The Basics of Taxation for Non-Resident C-Corp Owners
Federal Income Tax
This article is intended to detail on a high level the tax obligations for corporations established in the United States. We have also drafted a tax guide for foreign owned, single member and multi-member LLCs (Limited Liability Companies) that you can access here.
Who is subject to US Income Tax? - All US corporations must file an annual federal corporate tax return
What do I need to file?
Form 1120, the annual corporate tax return, is used to determine your taxable income and federal tax liability. In addition to the 1120, there are other informational forms that may be required. For example, Form 5472, is required to be filed by a foreign owned, US company.
How can my taxes be reduced?
Numerous credits to reduce tax are available, including credits for certain research activities. If a company is in losses in tax years ending before January 1, 2018, the losses may be carried back two years and, if not fully used, carried forward 20 years. NOLs generated in tax years ending after December 31, 2017, generally may not be carried back and must instead be carried forward indefinitely; for such NOLs the deduction is limited to 80 percent of taxable income (determined without regard to the deduction).
How much tax will I owe?
US corporations will be taxed at a standard rate on their taxable income.
US taxable income is based on the corporation’s gross receipts less various business expenses (e.g., cost of goods sold, salaries and wages).
For tax years beginning after December 31, 2017, taxable income of US corporations is subject to a flat rate of 21%
When do I have to file my taxes?
A corporate taxpayer must file their annual tax return by the 15th day of the fourth month following the close of its tax year. A taxpayer can obtain a six-month extension to file its tax return, provided it timely and properly files Form 7004, and pays the full amount of any tax due by the original due date. For example, if a corporate taxpayer whose year-end is December 31, 2018, properly obtains an extension, its 2018 federal tax return that would normally be due on April 15, 2019 is extended to be due on October 15, 2019.
When are tax payments due?
All of your federal income taxes are due by the 15th day of the third month following the close of the tax year, regardless of an extension granted for filing the actual return. Following your first tax year in the US, you may be required to make estimated tax payments at the close of each quarter. Companies expecting a taxable profit for the year should consider whether or not estimated taxes are owed, and how much is required to be paid in the year.
State Income Tax
What do I need to file?
Each state in the US has their own tax system that requires annual filings depending on your activity in the state. These filings are separate from the US federal return submitted to the IRS, and are submitted to tax authorities of the individual states. The tax rates vary across the states but generally result in an additional income tax of up to 10%.
Federal vs. State taxable income?
The starting point for determining US state taxable income generally is an entity’s federal taxable income. However, there are several items that may be treated differently for state taxable income purposes (e.g., depreciation, state taxes paid, interest deductions and charitable contributions). The states will then apportion taxable income according to the company’s relative presence in the state using various factors (e.g., sales, property, payroll).
When are state taxes due?
Most states require the corporate taxpayer to file their annual tax return by the 15th day of the third or fourth month following the close of its tax year. Some states permit a five or six-month extension to file the return, provided the taxpayer timely and properly files the extension form for that jurisdiction and deposits the full amount of any tax.
Similar to federal income taxes, most require tax-paying corporations to submit estimated taxes on a quarterly basis.
Other state tax issues
A handful of states impose a franchise or gross receipts tax in addition to or in place of an income tax, reported on the annual tax return. There may be situations in which a company is not required to pay an income tax, but still may be subject to a filing requirement and payment of a franchise, capital, or gross receipts tax.
These taxes are a way for states to tax companies based on gross receipts or balance-sheet capital rather than taxable income.
Which states do I need to file?
A state generally may impose its tax on an entity to the extent a sufficient ‘nexus,’ or taxable connection, exists between the entity and the state. Forty-four US states impose a corporate income tax, and a company can be subject to income tax in as many states as they have nexus. Each state has their own criteria for nexus but, in general, owning property, paying for rental property, or storing inventory in a state are examples of situations that would lead to a filing requirement in that state.
Other factors, such as the location of employees and sales activity, can also be considered depending on the state
• There is no federal value added tax (“VAT”) or similar consumption tax.
As a result indirect tax generally is a state tax issue.
• The most common indirect taxes are a state's sales and use tax, and franchise taxes.
Sales and Use Taxes
• Generally, once a company has nexus to a state with respect to sales and use taxes, that company must register with the state’s tax department, file sales tax returns, and pay its sales tax liabilities.
• Depending on the volume of sales, the company may be required to file returns on an annual, quarterly, or monthly basis. Physical presence is not required for the imposition of sales and use tax by certain states.
• Generally, sales tax is imposed on retail sales, leases, rentals, barters, or exchanges of tangible personal property and certain enumerated services unless specifically exempted or excluded from tax.
• Sales tax generally is imposed in the jurisdiction in which the ‘sale’ occurs.
The definition of ‘sale’ differs from jurisdiction to jurisdiction; however, the definition generally includes both (1) consideration and (2) transfer of title, right to use, or control (possession) in the case of tangible property and completion of the service act in the case of a service.
Delaware Franchise Tax
• Any corporation that is incorporated in Delaware (regardless of where you conduct business must file an Annual Franchise Tax Report and pay Franchise Tax for the privilege of incorporating in Delaware.
• Franchise Taxes and annual Reports are due no later than March 1st of each year.
• The Delaware Franchise Tax will range from $175 to $200,000 depending on the amount of the company’s authorized shares. For example, a corporation having 10,000 authorized shares will have a tax of $250. Generally, the more shares the US corporation has, the higher the Franchise Tax (with a maximum annual tax of $200,000). An Annual Report filing fee of $50 is also required.
The United States has separate federal, state, and local government(s) with taxes imposed at each of these levels. Taxes are levied on income, payroll, property, sales, withholding, as well as various fees (see detailed descriptions of each below). These taxes are constantly evolving to keep up with new industries, to meet the changing needs of a state, or one of countless other factors. For example, on June 21, 2018, the US Supreme Court in South Dakota v. Wayfair overturned prior Court decisions and ruled that a physical presence is not required for the imposition of sales and use tax. This decision will have far-ranging tax and accounting impacts on companies. Therefore, as a business owner/member, it is important to be aware of the constant changes, and account for them to reduce your potential risk.
• People and companies making payments such as interest, dividends, and royalties, to foreign people or foreign companies generally must withhold 30% of the payment amount as tax withheld at source.
• A lower rate of withholding can apply if the payee is eligible for a reduced rate under a tax treaty or by operation of the US tax laws. The ability to apply a reduced rate requires valid documentation evidencing the foreign payee’s eligibility for a lower rate of withholding. For further details on applicable tax treaties, please refer to the Addendum.
• Any taxes withheld on payments made to foreign payees must be reported to the IRS before March 15 following the calendar year in which the income subject to reporting was paid. An extension of time to file can also be obtained.
• A payroll tax obligation will exist for a US company if it has employees.
• All payments for employment within the US are wages subject to (1) federal income tax withholding, (2) Federal Insurance Contributions Act (FICA) taxes (i.e., social security and Medicare), and (3) the Federal Unemployment (FUTA) tax, unless an exception applies.
• The employer must pay and withhold social security taxes equal to 6.2% of wages for the employer and 6.2% for the employee, up to $132,900 of wages in 2019, and Medicare taxes equal to 1.45% for the employer and 1.45% for the employee.
• The employer generally must file quarterly and annual employment tax returns and annual wage statements (Forms W-2) in its name and employer identification number unless such statements are filed by a properly authorized third party
State and local tax issues
Foreign companies with activity in the United States often are surprised that such activity may trigger both federal and state-level taxes. Even more surprising, there are no uniform rules among the states as to whether state tax liability attaches; in some cases, significant state tax liabilities may be imposed even if little or no US federal tax obligations exist.
Activities that could subject an entity to state tax
A state generally may impose its tax on an entity to the extent a sufficient ‘nexus,’ or taxable connection, exists between the entity and the state. While US federal taxation generally requires a threshold level of activity of being ‘engaged in a trade or business’ or having a ‘permanent establishment,’ mere physical presence in a state, such as having employees, owning property, storing inventory, or paying for rental property in the state, generally may be sufficient for nexus to exist for state taxation purposes.
Following the US Supreme Court’s 2018 decision in South Dakota v. Wayfair, which eliminated the “physical presence” requirement for the imposition of state sales and use tax collection obligations, it is possible that actual physical presence in a state may no longer be required for nexus to exist for state income taxation purposes.
There is no clear-cut answer if you need to file – it depends.
Practically speaking, you may not owe any taxes, but some states require returns even if you owe no tax. It's important to know the requirements of each state.
Economic nexus could be deemed to exist between a state and a company based on the presence of intangible property in a state. For example, the license of trademarks to a company located in a state could create nexus for the out-of-state licensor on the basis that the intangibles are ‘present’ in the state.
US Tax Treaties
The United States has in place income tax treaties with more than 60 countries, including treaties with most European countries and other major trading partners, including Mexico, Canada, Japan, China, Australia, and the former Soviet Union countries.
There are many ‘gaps’ in the US tax treaty network, particularly in Africa, Asia, the Middle East, and South America.
US income tax treaties typically cover various categories of income, including:
• Business profits
• Passive income, such as dividends, interest, and royalties
• Income earned by teachers, trainees, artists, athletes, etc.
• Gains from the sale of personal property
• Real property income
• Employment income
• Shipping and air transport income
• Income not otherwise expressly mentioned
The categories of income covered vary from treaty to treaty, and no two treaties are the same.
To gain treaty benefits, it is necessary to satisfy the conditions of the residency article as well as certain other requirements.
*Disclaimer*: Yondaa, Inc. is neither a law firm nor an accounting firm and, even in cases where the author is an attorney, or a tax professional, nothing in this article constitutes legal or tax advice. This article provides general commentary on, and analysis of, the subject addressed. We strongly advise that you consult an attorney or tax professional to receive legal or tax guidance tailored to your specific circumstances. Any action taken or not taken based on this article is at your own risk. If an article cites or provides a link to third-party sources or websites, Yondaa, Inc. is not responsible for and makes no representations regarding such source’s content or accuracy. Opinions expressed in this article do not necessarily reflect those of Yondaa, Inc.
- Download our U.S. Corporation Tax Whitepaper -
Download our tax guide for non-resident owned U.S. corporations - A step by step overview taxation requirements for C-corp entities