The Internal Revenue Code taxes both citizens and resident aliens on worldwide income and places limitations on U.S. taxation of nonresident aliens. Consequently, the determination of an individual’s nationality or citizenship is paramount to determining the individual’s U.S. income tax treatment.
Federal citizenship and naturalization laws control for purposes of determining when an individual is a citizen, resident or non-resident alien. Under these laws, any person born in the United States is automatically a citizen unless and until he or she affirmatively relinquishes their citizenship in order to become an expatriate. Any person born an alien who completes the naturalization process becomes a citizen from the effective date of the taking of an oath of allegiance.
Individuals who are not deemed citizens of the United States are by default classified as nonresident aliens unless they meet one of two tests:
1. The green card test and
2. The substantial presence test.
Under the green card test an alien that is lawfully admitted for permanent residence becomes a resident alien on the first day of physical presence in the United States after being granted a green card. Once this status is obtained it continues indefinitely thereafter, regardless of actual amount of time spent in the United States, until the permanent resident status is revoked by the immigration authorities or determined by a court to have been abandoned where a resident alien turns in and thus revokes their green card.
Under the substantial presence test, an alien will be classified as a resident alien and thus be subject to U.S. taxation on worldwide income where the following two conditions are met:
(1) The individual is physically present in the United States (partial days count) on a minimum of 31 days, which need not be consecutive, during the year that is being tested for income tax purposes.
(2) The alien has spent at least 183 days (partial days count) in the United States during the testing and two proceeding calendar years based on the following calculation:
a. The number of days of physical presence in the United States during the testing year,
b. One-third of the number of days, rounded up to the nearest whole day, in the year immediately preceding the testing year
c. One-sixth of the number of days, rounded up to the nearest whole day, in the second year preceding the testing year.
Note: Some days of presence are not counted for 183 day testing purposes which include days spent in the United States as a student or diplomat. Additionally, where a determination of residency during the testing year is met per the above test but less than 183 days were spent in the United State during the testing year, the 183 day test can still be overcome where the tested individual can prove a closer connection and a tax home in country other than the United States. An individual who claims nonresidency under this exception must file Form 8840 – https://www.irs.gov/pub/irs-pdf/f8840.pdf Closer Connection Exception Statement for Aliens for the testing year.
The above residency tests only apply for federal income tax purposes. Residency for estate and gift tax purposes is determined under a facts-and-circumstances approach.
Tax Treaty, Visa Based and Special Rules for Canadian and Mexican Resident Overrides to the 7701(b) substantial presence test
An alien who is properly classified as a resident alien under IRC §7701(b) may be none the less be reclassified as a non-resident alien for income tax purposes under the “tie-breaker” rules of a possible income tax treaty between their former country and the United States. This phenomenon usually occurs (if at all) in the year that the alien either moves into or out of the U.S. because of time spent in the U.S. either before or after the move although it may also occur where an alien has lived in the U.S. for the entire calendar year. A tax treaty may also reclassify a U.S. green card holder living abroad as a treaty country resident even where it would violate U.S. immigration laws to take that position which could cause a loss of the green card. Additionally, IRC §7701(b) contains exceptions for aliens in the U.S. under nonimmigrant visas that may override the 7701(b) substantial presence test subject to special rules especially aliens holding A, F, G, J, M and Q-visas. Lastly, nonimmigrant aliens from Canada and Mexico may be admitted without a nonimmigrant visa under the “visa waiver” program as tourists or as temporary business visitors for up to 90 days a year using a border crossing card.