J1 J2 Non Resident Taxation - Student, Teacher, Researcher, Physician Taxes Explained

[Administrator]

TAX REQUIREMENTS FOR THE J-1 VISA HOLDER


The J-1 visa holder can generally be categorized in one of three categories. He is either a:
Student attending a college or university, usually as a graduate student.
Trainee of some type, either for a foreign business who sent him here to receive specialized training with a U.S.-based corporation, or as an individual undergoing some type of post-college training. Resident physicians and law interns fall into this category.
Researcher, academic or teacher who holds a J-1 visa under a specific provision of the tax treaty between his home country and the U.S.

Each category is treated somewhat differently under the U.S. tax system, so let’s review address each category separately.

THE J-1 VISA HOLDER WHO IS A STUDENT

Though different than a student holding a F-1 visa, the J-1 visa holder is treated exactly the same as a F-1 visa holder when it comes to income taxes.

Both are exempt from the Substantial Presence Test for as long as they are in the United States under their respective J or F visa, which means they will file tax returns as non-resident aliens, filing Form 1040NR or 1040NR-EZ. This exemption lasts for up to five calendar years, which means that a student who arrives in the U.S. on 31 December 2004 burned an entire year of his exemption by arriving on the last day of 2004. The exemption CAN be extended past five years, but the visa holder must show a clear closer connection to their home country in order to claim the exemption past the five year deadline. Since, in most cases, it is more advantageous to file as a resident alien, very few F-1/J-1 visa holders seek to show the closer connection.

This exemption from the Substantial Presence Test does NOT mean you are exempt from paying income taxes. Quite the contrary! Non-resident aliens pay taxes at the same tax rates as resident aliens, but only on income that is U.S.-sourced. Income earned in a part-time job is subject to federal income taxes because the income was earned within the United States borders. Dividends paid on U.S. stocks are also U.S.-sourced income which is subject to income taxes, often at rates HIGHER than what U.S. citizens pay (the exact rates are usually determined by tax treaty). Further, most states do NOT ABIDE by the federal tax exemptions afforded to non-resident aliens. As far as the states are concerned, you are a taxpayer equal to the U.S. citizen who lives in the apartment next to you, and you will pay the state income taxes at the same rate as they do.

Additionally, non-resident aliens cannot claim many of the credits or deductions that are available to resident aliens. Some of these non-available credits or deductions include the Earned Income Credit, the education credits (such as the Hope or Lifetime Learning Credit or the tuition deduction), the Child Tax Credit for your dependents (unless your dependent is a U.S. citizen), and the itemized deductions for home mortgage interest and for sales taxes paid. Further, most non-resident aliens cannot claim the Standard Deduction; they must itemize! However, this sometimes works in your favor; more on that later. Most non-resident aliens find that the biggest disadvantage is not being able to claim the education credits, because most foreign students are bearing rather large tuition costs, yet they cannot claim any of the educations credits on their annual tax return. Finally, if you cannot claim these exemptions on your federal tax return, most states will not allow you to claim them on their state returns as well.

There are, however, some advantages to being a non-resident alien. Most of the time, the interest earned on savings accounts, certificates of deposit and checking accounts at the local U.S. bank is exempt from federal taxation for non-resident aliens, because this income is NOT considered to be closely connected to a U.S. business. Further, if you come from a country that has negotiated a treaty exemption (often as high as $10,000, but usually in the $2000-to-$5,000 range), that treaty exemption almost replaces the standard deduction (which will be $5,450 for 2008). The non-resident alien can then claim the itemized deductions (the largest of which are the state and local income taxes withheld from their salaries) in addition to the treaty exemption noted above. The end result is that the non-resident alien who works and lives in states that have a state income tax (most notably California, New York and Massachusetts) gets a larger tax deduction than the resident alien who can only claim the $5,450 standard deduction.

However, by far the biggest advantage for the non-resident alien is the exemption from the Federal Insurance Contributions Act (FICA) taxes, which consists of Social Security @ 6.2% and Medicare @ 1.45%. Virtually every U.S. citizen and resident alien is required to pay this 7.65% tax on every dollar earned below $104,000. The employer collects these taxes from each paycheck, matches this collection, and sends this money to the U.S. Treasury on a monthly basis. The collection of the 6.2% Social Security tax stops once the individual’s annual earnings hits $104,000, but there is no limit on the Medicare tax. Hence, someone who earns $100,000 in 2008 will pay $6,200 in Social Security taxes and $1,450 in Medicate taxes. A non-resident alien under either the F-1 or J-1 visa pays nothing!

Please note that there IS a time limit on the FICA tax exemption. For the J-1 visa holder who is a student, the time limit is FIVE calendar years. The time limit for the J-1 visa holder who is NOT a student is TWO calendar years.

THE J-1 VISA HOLDER WHO IS A TRAINEE

The J-1 trainee receives all of the exemptions and pays all the taxes that the J-1 student has, with two important provisions:

1)the trainee’s status must be specifically addressed in a tax treaty.
2)The tax exemption and duration of the trainee status must be covered in the tax treaty.

If a J-1 trainee comes to the U.S. and there is NO tax treaty at all, then the trainee gets the same treatment as all other J-1 visa holders, which is:
their J-1 status lasts for two calendar years, during which time they pay federal and state income taxes.
They get NO standard deduction and NO treaty exemption.
They are exempt from FICA taxes for two calendar years.

The key issue is the tax treaty. Please understand that many countries have NO tax treaty at all with the United States. Some country’s tax treaty allow trainees to be completely exempt of all taxes, while other treaties require payment of income taxes with treaty exemptions that range from $2,000 to $10,000.

THE J-1 VISA HOLDER WHO IS A RESEARCHER, ACADEMIC OR TEACHER

The J-1 visa holder who falls into this category can be totally exempt from all federal taxes for a period of time which is set by treaty. However, this exemption is NOT AUTOMATIC. It must be addressed in a tax treaty, which sets the conditions that must be met to qualify and also sets the time limit for the tax-exempt status.

While there ARE differences between the specific tax treaties, there ARE some commonalities. These commonalities are:

The J-1 visa holder must be a researcher, an academic of some type (professor, scholar, etc.) or a teacher.
The J-1 visa holder must be working for either a government (federal, state or local) entity OR a college or university OR a charitable or non-profit organization.
The research being conducted must be for the common good. In other words, research for a private company or corporation that stands to make a profit from the results of the research does not count!
There is a definite time limit to the tax-exempt status, which is usually two years.
There is usually a retroactive tax clause (though this clause CAN be waived), with a mandated return-to-home-country-and-wait period hat must be met in order to NOT invoke the retroactive tax clause. We will discuss this retroactive clause in detail later.

It should also be noted that, in most states, the tax exemption does not apply to the state income tax. Hence, while your income may be exempt from federal income taxes and the FICA taxes, you must still pay the state income tax most of the time.

Another provision to consider is the retroactive tax clause that is contained in many of the tax treaties. This clause declares that, if the J-1 visa holder EXCEEDS the specified tax exemption time limit, then the tax exemption is void and all federal income taxes become due retroactive to the date of arrival.

EXAMPLE: Dr. Patel, a noted Indian professor of computer science, arrives at the University of Michigan to begin a series of lectures and classes on the latest innovations of software engineering. His J-1 visa clearly shows a two-year time limit and expires on August 19, 2008. He arrives on August 21, 2006, and he intends to conduct his lectures and classes for the full two years. Under Article 22 of the U.S.-India Tax Treaty, his $85,000 annual salary from the University of Michigan is exempt from all federal income and FICA (Social Security and Medicare) taxes, though he must file a Michigan state tax return for 2006, 2007 and 2008 and pay Michigan state income taxes.

In early January, 2008, Microsoft offers Dr. Patel a position with their company and sponsors him for an H-1B visa. The visa application is approved effective 1 June 2006, and Dr. Patel terminates his employment with the University of Michigan in June, 2008 and moves to Redmond, Washington to begin working for Microsoft. In this case, Dr. Patel would have to file federal tax returns for 2006 and 2007, filing Form 1040NR or 1040NR-EZ and paying federal income taxes for both years. Additionally, he would be liable for the interest due on the late tax payments; this interest, by law, cannot be waived. He would also be liable for any late payment penalties the IRS may impose, but, due to the changing nature of his tax situation, he could request that these penalties be waived, and the IRS typically will waive these penalties if good cause is given.

Since he was under a J-1 visa, he would still be exempt from the FICA taxes for two calendar years, 2006 and 2007, but he became liable for these taxes on 1 January 2008 (even if he had completed his J-1 visa and returned to India as originally planned). For income taxes for 2008, he would have to file a dual-status return, because he exceeded the 183-day Substantial Presence Test in 2008 when his H-1B visa took effect on 1 June 2008.

Now, had he NOT accepted the Microsoft position, Dr. Patel could have returned to India and paid no U.S. federal income taxes on his University of Michigan salary for 2006 through 2008. Further, he could have delayed his return to India for several weeks while he completed his personal affairs (moved out of his apartment, sold his furniture and car, shipped personal effects back to India, etc.) without violating the two-year provision of his visa. In other words, he did NOT have to leave prior to the 19 August 2008 expiration date of his visa, just as long as his clear intent is to return to India in a reasonable amount of time.

Hope you found the article helpful!

[mexicanpost]

What things can be itemized deductions??

[Visa Taxes Expert]

Hello

The link is comprehensive on IRS Itemized deductions

IRS Itemized Deductions

Hope it helps!

[merc08]

How many times can a researcher/professor on this type of visa claim the federal tax treaty exemption? i.e. if a professor had claimed it some years ago when he was in the US for a period of less than 2 years, and then revisits the US again on a new J visa after some years, will he then again be able to claim the same federal tax treaty exemption?

[Atlanta Tax Guru]

That is covered by the individual tax treaty. If there is NO prohibition contained in the tax treaty, it can be used multiple times, but the IRS requires AT LEAST a one-year return to the home country between such tax-exempt visits.

[merc08]

Got it!! (the treaty I am referring to is UK-US, wherein there appears to be no prohibition. All that it says that the person visiting the other country needs to be a resident in the home country prior to the visit. Thats all). So the 1 year return to the home country will make the person a 'resident' there again.
Thanks a lot for your help!!

[Atlanta Tax Guru]

Glad to help!

[bbene]

I am a Hungarian non-resident research scholar at University of Maryland since June 26, 2008.
Do I have to be a Non-Resident Alien for tax purposes based on the Substantial Presence Test (SPT) test to be exempt from FICA taxes? Do I have to fill the SPT test in 2009 if I have been previously in the U.S. in 2006 for 147 days as a J-1 student, and I spent more than two years back in Hungary before I arrived in 2008 again?

A non-resident alien under either the F-1 or J-1 visa pays nothing!

Or simply I am exempt for two years?

Please note that there IS a time limit on the FICA tax exemption. The time limit for the J-1 visa holder who is NOT a student is TWO calendar years.

If the two year rule is effective, does it mean that I have to start paying these taxes beginning Jan 1, 2010 (the first day of the third CY)?

For 2008 the university did not withhold FICA taxes, but they started withholding social security and medicare taxes since Jan 1, 2009.

Thank you very much for your kind help!

[Visa Taxes Expert]

Hello

As a J1 Researcher, you need not pay Federal and FICA Taxes for a period of two years. During the two year period you are exempt from Substantial Presence Test. You still have to pay State Taxes.

After two years in J1, your exemption ends and you need to pay Federal and FICA Taxes. You need not pay taxes for previous exempt years.

Hope it helps!

[vm78]

Hello,

I read in the original post that
--
"There is usually a retroactive tax clause (though this clause CAN be waived), with a mandated return-to-home-country-and-wait period hat must be met in order to NOT invoke the retroactive tax clause. We will discuss this retroactive clause in detail later."
--

Am interested in the procedure to waive this 2 year clause, if this is possible.

I came to the US in April 2007 as a J-1 Research Scholar and was supported for one year by the host University (till April 2008). While here, I had opted for the Tax Treaty exemption with India for the years - 2007 and 2008. Thereafter, I returned to India in mid-April and factored the US Income into my Income Tax returns there.

I got back to the same US University a couple of months later to complete the pending research work using personal funds (on the same J-1 Visa).

Due to certain unforeseen circumstances, my research work got extended and I will need to stay 3-4 months beyond the 2 year clock, thereby activating the retroactive tax clause.

Interested in knowing the procedure to obtain a waiver on the retroactive tax clause.

Thank you in advance.

MV