="#_ftn4" name="_ftnref4">⁴</a><br /> <br /> The average percentage of a foreign corporation’s assets is determined using the average of the gross values (or adjusted bases) at the end of each quarter of the foreign corporation’s tax year.<a href="#_ftn5" name="_ftnref5">⁵</a> The foreign corporation can also measure asset value more frequently than quarterly. The quarter (or shorter period) used by a tested foreign corporation is referred to as its “measuring period.” Applying the asset test based on a period that is shorter than a quarter can provide a more accurate measurement of average asset value, but the more frequently recurring time period is not required because of the potential administrative burden that it could impose on shareholders.<br /> <br /> The same measuring period must generally be used for the tested foreign corporation for the initial tax year (including any short year in which the shareholder elects to use the alternative measuring period) and all subsequent years unless the election to use the more frequently recurring measuring period is revoked.<a href="#_ftn6" name="_ftnref6">⁶</a> In the case of a short tax year, the quarterly measuring dates for purposes of the asset test are the same as for a full tax year, except that the final quarterly measuring date will be the last day of the short tax year.<a href="#_ftn7" name="_ftnref7">⁷</a><br /> <br /> A foreign corporation’s income and assets may also include assets and income of lower-tier corporations if the corporation owns at least 25 percent of the stock.<a href="#_ftn8" name="_ftnref8">⁸</a> This look-through rule means that a foreign corporation cannot use subsidiaries to avoid PFIC status. Indirect stock ownership is determined under the general rules used in determining ownership by value.<a href="#_ftn9" name="_ftnref9">⁹</a> These rules apply without regard to whether entities are domestic or foreign, meaning that indirect ownership includes corporate ownership through intermediate corporations, partnerships, trusts, and estates, regardless of where the entity is organized. Further, stock treated as owned by application of the indirect ownership rules is generally considered actually owned for purposes of reapplying the indirect ownership rules.<a href="#_ftn10" name="_ftnref10">¹⁰</a><br /> <br /> The foreign corporation is deemed to own its proportionate share of the lower-tier entity’s assets and income.<a href="#_ftn11" name="_ftnref11">¹¹</a> However, when lower-tier entities are operating subsidiaries, the foreign corporation may avoid PFIC treatment because dividends and interest derived from them are not considered passive income. Under the look-through rule, interest and dividends passed from lower-tier entities retain their character as operating income when passed to the parent corporation.<a href="#_ftn12" name="_ftnref12">¹²</a><br /> <br /> For purposes of the passive asset test, a foreign corporation that directly or indirectly owns an interest in a partnership is treated as if it held its proportionate share of the assets of a partnership, provided the tested foreign corporation owns, directly or indirectly, at least 25 percent, by value, of the interests in the partnership.<a href="#_ftn13" name="_ftnref13">¹³</a> A corporation’s proportionate share of a partnership asset is treated as passive to the extent the asset produced, or was held to produce, passive income in the partnership’s hands, taking into account only the partnership’s activities. If a foreign corporation owns less than 25 percent of the value of the partnership, its interest in the partnership is treated as a passive asset.<a href="#_ftn14" name="_ftnref14">¹⁴</a><br /> <br /> The look-through rule does not always apply to a domestic corporation or any subsidiaries of the domestic corporation. That’s true if the stock of the domestic corporation is treated as a non-passive asset that produces non-passive income.<a href="#_ftn15" name="_ftnref15">¹⁵</a><br /> <br /> A foreign corporation may attempt to avoid PFIC status regardless of direct and indirect ownership of passive assets by ensuring that a sufficient amount of the assets are held indirectly through two tiers of domestic subsidiaries.<a href="#_ftn16" name="_ftnref16">¹⁶</a> For example, a foreign corporation might hold stock in another foreign corporation that is PFIC, but use a two-tiered domestic chain holding passive assets to avoid being treated as a PFIC. In this case, a U.S. person holding stock of the foreign corporation would generally not be treated as a shareholder of the PFIC stock owned by the tested foreign corporation.<a href="#_ftn17" name="_ftnref17">¹⁷</a><br /> <br /> <hr /><br /> <br /> <strong>Planning Point:</strong> An anti-abuse rule provides that look-through exceptions regarding a foreign corporation subject to the accumulated earnings tax will not apply if the tested foreign corporation would be a PFIC if the qualified stock or any income received or accrued with respect to such stock were disregarded.<a href="#_ftn18" name="_ftnref18">¹⁸</a> A second anti-abuse rule provides that the exception will not apply if a principal purpose for the foreign corporation’s formation or acquisition of the 25-percent-owned domestic corporation is to avoid PFIC status. The law presumes such a principal purpose exists if the 25-percent-owned domestic corporation is not engaged in an active U.S. trade or business.<a href="#_ftn19" name="_ftnref19">¹⁹</a><br /> <br /> <hr /><br /> <br /> An asset is passive for purposes of the asset test if it produces passive income or is held for the production of passive income. However, if the asset produces both passive income and non-passive income during the same tax year, it is treated as two separate assets (one passive and one non-passive).<a href="#_ftn20" name="_ftnref20">²⁰</a> The asset is treated as partly a passive asset and partly a non-passive asset in proportion to the proportionate amounts of income generated by the asset during the year.<a href="#_ftn21" name="_ftnref21">²¹</a> For purposes of the asset test, the fair market value (or adjusted basis) of the asset is allocated between the passive assets and non-passive assets based on the ratio of passive income produced by the asset during the tax year to non-passive income.<br /> <br /> </div><br /> <div class="refs"><br /> <br /> <hr align="left" size="1" width="33%" /><br /> <br /> <a href="#_ftnref1" name="_ftn1">1</a>       IRC § 1297(a)(2).<br /> <br /> <a href="#_ftnref2" name="_ftn2">2</a>       IRC § 1297(e).<br /> <br /> <a href="#_ftnref3" name="_ftn3">3</a>       IRC § 954(c).<br /> <br /> <a href="#_ftnref4" name="_ftn4">4</a>       Notice 88-22, 1988-11 IRB 1.<br /> <br /> <a href="#_ftnref5" name="_ftn5">5</a>       Prop. Treas. Reg. § 1.1297-1(d)(1)(i) and (d)(1)(ii)(A).<br /> <br /> <a href="#_ftnref6" name="_ftn6">6</a>       Prop. Treas. Reg. § 1.1297-1(d)(1)(ii)(B).<br /> <br /> <a href="#_ftnref7" name="_ftn7">7</a>       Prop. Treas. Reg. § 1.1297-1(d)(1)(ii)(C).<br /> <br /> <a href="#_ftnref8" name="_ftn8">8</a>       IRC § 1297(c).<br /> <br /> <a href="#_ftnref9" name="_ftn9">9</a>       Prop. Treas. Reg. § 1.1297-2(b)(1); IRC Secs. 1297(c) and 958(a).<br /> <br /> <a href="#_ftnref10" name="_ftn10">10</a>     Treas. Reg. § 1.958-2(f)(1).<br /> <br /> <a href="#_ftnref11" name="_ftn11">11</a>     IRC § 1297(c).<br /> <br /> <a href="#_ftnref12" name="_ftn12">12</a>     H. Rep. No. 841 at II-644.<br /> <br /> <a href="#_ftnref13" name="_ftn13">13</a>     Prop. Treas. Reg. § 1.1297-1(d)(3)(i).<br /> <br /> <a href="#_ftnref14" name="_ftn14">14</a>     Prop. Treas. Reg. § 1.1297-1(d)(3)(ii).<br /> <br /> <a href="#_ftnref15" name="_ftn15">15</a>     Prop. Treas. Reg. § 1.1297-2(b)(2)(iii) referencing both IRC Secs. 1297(c) and 1298(b)(7).<br /> <br /> <a href="#_ftnref16" name="_ftn16">16</a>     Under IRC § 1298(b)(7), qualified stock held by a domestic corporation is treated as an asset that does not produce passive income when the foreign corporation is subject to the IRC Section 531accumulated earnings tax.<br /> <br /> <a href="#_ftnref17" name="_ftn17">17</a>     See Prop. Treas. Reg. § 1.1298-4(e); IRC § 1298(a)(2) and Treas. Reg. § 1.1291-1(b)(8)(ii)<br /> <br /> <a href="#_ftnref18" name="_ftn18">18</a>     Prop. Treas. Reg. § 1.1298-4(f)(1). See also the exception in IRC § 1298(b)(7).<br /> <br /> <a href="#_ftnref19" name="_ftn19">19</a>     Prop. Treas. Reg. § 1.1298-4(f)(2).<br /> <br /> <a href="#_ftnref20" name="_ftn20">20</a>     Prop. Treas. Reg. § 1.1297-1(d)(2).<br /> <br /> <a href="#_ftnref21" name="_ftn21">21</a>   Notice 88-22.<br /> <br /> </div>