Founders Moving to the United States: Pre-Immigration Tax Planning for AI and Software Companies

A founder who owns part of a technology company abroad and moves to the United States brings that company into the U.S. tax system on the day residency begins. Most of the planning that matters must be finished before that day. This article covers the issues that come up most often for AI and software founders, in the order to address them.

An example

Three founders each own one-third of a European company that trains AI models and sells them through a subscription analytics platform. Our founder, the chief technology officer, holds his third through a personal holding company. The other two hold their shares directly, and a 10 percent option pool is reserved for employees.

The company closed a venture round last year and holds most of the proceeds in cash. The founder and his family plan to move within two years to open a U.S. office in New York, Texas or California, and the chief executive may move as well. He wants to know whether his third stays outside the anti-deferral rules, whether to form a U.S. holding company, and what to do first.

Residency: one federal test, three state answers

Federal residency usually begins under the substantial presence test: at least 31 days in the current year and 183 days over three years, counting all days this year, one-third of last year’s and one-sixth of the year before [1]. Once the test is met, “your residency starting date is generally the first day you are present in the United States during that calendar year” [2]. A January scouting trip can move that date back by months.

Each state then applies its own test. New York treats you as a resident if your domicile is New York, or if you “maintain a permanent place of abode in New York State for substantially all of the taxable year and spend 184 days or more in New York State” [3]. California asks whether you are “present in California for other than a temporary or transitory purpose,” and taxes residents “on all income regardless of source” [4].

Texas has no personal income tax; its constitution provides that the legislature “may not impose a tax on the net incomes of individuals” [5]. The state choice changes the tax on a future sale of the company and should be made before the move.

The holding company problem

A foreign corporation is a controlled foreign corporation if “more than 50 percent” of its voting power or value is owned by U.S. shareholders on any day of the year [6]. The founder owns 100 percent of his holding company, so on his residency starting date it becomes a controlled foreign corporation.

That has a cost. A U.S. shareholder of a controlled foreign corporation “shall include in gross income such shareholder’s global intangible low-taxed income” each year, whether or not anything is distributed [7]. Dividends it receives from the operating company are also exposed to current tax.

Counting to 50 percent

The operating company is tested separately. Stock owned by a foreign corporation “shall be considered as being owned proportionately by its shareholders,” so the founder is treated as owning one-third [8].

One-third is not more than 50 percent, and the co-founders’ shares are not attributed to him, because stock owned by a nonresident alien “shall not be considered as owned by a citizen or by a resident alien individual” under the family attribution rule [8].

The result changes if the chief executive moves too. Two U.S. resident founders hold two-thirds, the operating company becomes a controlled foreign corporation, and both must report their share of its income every year. One founder’s relocation is every founder’s tax problem.

Options count as well: “If any person has an option to acquire stock, such stock shall be considered as owned by such person” [9]. Option grants, convertible notes and buy-sell rights all belong in the count.

Working from the United States

The founder’s own work creates a second issue. “Foreign persons generally are engaged in a U.S. trade or business when personal services are performed in the U.S.,” and effectively connected income is “taxed at the graduated rates that apply to U.S. citizens and resident aliens” [10].

A founder building models and closing U.S. customers from a U.S. office can pull part of the foreign company’s profit into the U.S. tax net. A U.S. subsidiary with its own contracts and transfer pricing usually answers this, and it should exist before the first day of work.

PFIC and investor cash

A foreign corporation is a passive foreign investment company if 75 percent or more of its gross income is passive, or at least 50 percent of its assets are passive [11].

An AI company with subscription revenue usually passes the income test. A venture round held in cash can fail the asset test, because cash is passive and models and training data often carry little book value.

The holding company is tested too. A foreign corporation that owns at least 25 percent of another corporation is treated “as if it held its proportionate share of the assets” and “received directly its proportionate share of the income” of that corporation [12]. The holding company inherits the cash problem.

By default, distributions above 125 percent of the prior three-year average, and any gain on sale, are spread across the holding period and taxed at the highest rates with an interest charge [11]. A qualified electing fund or mark-to-market election can change that, reported on Form 8621 for every company in the chain [11].

Options before the move

Classification election. A foreign company not on the list of per se corporations is an “eligible entity” that “can elect its classification for federal tax purposes,” and if it elects to be disregarded it is deemed to distribute “all of its assets and liabilities to its single owner in liquidation” [13]. Made before residency, that deemed liquidation happens while the founder is still a nonresident; the election can be effective up to 75 days before filing [13].

A U.S. holding company. A U.S. corporation owning at least 10 percent of a foreign corporation may deduct “the foreign-source portion” of its dividends [14]. Moving the shares into a U.S. corporation has its own costs, needs investor consent, and does not by itself solve the state tax or PFIC analysis.

A trust for the family. Transfers to a foreign trust within five years before the residency starting date are treated “as if such individual transferred to such trust on the residency starting date” [15]. A trust funded the year before the move is a U.S. grantor trust from day one.

Reporting and domicile

The holding company requires Form 5471, with “a $10,000 penalty … for each annual accounting period of each foreign corporation” if it is missed [16]. Foreign accounts above $10,000 in aggregate require an FBAR [17]. Specified foreign assets above $50,000 at year end, or $75,000 during the year, require Form 8938 [18].

Estate tax turns on domicile, not visa type. A person “acquires a domicile in a place by living there, for even a brief period of time, with no definite present intention of later removing therefrom” [19]. A family that intends to stay can be domiciled on a non-immigrant visa, so planned gifts belong before the move.

The order that works

1. Fix the federal and state residency dates from the visa, travel plan and the chosen state’s test.
2. Count ownership for every founder who may move, including options, notes and buy-sell rights.
3. Test both companies for passive income and passive assets, including investor cash.
4. Decide the structure: election, U.S. holding company, U.S. subsidiary or trust, with home-country and investor sign-off.
5. Complete the transactions before the earlier residency date, then set up first-year filings and elections.

This article is for general informational purposes only and does not constitute legal or tax advice. Outcomes depend on the facts of each matter and no result is guaranteed. The example is illustrative and does not describe any client. Thresholds are those published by the agencies as of the date of writing. Reading it does not create an attorney-client relationship with Dilendorf Law Firm. Prior results do not guarantee a similar outcome. Attorney Advertising.