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The objective of this article is to offer a 360° perspective on the tax considerations, in India & USA, apropos various stages of an EB5 process. These stages are abbreviated as Pre-Point-Post.
The POST phase can further be divided into the following sub-phases:
The subject of Taxation, as one of the considerations in the overall EB5 process, starts right from the point when one thinks to apply for EB5. This is because an investment under EB5 typically requires one to liquidate assets in whatever form it may otherwise be lying; for Indian cases this generally means a combination of gifts, sale of property, withdrawal of capital from business, stocks/share sale, support from relatives and a variety of other tumblers to fill the bucket of US$ 500,000 (US$ 900,000). For e.g. a non-resident Indian selling an immoveable property in India for meeting the EB5 investment will have to consider the withholding tax (alias TDS) which is at a whopping 20% (minimum), plus surcharge if applicable, & plus cess. This means, as an example, that a property fetching INR 4 crore would actually be subject to a deduction of tax at source by the buyer of 20%, in this case INR 80 lacs. This is not a small sum. If the same property were sold by a resident Indian, to the same buyer, same piece of land/real estate asset, then the deduction at source would have been 1% only, i.e. INR 4 lacs. One can apply for a lower / NIL withholding tax certificate to the Assessing Officer (Tax Authority) as the solution to mammoth withholding rate; such a planning is possible if proper guidance is received well-in-advance.
Once funds are arranged from several different sources, the PRE phase is over and you reach the POINT phase where funds need to start moving into applicant’s bank account, often called as “centralization of funds”. The process of centralization means money changing hands, and this would again have tax implications. For e.g., in India, there is no tax to be paid on gifts received or made provided the Donor and Donee are “relatives” as defined under Section 2 of the Income Tax Act. At the cost of repetition, no tax is to be paid, neither by the person remitting funds nor by the person receiving funds, irrespective of amount, and irrespective of geographical location of sender or recipient, provided the only condition of being a “relative” is met. This is unlike USA wherein Donor is taxed beyond certain limits, Donee is not as such. Except for own family members, USA does not differentiate the locus standi of an individual in relation to the blood he or she shares with another individual, as far as the ‘concept’ of taxing gifts is concerned. There are limits prescribed, once you cross them, Donor must pay the tax (it doesn’t matter even if the recipient is a relative). One of the reasonings / logic for the concept of taxing a donor, as against a donee, is that one who has significant assets to his or her disposal should be taxed instead of the person on other side who is a mere recipient; this is also because in a developed country the fundamental presumptions while building tax systems are different than that of an underdeveloped country. For e.g., Johnny has $20 mn worth of cash in bank, and he intends to distribute this between 15 people. Naturally, it is easy to tax Johnny as one individual than to tax the 15 different recipients. On the flip side, the issue is what happens if a recipient in USA is receiving gifts from multiple donors, and for which IRS has established a reporting structure for high-value gifts. Receipt of gifts in US (whether for pursuing EB5 or otherwise) have to be reported to IRS in Form 3520 (this is in addition to Form 8843 which is a statement for exempt individuals confirming residency status as a student). Do note that this is a “reporting” only mechanism, and not a tax payment. This reporting is mandatory; RFEs have been issued on this issue. For more than 50% of the EB5 cases, there are multiple gifts happening as money is changing hands not only within India but also within USA and between India & USA when applicant is a student or on H1B in States while funds are coming from India. In fact, I have dealt with a case where a brother in Australia, and a father in India, were gifting to a son in USA who is currently on a deputation to Canada by an IT Company. A case like this requires understanding of multiple laws.
USCIS has its own set of rules for sources of funds, and often, I have seen applicants opting for sources which were unwarranted, not only for the fact that they were tax heavy but also from the perspective of financial viability, however, they offered a better shot at getting I-526 approval. There is nothing wrong about inviting tax burdens when it comes to improving the chances of getting an I-526 approval, but only if one had enough knowledge on the tax and immigration matters, in tandem & in totality, would the question of compromise make its presence. For e.g., Mr. X owns a company in India, which is named X Private Limited. As some of the readers to this article may know, in India, one cannot withdraw profits/surplus from their own companies unless dividends were declared. The issue in declaring dividend is dual taxation (which has now got eliminated by virtue of Finance Act, 2020, but was prevalent for all these decades). Company had to pay DDT (dividend distribution tax), and recipient being shareholder, had to pay income tax at highest slab because this income would classify under “Income from other sources”. As an alternative, Mr. X would thus think that he should take a “loan” from his own company in the pretext of withdrawing funds for making an EB5 investment or gifting to his son or daughter to them to make an EB5 investment. There are two issues if Mr. X did this (few EB5 applicants have done it without even realizing the tsunami that is on their way); not only will Mr. X jeopardise his I-526 because an unsecured loan is not an allowable source of funds, but also Mr. X would end up violating Companies Act. This is because Companies Act prohibits a Director to take loans, whether secured or unsecured, from his or her own Company. More importantly, this is not a clause one should even dream to violate because it attracts penal provisions which are painstaking (unlike some of the other violations where one may be able to bear the heat). If requisite knowledge is available, then a fool-proof structure that adheres to Income Tax Act, Companies Act, FEMA, HUF provisions, Hindu Succession Act, and most importantly USCIS Regulations, can all be achieved under one solution. The problem with these cases is that it requires an interplay between multiple laws, which are totally separate in themselves so generally not practised together, and unless a professional were to play them together, one will end up leaving open ends somewhere.
The considerations to keep in mind at the POINT stage are relevant from the FEMA perspective as well (Foreign Exchange Management Act). Look at this example (and this happens very often): Mr. Bean owns a house which he wants to mortgage for generating liquidity to pursue his son’s American dream. Mr. Bean will approach a Nationalised or Private Bank in India, who will happily mortgage his house, and make the disbursement to son’s account or wife’s account presuming any of them will act as the lead applicant in the I-526 petition. Mr. Bean thought it is best to directly get the funds credited into his own son or spouse’s account; after all, the money anyway had to be given to them, and given that they are anyway his blood relatives so there are no tax issues either. This act of Mr. Bean will create “unfixable” issues in India as well as in States. From the Indian perspective, he would end up violating the provisions of FEMA which prohibit using borrowed funds for making overseas investment. The penalty prescribed for violating FEMA is minimum 100% of sum involved, up to a maximum of 300% of the sum involved (the words “sum involved” refer to amount being remitted overseas in this case). The bleeding doesn’t end here; the real issue comes when USCIS will question the source of this loan. USCIS per se has not raised issues on FEMA provisions but what will pinch is that applicant used funds emanating from an asset that didn’t belong to him or her in the first place, hence for USCIS, this becomes a 3rd party fund in their eyes which apparently can’t be considered even as a “gift because the “act of gift” never happened (it is not a case where property was gifted or that even funds were gifted, there is an implied gift but USCIS at once will put this to challenge depending on the overall facts of the case). Further, Mumbai Consulate in India has questioned applicants on possible violation of FEMA.
The type of tax considerations one needs to keep in mind under the POST phase are further segregable into three phases, 1) Tax points to keep in mind in USA, 2) Tax points to keep in mind in India, and 3) Tax points apropos Indo-US laws in toto (this would primarily indicate DTAA – dual tax avoidance agreement signed between these two countries).
The most important POST issue to be kept in mind is that you must report your EB5 investment on your Indian tax return. There will be no need to report if applicant is a non-resident Indian. However, if you are an EB5 applicant who, at the time of making the EB5 application, is a “resident” or a “resident but not ordinary resident” under the provisions of Income Tax Act, then one compulsorily has to show his overseas investment on his annual income tax return. This is not just for EB5 petition, it could be a foreign asset of any nature (example, if you bought a house in London, then that is reportable as well). Mind it, the requirement here is to “Report”. In other words, investment overseas per se will not lead to payment of additional taxes in India, however, reporting is required. Earlier, this was not a requirement, and may be this is one reason why it may be going oversight while filing tax returns. It was in the year 2015 when the requirement of reporting of Foreign Assets was introduced for the first time vide Notification No. 41/2015 dated April 15, 2015, as issued by CBDT. Further, the income earned from such investments (whether rental income on a property or the interest yield on an EB5 investment) is also reportable. This reporting is required on an annual basis whenever interest is earned from the Regional Center. Hence, reporting the initial investment, as well as the nominal rate of interest earned on that investment, whatever that be, both are compulsory. Failure to report will not only attract penalty provisions under the Income Tax Act but also bring you to the limelight of ED as there is a foreign transaction involved.
Reporting in India is briefly mentioned above. Let us now look at reporting requirements in USA. Firstly, bear in mind that IRS considers residency on the basis of physical presence (substantial presence test, abbreviated as SPT) or on the basis of one having a permanent residency, which needless to mention includes but not limited to anyone having a green card. The concept of residency is different for immigration purposes vs tax purposes, and at some point, a professional would really need to understand the both if the correct course of action is to be adapted. E.g. If Mr. Pillai had filed for EB5 (co-applicants being his wife and their son studying in USA), then he is NOT a US PERSON in the eyes of IRS all the way till the gets his GC. Mr. Pillai may get the I-526 approval, and at that point, his son may have moved to OPT, but that doesn’t change anything as long as the approved I-526 does not materialize to green card (note that conditional GC vs permanent GC is a difference created under the immigration systems; for IRS, the issuance of conditional green card will suffice the test and hence receipt of CGC will lead to fulfilment of the green card test, 100% positively). On one hand, Mr. Pillai is a not a US Person, but on the other hand, the regional centre would be with-holding tax on interest payments @37% (this can be verified from Form 8805 issued by the RC, always ask for a copy). This is an uncanny situation and there are various points to consider here. I am not going to touch on all the aspects and solutions thereto but we can discuss some of the key data points. From the point of receipt of first interest income up till the point of getting conditional green card, Mr. Pillai needs to file Form 1040NR (this is the specified tax return form for filing by non-residents). However, if Mr. Pillai had applied in his son’s name (who is studying in USA as given in the facts above), then there would be additional requirement as well, over and above Form 1040NR. Do note that in either case, ITIN or SSN is a must without which filing is not possible. The issue now is how to get an ITIN when someone is overseas. Well, it is possible. One of the primary documents to get the ITIN is a certified copy of your passport (by certification, it does not refer to true copy or notary as people would have heard in India; it refers to getting attested by US Embassy offices in India).
One question that I am often asked is why does one have to file a tax return when tax was duly withheld by the Regional Centre. The clear answer to this is that IRS requires NRs to file Form 1040NR notwithstanding the fact that tax was already withheld. This is because income received from a RC is classifiable as ECI (Effectively Connected Income). This gets perplexing even for tax attorneys because ideally interest income would go under FDAP (FDAP stands for fixed, determinable, annual, periodical); however, note that it is not because the EB5 income an investor receives is not a typical FD kind of income, rather it is kind of a share emanating from the investment, whether in lieu of profit or otherwise. Hence, one will compulsorily have to classify the incomes so earned under ECI, and the moment it is ECI, filing becomes mandatory by nature (irrespective of whether you a resident or a non-resident, irrespective of whether you had $1 income or $1,000, irrespective of whether you have a SSN or not, irrespective of whether tax is already withheld or not, and irrespective of whether this is your very first year of investment or subsequent; nothing would matter; filing is mandatory, period).
People are often curious to know if they will get a refund of tax withheld on filing 1040NR tax return. Certainly yes! But one would need to keep in mind that the first step in the process is to get an ITIN (one should opt for an ITIN only instead of SSN unless you are already in USA). Once ITIN is received, then tax returns can be filed with IRS and following which one can expect return of excess tax withheld. The good thing is that ECI income is taxed at graduated rates, which means that if you earned $1,250 of interest income in any given calendar year, then more than two-thirds of the tax withheld on such income would be refundable to you after you file the tax return. Further, a point to note here is that belated returns are allowed in USA. Even better is that there wouldn’t be any penalty even if you filed a belated return as the corresponding tax on your share of income from RC would have already been subject to withholding (TDS as we call it in India). It is a great relief as compared to India where keep the penalty aside, one is fundamentally not allowed to file a return after 12 months have elapsed. For all those investors who are now realizing that they didn’t file Form 1040NR for all the calendar years since they invested, then do note that you can still file it and also claim a refund for the excess tax withheld by the RC. If you do not file, then remember you are not only failing on tax compliances as required by IRS but also digging a hole for your immigration plans.
Once you decide to file 1040NR, there are a few house-keeping areas one would have to manage if you are an EB5 applicant living outside USA. The very first step of application for ITIN is going to be a bit cumbersome because you need certified passport photocopies by certain type of agencies only. Unfortunately, none of this will happen online unlike India, where PAN (closest equivalent to ITIN) could be easily applied online. Well-coordinated efforts are required here; this is because each international courier itself costs a little over INR 2,000 and takes a week to deliver. So, you want to sign everything and be a step ahead in lining up forms with the next steps and ensure all is couriered at a go. Note that if you apply for ITIN alongside 1040NR then electronic filing option is not available. So, the two options you have are to go half online and half offline; or one step offline, and subsequently everything online; I prefer the latter. There is one more aspect to manage here which is the inability of an EB5 applicant to get refund in his Indian bank account on tax withheld in USA but this is legally manageable by taking a side road.
Other than the filing requirements mentioned above from IRS perspective, an individual who has moved to USA (whether in lieu of his EB5 application or who was in US even otherwise), would also need to file FBAR (Report on Foreign Bank and Financial Account). Do note that FBAR has nothing to do with Form 1040 or Form 1040NR. The former is filed with Department of Treasury, the latter with DIRS. One needs to file FBAR if at any point of time, during each respective calendar year, he/she had an account balance in a bank or in any other specified financial account of more than US$ 10,000, in aggregate. The words in aggregate are critical here. Have a look at the below example:
In the above case, Mr. Mehta will be liable to FBAR reporting for the year 2020. Each of the above will qualify towards the prescribed limit of US$ 10,000. Example is given above to elaborate specifics which are commonly witnessed in our practise. Following can be concluded from the above example:
Essentially, good number of people will get covered for reporting unless they are not maintaining active investments / balances in India under their own name. Penalty for wilful non-filing goes up to US$ 100,000 or 50% of the account balance and/or criminal penalty of up to US$ 250,000 or 5 years of imprisonment. This penalty can be applied for each year during which FBAR is not filed. Do note that FBAR is a calendar year reporting item and must be received by the Department of Treasury on or before April 15 of the following year.
In addition to FBAR, an individual being a resident in US must file Form 8938, Statement of Specified Foreign Financial Assets. The assets that need to be reported include but not limited to the following:
The data fields sought for in Form 8938 resemble a bit to FBAR and often confused. They are two separate forms with separate penalties for non-compliance. What happens if one doesn’t file Form 1040NR or FBAR or Form 8938 any such other form as required? Answer:
Moving to the last portion of this white paper, which is slightly beyond the scope of this article due to the sensitivity involved, nevertheless, let me take the liberty to write on a few things in relation to the cross-border play between India & USA tax regulations. If you have assets in India, & once you have a green card, your worldwide income has to be surrendered for tax in USA. The first question that everyone is often found confused with is the “starting date” of taxability in US on world-wide income. For e.g., Mr. Singh received I-526 approval in Nov 2018 and his entire family cleared Consulate Processing in Feb 2020. He received duly stamped passports from Mumbai Consulate in March 2020. As some of you would be aware, post the consulate interview, there is a specified time period within which it is mandatory to land on US soil in order to get the conditional residency validated. Mr. Singh accordingly decided to enter USA on 10th June 2020. In this case, and presuming no other contrary facts are available, Mr. Singh’s world-wide income will have to be surrendered to tax in the US immediately starting 10th June, 2020.
There is a situation of “split-year” for first time green card holders, more so when you are moving from an alien country to USA and becoming a green card holder from day one. This is unlike other naturalization routes; for e.g. Mr. Patel has been living in USA, on H1B, for last 6 years, until on one fine day when he got married to an American citizen leading to an immediate change of his status. For a situation like this, there is no question of “split year” because Patel was liable to world-wide tax even otherwise (i.e. even before he got the green card status as he had met the substantial presence test earlier as well). However, for someone flying from India, who is an absolute non-resident for tax purposes under IRS, suddenly (in middle of the year), becomes a tax resident in US. In such cases, the concept of split year has to be applied and which means that all the incomes arising before the point of ripening of green card can be legally & officially avoided from the tax net of IRS. Thus if one has received an I-526 approval then the first thing you want to do is to assess your existing investments in India, including but not limited to your share in any partnership firm, mutual funds, stocks, fixed deposits, real estate, incomes in the form of rentals, dividends, and any expected share in legacy from your side of from the spouse’s side. There is NO PLANNING that one can legally do after the conditional GC stamp is validated on passport; hence, one must carefully evaluate the tax liabilities before making the first entry in USA post consulate interview. This same concept applies for students as well who are lead applicants and who are expected to do AOS. However, students generally do not have any of the aforementioned incomes or asset classes; hence, pre-immigration planning is not much required in the case of children unless they own sizeable assets.
It is common to see that applicants who have their I-526 approved, as well as green card stamped (CGC), are not immediately moving to the States. They normally tend to spend a minimum of year to two years before winding up in India. This leads to an uncanny situation because such individuals will tend to be classified as “resident” for tax filing purposes in India, as well as in USA, for the same year. This situation arises because India classifies an Individual as a resident vis-à-vis not a resident on the basis of number of days of stay in India; whereas US classifies an individual as a resident vis-à-vis not a resident on the basis of residency status (green card in this case). Planning is thus important prior to the receipt of I-526 approval, and in no case later than consulate processing.
Lastly, once you have got the conditional green card, there are a few things to keep in mind. Agricultural land, as an example, enjoys remarkable tax exemptions in India. The income earned from agricultural activity as well as capital gains on sale of agricultural land are both 100% tax exempt; however, not so in US. Likewise, dividend from investments in listed securities is taxable only in certain situations and at a nominal rate in India; however, not so in US at discounted rates. Hence, while one may still be able to claim credit of taxes paid in India (Form 1116 is to be filed with IRS for claiming credit of taxes paid in India) while filing returns with IRS in US, the resultant net taxability would be on higher side unless a well thought execution is planned in advance.
Author is the Managing Partner at R K Doshi & Co LLP, Chartered Accountants. This article is meant for the purposes of knowledge sharing and is in no way a professional advice or a legal opinion.