As mentioned in our prior post, Even Nonresident Aliens may be Taxable in their U.S.-Sourced Income, a nonresident alien will be liable for U.S. tax if they have income that is effectively connected to a U.S. trade or business (“ECI”). In that post we discussed what ECI is and how it may be generated, but we held off on defining what qualifies as a U.S. trade or business. Unfortunately, the Internal Revenue Code fails to provide us with any real guidance as it does not provide a statutory definition of a U.S. trade or business. Moreover, the Internal Revenue Service has proactively avoided defining the term, as the IRS has stated that they will not make any revenue rulings on the matter. For those of you who are unfamiliar with what a revenue ruling is, it is an administrative ruling that applies the tax code to particular factual situations and may be relied on as law by all taxpayers.
Luckily, however, the Supreme Court of the United States has provided some guidance on the matter. Specifically, the Supreme Court has previously held that a U.S. trade or business is broadly defined as to include practically any regular and consistent activity that is actively executed with a goal of making a profit. The key concept of this definition is that the activity must be profit motivated and some type of economic activity must be involved, as opposed to an activity engaged in urely for personal satisfaction, such as a hobby.
Typically, Courts will use the following factors to determine whether a particular operation rises to the level of a U.S. trade or business; remember, however, that this is generally a low threshold as the term is construed broadly.
- The nature and purpose of the acquisition of any property and the duration of ownership;
- The extent and nature of sales efforts;
- The number, continuity, and regularity of sales;
- The extent to which the taxpayer attempts to increase sales by improving the property and advertising;
- The use of a business office to facilitate sales; and
- The time and effort devoted to sales by the taxpayer.
One thing to note here is that courts have routinely weighed the third factor, of continuity and regularity of sales, the heaviest in making their decision as to whether activities rise to the level of a U.S. trade or business. Nevertheless, this factor may be outweighed by one or more of the other factors.
If you need assistance in determining whether you, your client, or your family business has a U.S. trade or business, and as such is liable for fulfilling U.S. tax obligations, please reach out to us at asenaadvisors.com. We work extensively with global executives, high net worth individuals and global companies in determining their tax obligations and composing beneficial tax plans.