In addition to U.S. Citizens and permanent residents, foreigners residing in the United States are subject to federal income tax requirements if they meet the Substantial Presence Test. Foreigners who meet the substantial presence test are officially considered U.S. residents by the IRS. However, even though a foreigner may be deemed a U.S. resident by meeting the substantial presence test, that individual can bypass their tax reporting requirements by meeting the Closer Connection Exception. To establish a closer connection, an individual must file the Closer Connection Exception Statement for Aliens (Form 8840).
Generally, an alien meets the substantial presence test if he or she were physically present in the U.S. for at least 31 days during the current year and 183 days during the last three years. However, the test is weighted in order to place importance on the individual’s physical presence in the more recent years. As such, all days of physical presence in the current year (2021) are counted, but only 1/3 of the days of physical presence in the preceding year (2020) are counted, and only 1/6 of the days of physical presence in the year preceding that (2019) are counted. For example, if an individual was physically present for 120 days in 2021, 120 days in 2020, and 120 days in 2019, that individual would not be considered a resident under the substantial presence test because the weighted three-year total is only 180 days. The IRS has identified multiple exceptions that do not count as days of physical presence for the sake of the substantial presence test. These exceptions include:
- Days an individual regularly commuted to work in the U.S. from a residence in Canada or Mexico;
- Days an individual was in the U.S. for less than 24 hours while traveling between two places outside of the U.S.;
- Days an individual was temporarily in the U.S. as a crew member of a foreign vessel;
- Days an individual was unable to leave due to a medical condition;
- Days an individual was an exempt individual (i.e., a foreign government-related individual, a teacher or trainee, a student, or a professional athlete competing in a charitable sports event).
Even when an individual meets the substantial presence test, that individual can claim the closer connection exemption upon three conditions:
- The individual was present in the U.S. for fewer than 183 days during the current year;
- The individual can establish that he or she had a tax home in a foreign country; and
- The individual can establish that, during the current year, he or she had a closer connection to one foreign country in which the individual had a tax home than to the United States (unless that individual can establish a closer connection to two foreign countries).
If an individual chooses to demonstrate a closer connection to two foreign countries with respect to the above-mentioned third prong, he or she can do so if:
- The individual maintained a tax home as of January of the current year in one foreign country.
- The individual changed his or her tax home during the current year to a second foreign country.
- The individual continued to maintain his or her tax home in the second foreign country for the remainder of the current year.
- The individual had a closer connection to each foreign country than to the U.S. for the period during which he or she maintained a tax home in that foreign country.
- The individual is subject to tax as a resident under the tax laws of either foreign country for all of the current year or subject to tax as a resident in both foreign countries for the period in which he or she maintained a tax home in each foreign country.
Meaning of “Tax Home” in Context
For the purpose of the closer connection exception, an individual’s tax home is the general area of his or her main place of business, employment, or post of duty, regardless of where the individual maintains a family home. A tax home is where an individual permanently or indefinitely works. If an individual does not have a main place of business, his or her tax home is the place where the individual regularly lives. Additionally, an individual’s tax home must exist for the entire year, and must be in the country which the individual is claiming to have a closer connection with.
When is a Closer Connection Exception Statement for Aliens Filed? (Form 8840)
Form 8840 must be attached to Form 1040-NR, which is the U.S. Nonresident Alien Income Tax Return. Form 8840 cannot be filed after the due date for Form 1040-NR. This due date is generally April 15 for those who are employees that receive wages subject to U.S. income tax withholding or have a place of business in the U.S. The due date is generally June 15 for those who do not receive wages subject to U.S. income tax withholding or have a place of business in the U.S. Extensions can be granted through Form 4868.
Can an 8840 be filed year after year?
An 8840 form needs to be filed annually in order to avoid being subject to U.S. federal income taxation. Accordingly, the substantial presence test will be applied yearly.
Does the IRS have discretion?
The IRS has discretion in determining whether a “closer connection” was established. In order to establish a closer connection, an individual must have maintained more significant contacts with the foreign country than within the United States. The nature of Form 8840 requires individuals to answer a questionnaire to determine whether the individual has maintained these significant contacts. The IRS, among other factors, considers:
- an individual’s regular/principal permanent home location;
- where an individual’s family is located;
- where an individual’s automobiles are located/registered;
- where an individual’s personal belongings are located;
- where an individual conducts business activities;
- where an individual’s driver’s license is registered;
- where an individual is registered to vote;
- what country an individual lists as their country of residence on official documents;
- what country an individual derived the majority of their yearly income from;
- what country/countries an individual’s investments are located;
These factors are not exclusive, and other factors can be considered in a closer connection determination. Additionally, it is unclear whether the IRS places particular importance on one factor as opposed to others.