This is a continuation of the following posts:
- Do US citizens living outside the US have to pay into the US Social Security System?
- Should a digital nomad, or other self-employed US citizen working abroad, pay social security taxes?
So, if despite (partially) losing social security benefits, you still want to avoid paying Social Security Tax by being employed by a foreign entity (aka “your corporation” J), but you still want to have a US bank account (and your US bank would not open it for a foreign corporation) or your clients want to interact with a US entity… you also want a US entity.
Can you have it both ways? It takes planning and some bureaucracy, but yes, to an extent it is possible. You would have an offshore entity (typically a corporation in either the British Virgin Islands, Belize or Hong Kong) as well as a US entity (typically a Wyoming LLC)
There are 2 ways to achieve that:
- Both entities would be owned by the individual taxpayer. The taxpayer would be employed by the foreign/offshore entity (required in order to avoid Self-Employment/Social Security tax). The Wyoming LLC would be a payment processor (akin to Braintree/Paypal), it would receive payments on an arm-length basis: The LLC would keep a payment processing fee or about 5% and a contract would be in place between the offshore entity and the Wyoming LLC (signed by the CEO of both entity – i.e. the same individual taxpayer)
- Or, the Wyoming LLC would be owned by the foreign corporation. In this case, the LLC would be more akin to a branch of the foreign corporation. This setup raises the possibility of the foreign entity having a requirement to file form 5472 (which is above and beyond the taxpayer’s obligation to file form 5471). The foreign entity would have to file form 5472 if it had either a “reportable transaction” or if it was “Engaged in a US Trade or Business”.
This raises the question of what “Engaged in a US Trade or Business” means. Basically, an employee of the corporation would be working from the United States – would the fact that the taxpayer worked in the United States (for the foreign corporation) cause the corporation to be “Engaged in a US Trade or Business”? Unfortunately, there is no clear guidance stating what De Minimis rule the IRS would tolerate to deem an activity to be minimal enough to avoid triggering an “Engaged in a US Trade or Business” classification.
Neither the Internal Revenue Code nor regulations issued by the IRS clearly define what is meant by being “Engaged in a US Trade or Business”. Case law indicates that a business activity is not a “US Trade or Business” unless the activity is considerable, continuous and performed on a regular basis. Unfortunately, the cases are old and despite the fact that case law requires a fairly continuous activity, lower level IRS revenue agents have been taking the view that lower levels of activity meet the standard, leaving little real guidance. The IRS has taken a very strict approach in published decisions that activities beyond the mere passive receipt of income, if conducted in the United States, are sufficient to constitute a “US Trade or Business”.
With that in mind, I would prefer the first option, but even then, the contract between the corporations needs to be documented in order to avoid having the IRS taking the view that the taxpayer was effectively self-employed (And the self-employment tax would be owing).