Tuesday, August 12, 2014

Simplifying your US investment taxation for Americans living in Spain

If you are thinking of living in Spain and have an investment account that you want to leave in the US, you may want to think about simplifying your taxation.
If you hold your investments in your own name, you will need to recalculate your taxes once for the US, then do the same thing again for Spain, apply the US-Spain tax treaty, pay some amount in Spain and some in the US. In addition, for some assets there may be differences in how they are treated in terms of recognition of gains, so you may end up with double taxation.
One alternative is to hold your US assets in a member-managed US-based LLC (Limited Liability Company).For US tax purposes, LLCs pass-through their earnings to the owners, so from a US perspective, there’s no change to your taxation. Since you are a US citizen, you need to declare and pay taxes on this income.
From the Spanish side, you need to make sure that you avoid the Controlled Foreign Corporation rules. A foreign company owned by a Spanish resident is generally exempt (see Article 91) if that company is:
  1. not based in fiscal paradise, and
  2. the company pays (including taxes paid on passed-through earnings) at least 75% of what it would pay if it declared taxes as a resident of Spain.
Since US marginal rates for passive income are generally higher than in Spain, it’s pretty standard to easy to meet for US citizens. If you were not a US citizen you wouldn’t be able to do this since you would not need to pay any US taxes on pass-though earnings, and thus would fail the 75% test.
Although this normally won’t save you any taxes, it could save you a bunch of aggravation. If you want to be fancy, you can fund the LLC though a loan instead of via equity to reduce the book value of your acquisition.


Juan said...

Can you comment on the math?
What passive income are you thinking about? USA capital gains at 15 %?

Are you considering marginal because you are declaring all your earnings in Spain (and also, in the USA, since you have to declare it there as well)?

Juan said...

Can you comment on the math? What kind of passive income you are considering? What about 15% for USA capital gains?

santcugat said...

I'm assuming a mix of interest and capital gains. If it's purely long term capital gains, then you might run into trouble.

Also your marginal rate in the US has to be high enough to make this worthwhile, since the income from the LLC gets added on top of your existing tax bill in the US. In addition you may need to pay the Net Investment Income Tax in the US which is an additional 3.8%.

If you are still connected to a US state that has income tax (such as California), you also need to add that on top.

The idea is once you figure that the LLC partners are paying at least 75% of what you would pay in Spain, then there's no income to declare in Spain (other than the dreaded model 720 asset declaration and wealth tax).

Anonymous said...

Does that mean you don't have to file at all?

santcugat said...

If it's not a controlled foreign company from Spain's perspective, and you have no other income, then there's nothing to file until you sell or dissolve the company. (other than the 720 and possibly wealth tax)

It would be the same if you had everything in a mutual fund and didn't touch it. Spain doesn't have an anti-deferral regime like the US.

Anonymous said...

Is there a reputable tax planning firm or individual that you would recommend for a US person retiring to Barcelona?

Anonymous said...

How about the income from the LLC to its members? Wouldn't a member who is Spanish resident have to declare that income separately in Spain?

santcugat said...

Yes. Normally a Spanish resident would be subject to Spanish taxation on their part of the LLC's income, since this income is not taxed in the US.

However, in the case where the Spanish resident is also a US citizen, the income would be subject to US taxation, and thus could qualify for the Spanish exemption.

Chris said...

First off, thanks so much for the great blog. It's the most informative collection of information for US expats in Spain that I've found.

I'm a US citizen married to a Spaniard an will be moving back to Spain in 2015 (unfortunately I've lived there before to go to school and don't qualify for the Beckham tax because of the 10 year rule).

I'm a partner at an LLC and receive a salary as well as a percentage of the profit as a management fee and a percentage of the profit as an investor.

I plan on starting a consulting entity in Spain to continue my work in Spain and not involve the partnership with Spanish taxes. My salary payments in the US will therefore no longer be paid in the US.

It seems like according to your write up, that the percentage of the profits that are passed thru to me in the US (but not distributed) will be treated as investment income from the Spanish side and thereby have a low tax rate (savings base) vs the high tax rate in the US side (short term capital gains/income) in which case this income is only taxable in the US according to the treaty. Is that the correct interpretation? It seems like all I'll have to do is fill out a modelo 720 with the increase in foreign holdings in the partnership on a yearly basis.

It also seems like since you can carry forward foreign tax credits, the foreign tax credit is much more valuable than the foreign earned income/housing exclusion. Can you just move back to the US for more than 6 months once every 10 years and not pay taxes that year because of all the carry forward tax credits?