Tax Refund for Nonresident Aliens - Case Study Example

Tax Refund for Nonresident Aliens ABSTRACT A major portion of cooperative education assignment was utilized to understand the main causes of refund issues related to nonresident aliens. It has been noted and mentioned by IRS that substantial amount of money is lying with IRS unclaimed. The purpose of this paper is to understand the causes behind that and complexities involved. For a large number of nonresident aliens are not aware about the necessity of filing a tax return. Mostly are under the impression that since taxes are deducted by their employers while remitting their salaries to them, their statutory liability is over. Very few are aware that they are overpaying the taxes. Credits and deductions that they are eligible for either under bipartite international treaty or under US laws are not being properly utilized. The main reason is their limited understanding regarding US tax laws and secondly many of them do not file the returns. No filing of the returns means no possibility of any refunds. The endeavor has been to understand these complexities, which has piled up unclaimed overpaid taxes with IRS. It would be appropriate to note that in view of vastness of the subject effort has been put toward depicting the main issues in a generalized way rather than any specifics to the issue involved. Dates of Co-op Assignment: August 30 -December 9, 2010 Project Overview: Majoring in finance, I chose my topic in the field of finance and on aspects of Tax Refund. This paper is regarding the tax refund issues related to non-resident aliens staying in US. The following were the main tasks in which I was involved during my co-op work period. Researching various tax refund issues/problems related to non-resident aliens. Interaction with clients for the preliminary details of their tax returns Entering all necessary data related to tax returns in forms. Assist in preparing Income statements, cash flow statement, and balance sheets for small partnership companies. Description of the Project on Issues Related to Tax Refund: On interaction with many non-resident aliens, I came to know that many of them were not very clear on various tax related matter, on personal income taxes. They belonged to the varied nationalities. They were not aware about some important US tax requirements. At times, they do not file tax returns or filed them incorrectly, which results into lot of overpaid tax and substantial amount goes unclaimed in refund. My discussion will progress on above lines in subsequent pages. Taxation of Nonresident Aliens: IRS site describes the definition of NRA as under. “An alien is any individual who is not a U.S. citizen or U.S. national. A nonresident alien is an alien who has not passed the green card test or the substantial presence test.” (IRS 2010) Claiming a Refund or Benefit NRA must file a return if they want to get deductions /credits or want to have refund of over withheld tax. Without filing return they can never have their legitimate refund of overpaid taxes. Statutory Requirements: There are certain statutory requirements outlined by IRS, which can be listed as under. • Non-resident visa holders who are working in the US – including students and visitors – are statutorily required to file a US tax return if their earning exceeds US$3650 in 2009 or 2010. • Those people who have come under non-resident visa (J, F, Q or M category) in the US they are statutorily required to file a 1040NR Tax Return in physical form. These are known as US non-resident income tax return. They cannot file e-return or on line returns. Even more important thing is that if they fail to comply and filing their tax return then that can affect their future US visa applications. For H1B Workers: H1B visa falls in the category of non immigrant visa. If H1B visa holder is recognized as Resident alien then he is required to file the tax return like any other US citizen, otherwise they are required to file 1040NR tax return form only. Nonresident Aliens’ Limited Understanding: It has been found that most nonresidents miss to file a return or file it incorrectly. It has been further noted that there is a large amount of unclaimed taxes by nonresidents who refrain from filing tax returns. They are under the impression that since employer have withhold tax amount their obligations are over and they are not aware that they have paid more than what is required by the law. Understanding Basic Taxation Requirements In US accounting year runs from 1st of January through 31st of December. Anyone who worked and earned income in the US in any accounting year must file their federal and state tax returns latest by 15th of April of the following year. In case, if the person received only scholarships and no any other income during the year then they must file their federal tax return by 15th of June in the following year. US Social Security Taxes All immigrants are liable to pay US Social Security taxes if they earn while in the U.S. Those who are on J, F, M or Q visas are exempted from paying social security taxes and only if they are in US for the work pertaining to their learning or teaching program. This exemption is granted to only primary visa holders and their children and spouses are not granted that exemption. Those persons who are in US under E, H and L visas are liable to pay Social Security taxes. Nonresident Aliens’ Resident/Nonresident Status Why it is important to know Residency Status? It is essential for these classes of visa holders to know residency status for US tax purposes. It is quite possible that someone is qualified as a resident for tax purposes but that person is recognized as a nonimmigrant alien from the view point of immigration purposes. A nonresident is required to pay tax only on the income generated from US and depending upon his origin country's treaty with US, a specific rate is applicable. In case, if person’s status is a resident for tax purposes then treatment is the same as for any US citizen. It means that any income earned outside US will also be taken into account while calculating tax. How to determine Residency Status There are two tests for determining status of resident or nonresident alien. a. First test is a green card test. b. Second one is the test establishing substantial presence. The Green Card Test If Immigration office has issued an alien registration card and granted a permission to stay and reside in US permanently then a person is known as green card holder. If someone receives permanent residency status any time during the year, he is considered resident for tax purposes from that point onward. However, for the portion of the year when he did not have residency status, he will be called to have nonresident status. In short, he falls in the category of a dual status. The Substantial Presence Test The person is required to be present physically in the US if he/she has to pass substantial presence test. If the person does not hold an M, F, J, or Q visa for at least: 1. During the current year, if person is present for 31 days and 2. In the current year and the preceding two years if person is present for 183 days. How Exempt Individual is defined? An exempt individual is the one who is yet to pass the substantial presence test. It does not mean that he is exempt from tax. If the person is an exempt individual then it means he is a nonresident alien or until the person obtains a status of permanent residency. The person is usually in this category as per the following conditions. Trainee or Teacher If the person is a trainee or teacher in the US on a J or Q visa temporarily and he/she has been present in the US not more than two years in last six years then he/she will be notified an exempt individual. For example, let's say a person has entered the U.S. on December 8, 2006 as a trainee on F visa, and staying in US until today. He/she is exempt from the substantial presence test for 2006 and 2007, but they all will be counted in 2008 and later years. That means if a person was a nonresident alien in 2007 and 2008. But if the person was in the US for at least 183 days in 2008, he will be called a resident individual for US tax purposes in 2008. He will be called so until he leaves the country. If the person is a student temporarily in the US on an Q, M, F, or J visa, and he/she has been present in the US for not more than five years then he/she will be called an exempt individual. For example, if the person entered the US on June 24, 2003 as a student on an F visa, and has been in US until 2008. The person is a nonresident alien for 2003, 2004, 2005, 2006 and 2007. If the person stays in the US for at least 183 days in 2008, he/she will fall in the category of a resident for tax purposes in 2008. Aliens with Dual-Status When the person enters the country and obtains a status of permanent residency. In short, he/she receive a Green Card during the year. When the person holds an F, J, M, or Q visa partly in the year and receives a status of permanent residency during the year. When the person holds an M, F, J, or Q visa partly in the year and changes to other status then he is eligible to pass the substantial presence test. If the person leaves the country, he/she will have a dual-status alien if he/she has left the US permanently. A dual-status taxpayer is not eligible for standard deduction and is not allowed to file a joint return with spouse. He/she is required to file return in the Form 1040NR or Form 1040NR-EZ writing "Dual-Status” at the top. He/she is also required to include Form 1040 with his/her return showing the income and deductions for that part of the year when he/she was a resident. He/she will mention "Dual-Status Statement" at the top. Having seen nitty-gritty regarding resident and nonresident status, I delve into the refund aspects. IRS states that 80 percent of tax payers do get refund on filing their tax return. After all it is the document that gives information of person’s income and his/her admissible deductions, which calculates person’s liability towards tax office (read IRS) IRS usually makes that year’s tax forms available in PDF format on their site latest by December each year. All IRS tax forms and necessary instructions are searchable by name at the website. It will not be found in a single listing at the IRS website; however, it will be required to search in the Forms sections for the form that we need. Deductions Admissible to Nonresident Aliens Standard deductions IRS site clearly states that nonresident aliens cannot claim standard deductions. However, students from India can claim standard deductions. It reads as under. “Nonresident aliens cannot claim the standard deduction. However, students and business apprentices from India may be eligible to claim the standard deduction under Article 21 of the U.S.A.-India Income Tax Treaty.” (Nonresident Alien - Figuring Your Tax 2010) Other deductions Nonresident aliens get deductions if the income generated is associated with their US business. These deductions include: Local and State income taxes Casualty and theft losses Charitable contributions to US on-profit organizations All necessary expenses related to a business. Itemized deductions (Deducting Business expenses IRS 2010) Gross Income The following adjustments to gross income may be claimed by Nonresident aliens, if they qualify for each adjustment: (Nonresident Alien - Figuring Your Tax IRS 2010) Fellowship and Scholarship Grants excluded from income Applicable Penalty for early withdrawal of Savings Moving Expenses Student Loan Interest Deduction Health Savings Account Deduction Self-Employed Health Insurance Deduction Domestic Production Activities Deduction Self-Employment Tax Self-employment tax is not required to be paid by Nonresident aliens. Other Reasons for Refund: There could be many other reasons for having a refund for nonresident aliens, which can be listed as under. Anybody who has more than one job at a particular time and he/she did not inform to employers than there is all chance that person has overpaid to IRS. In this situation refund is possible. Depending upon tax treaty between US and originating country, person is eligible for tax refund, which he/she paid while working. Temporary workers like J1 visa holders are not supposed to pay FICA (Social security and Medicare) tax but sometimes, it may have been deducted by employer. FICA tax charged is 7.65% and this case refund is possible. Small Business Returns and Refund: It has been found that small business firms often fail to claim legitimate expense deductions, which they are authorized to. Small business owners if they deduct proper expenses, it will have an impact not only income tax but also on self-employment tax. Quickbook program is a good way of keeping track with all business expenses. While calculating small business income, one can deduct all the expenses required to conduct the business. Briefly, it can be mentioned as under. (Deducting Business expenses IRS 2010) The business expenses can be divided into two main categories: a. General business expenses b. Specific to the small business General business expenses means cost which are common for most small businesses, such as any operating costs associated with the office space. Specific expenses are those, which are associated and necessary to conduct that specific kind of small business. Understanding of this helps to generate correct income statement by applying true and correct business expenses in an appropriate heads. That is how the correct return for small firms is submitted, which in turn helps to generate refunds from IRS. Quickbook Software Program: In an era of information technology, it has been imperative to make use of some software which can quickly work out the solutions. Meky accounting has very good software program, namely Quickbook, which can work out the tax applicable taking into consideration various credits/deductions allowed to different class of visa holders such as F, J, M, or Q type among nonresident aliens. It also has a full-fledged checklist so that there is no chance of missing something while filing the returns. The software is periodically updated as per the revisions put forward by IRS taking into account the latest guidelines. Quickbook is also suitable for calculation of profit and loss account of small firms. It also gives cash flow statement of the company and prepare complete balance sheet. The software is user friendly but it requires a good understanding of accounting principles such as debit/credit entries related to expense/income part in an appropriate heads. Thus, data entry is an important task for making the correct and full use of Quickbook program. The program is also capable of giving graphical analysis with reference to several financial ratios such as debt/equity ratio, net worth, total wages and salaries paid utilities consumed, and Gross Profit Margins in percentage etc. Quickbook is also programmed to deliver the variable and fixed costs of the operations of an organization. Such calculations come handy for decision making and to ascertain what costs are hampering the profit of organization. Understanding the fixed cost of an organization is important for it helps calculate the break-even point of operations. Thus, with the help of quick book, I also understood how the clients can be given good guidance on operations of their company. As in today’s competitive world, every client is interested in improving the profitability of their organization. In short, with the help of quickbook and through interaction with customers, I learned a lot in various financial matters. Description and Evaluation of the Work experience: Organization: I worked with a firm called Meky Accounting. The firm is in operation for last 7 years. It is a small sized firm with the employee strength of 5 persons including one supervisor. That being a small sized firm, there is no departmental segregation of work within the company. I used to work there for twice a week. That was each Tuesday and Thursday in a week for about 7 hours. The firm had 6 PCs and one printer to carry out day-to-day work. It also had one scanning machine for scanning physical documents. Job Satisfaction: I would certainly call it a satisfying work experience. My supervisor, Amal Azir, taught me great lessons on accounting aspects. From the very first day, my experience was exhilarating. Everybody was happy to see me for this internship on my first day. They introduced themselves with a pinch of humor. As my internship progressed, my involvement increased and with that my job experience too. Overall, it was a good feeling being in that organization for short duration. Relevance of Work Experience: Mostly my assignments were related to my field of study, that is, tax related aspects like filing individual returns and various technicalities for full and quicker tax refunds. There is so much nitty-gritty involved with tax related aspects and that was my internship topic so I took a lot of interest in it and learned a lot from Azir my supervisor. Working here I consolidated my interest in finance and accounting aspects of a business in general and tax related matter in particular. Majoring in Finance these areas are going to be my principal work area in future in which I would like to increase my expertise and achieve greater heights in terms of excellence. I also learn on many crucial aspects of preparing balance sheets of many small firms covering assets and liabilities of the firm, which has an impact on their tax liabilities. Responsibility: My timings were from 8:30 A.M to 3:30 P.M in the evening. Other office staff used to join at 9:00 A.M. Initially I concentrated on tax related aspects. Understanding many frequently asked questions on tax matters was my priority for that will lead me to many crucial aspects of whys and hows. I also took interest and assisted other colleagues in preparing Income Statements, Balance sheet, Cash flows. After initial lessons, I did prepare many cash flows from available Income Statements and relevant material of the various organizations. Amal gave me many assignments on tax matter of individuals that how to file up forms and attach relevant documents. It was equally important to know about refund aspects of the federal tax for what are those conditions in which refund is awarded to assessee. I used to work on computers in Excel sheet for entering necessary data, its cross verification, its authenticity and necessary math calculations. Using Quickbook software program and how to add data in it was my one of the major responsibility. Later on, I also carried out preliminary discussion with client on these aspects for why they should come to us. On what grounds they are likely to be eligible for tax refund. How they can be benefitted. In short, to convince the client on these aspects and to make them a prospective customer of Meky also became my one of the important responsibility. Amal gave me many other responsibilities like analyzing balance sheets for greater learning on finance such as debt-equity ratio, net worth and to understand the tax liability of the small companies. Living Arrangements: Meky accounting used to be on 30 minutes drive from my home. Though at times it used to be tiring but still I consider myself lucky from not being away from my home for a long duration. Though I did not get any pay from Meky but working for 200 hours in this internship will get me 2 credit points in my school that will help me a lot in earning my graduation. On my spare time I used to visit Nobel Library for reading journals and magazines on tax related aspects. That helped me a lot to enhance my understanding and knowledge on my main topic of internship namely tax refunding. Social and Cultural opportunities: I did get reasonable time for my social activities meeting my friends. We always had good interactions once in a week and knowing about each other’s activities. Conclusion: Finally, I can state that I really enjoyed learning at Meky Accounting with the support of my supervisor Amal Azir and other staff members. It provided me a great opportunity to sharpen my skills in taxation and finance related matters. Overall, It will help me a lot to build my career in accounting and finance in general and tax related matter in particular. Bibliography and References: 1. Instructions for Form 1040NR online. from http://www.irs.gov/pub/irs-pdf/i1040nr.pdf [Accessed on 11/22/2010] 2. Aliens - Which Form to File. online from http://www.irs.gov/businesses/small/international/article/0,,id=129232,00.html [Accessed on 11/22/2010] 3. Taxation of Nonresident Aliens. online from http://www.irs.gov/businesses/small/international/article/0,,id=96477,00.html [Accessed on 11/22/2010] 4. Deducting Business expenses. online from http://www.irs.gov/publications/p535/ch01.html#en_US_publink1000208606 [Accessed on 11/22/2010] 5. Nonresident Alien - Figuring Your Tax online from http://www.irs.gov/businesses/small/international/article/0,,id=96467,00.html [Accessed on 11/22/2010] Read More