In light of recent hardships imposed as a result of the COVID-19 pandemic, the US Internal Revenue Service issued guidance, providing relief to those impacted by travel and related disruptions for certain purposes under the US Internal Revenue Code as well as under various double tax treaties.
On April 21, 2020, the IRS published Revenue Procedure 2020-20, Revenue Procedure 2020-27, and an FAQ published on the IRS website (the "COVID Guidance"). The COVID Guidance excludes certain days (generally in the US) when making determinations with respect to (i) US tax residency, (ii) the US taxation of certain non-US businesses and (iii) the availability of limited treaty provisions.
As a preliminary matter, it is important to note that individuals and entities classified as US persons,[1] ("US Income Tax Residents") are subjected to US federal income tax on worldwide income and, in many cases, required to make extensive informational filings on worldwide assets. Non-US persons, on the other hand, are only taxed on certain US source income (generally, (i) income effectively connected to a US trade or business, (ii) most direct and indirect gains on US real estate and (iii) certain US source investment income).
The COVID Guidance could apply to determinations of residency and whether there is a US trade or business in 2020 over the relevant time periods. There is also relief available to certain expatriates who are unable to exclude certain foreign earned income from US taxation due to their inability to travel from the US.
Generally, an individual may become a US Income Tax Resident during the first calendar year in which they satisfy either the "green card test" or the "substantial presence test." An individual will satisfy the green card test if they obtain a US green card.
Although limited in scope, the COVID Guidance will be of great importance to impacted taxpayer's as the provisions of such guidance go to whether or not and the extent to which income is taxable, and the impacts apply to both US Income Tax Residents and non-US persons.
Residency determinations
In addition to US citizens and US green card holders, individuals that spend a sufficient number of days in the US during an applicable tax year and the two preceding years may become US Income Tax Residents under a test called the "substantial presence test".[2] The substantial presence test is satisfied if an individual is both (i) present in the United States for at least 31 days during the calendar year and (ii) the sum of all days present in the United States in the current year, plus 1/3rd of the days present in the United States in the immediately preceding year, plus 1/6th of the days present in the United States in the second preceding year, equals or exceeds 183 days.
Importantly, under the substantial presence test, certain days are excluded from this calculation. Generally, days spent in the US as a qualifying foreign government official, teacher or trainee, fulltime student, or professional athlete temporarily in the US to compete in a charitable sports event (subject to limitations), do not count under the substantial presence test. In addition, days spent in the US when an individual intends to leave but is unable to leave because of a medical condition (that develops while in the US) are also excluded (the "Medical Exception"). The Medical Exception, in particular, is more limited than it appears as it does not cover pre-existing conditions, individuals that travel to the US to receive medical treatment, and individuals that do not leave as soon as practicable once the underlying medical condition has been resolved.
Rev. Proc. 2020-20 expands relief under the Medical Exception to individuals who do not have COVID-19 but may have been or become severely restricted in their movements due to orders of government authorities, canceled flights, and other disruptions (including, shelter in place orders, quarantines, and border closures). Additionally, the IRS recognizes that even those who can travel may feel unsafe doing so. As a result, an individual who is present in the US but intended to leave the US and is unable to do so may choose to exclude a single period of up to 60 calendar days under the substantial presence test. The 60 day period must begin on or after February 1, 2020, and on or before April 1, 2020. During this period, the individual must be physically present in the US each day.
Presumably, individuals that actually contract COVID-19 would satisfy the existing standards for the Medical Exception.
Note, that this exception does not apply to any individual who was (1) a US Income Tax Resident at the close of the 2019 tax year, (2) a green card holder or lawful permanent resident at any point in 2020, or (3) a US Income Tax Resident due to meeting the substantial presence test due to days outside of the 60 day period.
One could query as to why this relief applies only for a 60 day period as travel restrictions, at this point, have been in place for much longer.
Expansion of Foreign Earned Income Exclusion
As US Income Tax Residents include US citizens and green card holders, many individuals fall into the US tax net even though they live for an extended period of time outside of the United States. For this reason, US Income Tax Residents who have a tax home in a foreign country and are bona fide residents of a foreign country (or countries) for an uninterrupted period that includes the entire tax year or 330 days during any 12 month period, may exclude certain foreign earned income and housing allowances from their US taxable income (for ease of reference, collectively referred to as the "Foreign Earned Income Exclusion").[3]
The Foreign Earned Income Exclusion is generally expanded to individuals who leave the country in which they are a bona fide resident because of war, civil unrest, or similar adverse conditions that preclude the normal conduct of business. This requires a determination by the US Secretaries of Treasury and State that such individuals were required to leave as a result of such conditions.
For 2019 and 2020, Rev. Proc. 2020-27 provides that COVID-19 is an adverse condition that precludes the normal conduct of business for these purposes. With respect to the People's Republic of China (excluding Hong Kong and Macau), it applies as of December 1, 2019, and globally as of February 1, 2020. The period will end on July 15, 2020, unless further extended by the IRS. For example, a US Income Tax Resident living in China that left China on or after December 1, 2019, and returned on or before July 15, 2020, will still be eligible for the Foreign Earned Income Exclusion, provided all other requirements for the exclusion are met.
One would expect this provision to be extended if COVID-19 comes in waves over some period in the future, as some people believe is likely.
US trade or business relief
Third, the IRS released guidance in the form of a brief FAQ on their website providing that a nonresident alien or foreign corporation (directly or indirectly through a partnership) may choose an uninterrupted period of up to 60 calendar days, beginning on or after February 1, 2020, and on or before April 1, 2020 (the "COVID-19 Emergency Period"), during which services or other activities conducted in the United States will not be taken into account in determining whether the nonresident alien or foreign corporation is engaged in a US trade or business. Note that this exception is contingent on such activities being performed by one or more individuals temporarily present in the United States and that such activities would not have been performed in the United States but for COVID-19 disruptions.
Additionally, the IRS provides that during the COVID-19 Emergency Period, the services or other activities performed by individuals temporarily present in the US will not be taken into account to determine whether the nonresident or foreign corporation has a permanent establishment which is the analogous concept under double tax treaties, provided that the services or other activities of these individuals would not have occurred in the United States but for COVID-19 disruptions.
Expanded treaty relief
The US trade or business and permanent establishment relief provisions of the FAQ dovetail closely to an additional provision of Rev. Proc. 2020-20 which expanded treaty relief to individuals working for a non-US company in the US. Many double tax treaties allow an individual who is an employee of a company of the other contracting state to work in the US for a period not to exceed 183 days without having such income subject to US taxation provided certain additional requirements are met (for example they can't otherwise be a US Income Tax Resident, and the employer cannot otherwise have a permanent establishment in the US under the terms of the treaty).
Again, the COVID Guidance extends the time an individual can be in the US and still qualify under such treaty provision.
Oddly, nothing in the COVID Guidance seems to provide relief under the analogous provision of US domestic law whereby a non-US person can work for up to 90 days in the US without causing the employer to have a US trade or business.
Summary
The COVID Guidance provides substantial relief to taxpayers as a result of certain individuals being stranded (or restricted from travel) due to the COVID-19 pandemic. The guidance provides relief for (i) US residency determinations, (ii) US trade or business or permanent establishment status, and (iii) for US expatriates who wish to make use of the Foreign Earned Income Exclusion. However, the guidance is restrictive in its current form and overlooks some analogous tax issues, individuals that have been present in the US for extended periods of time during 2020 should consult a US tax advisor in such circumstances.
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