Author: Peter Harper
How can the US tax me – doesn’t the tax treaty stop me from being subjected to Double Tax?
In my last post, I outlined the circumstances pursuant to which an individual taxpayer will be subject to U.S. Income taxation on a worldwide basis.
I am regularly asked, ‘how can the US tax me when I am a resident of Australia, and I have closer connections to Australia. Doesn’t the treaty ensure that I am only taxed once.’
Unfortunately, the answer is yes and no!
The US-Australia Income Tax Treaty contains a savings clause in Article 1. This Article allows the U.S. to tax its citizens and green card holders on a worldwide basis as though the treaty does not exist. Yes, there are some exceptions to this rule but given that the treaty was entered in 1983, some of them are outdated and of little practical significance.
What this means is that if you are citizen or you hold a green card, and you are also a resident of Australia, that the U.S. can still tax you on a worldwide basis.
Let’s look at a couple of simple examples.
This is the most clear cut example of double tax – let’s say you earn a $1 of fully franked Australian sourced dividend income. Regardless of the treaty U.S. law says that you do not gross up the dividend and that you are really receiving a 70 cent dividend because you did not pay the tax – i.e. the company paid the tax. It follows that you do not get credit for the tax paid in Australia – even though you would (via your franking credits) in Australia.
If the dividend you receive in Australia is qualified dividend under U.S. law, you would likely pay another 16.6 cents to the IRS. If it is not qualified, the dividend could be another 27.7 cents.
Comparatively, if the income had been salary, because you had paid the tax in Australia, you would get a credit for the tax you had paid, and would only be liable for further tax in the U.S. in the event of a foreign tax credit shortfall.
But just to be clear, the rules that govern the final outcome of how you are taxed under these scenario are for the most part governed by U.S. Domestic law.
In my next blog, I will consider how these outcomes adversely impact Australian discretionary and unit trusts.
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This document is intended as an information source only. The comments and references to legislation and other sources in this publication do not constitute legal advice and should not be relied upon as such. You should seek advice from a professional adviser regarding the application of any of the comments in this document to your fact scenario. Information in this publication does not take into account any person’s personal objectives, needs or financial situations. Accordingly, you should consider the appropriateness of any information, having regard to your own objectives, financial situation and needs and seek professional advice before acting on it. CST Tax Advisors exclude all liability (including liability for negligence) in relation to your reliance in this publication.