Tax & Accounting Blog

Foreign Nationals: Resident Alien or Nonresident Alien and Why It Matters: Part 8 – Exempt Individuals

1099, ONESOURCE, Tax Information Reporting, W-8 & W-9 Foreign Reporting, Withholding Management December 7, 2012

Exempt Individuals are exempt from counting U.S. days for purposes of determining substantial presence in the U.S., nothing more. They are not exempt from tax because of their status as Exempt Individuals, although such Exempt Individuals are frequently exempt from income tax under a Code or tax treaty provision. To avoid this confusion, the IRS now refers to these nonresident aliens as Exempt (from counting days) Individuals. Income paid to an Exempt Individual is also not exempt from information reporting, although the information form may be different from that used for reporting income to residents.

Exempt Individuals include Students and “Teachers and Trainees.” Teachers and Trainees, as described by the Code, include all Exchange Visitors except those in the Student and Student Intern categories (referred to collectively as “J Nonstudents”) and Q Cultural Visitors. Each category has its own set of rules for determining when nonimmigrants’ U.S. days do not count for substantial-presence purposes. The application of these rules is very straightforward for J Exchange Visitors who are on their first visit to the U.S. The rules can be exceedingly difficult to apply for J Exchange Visitors who have been in the U.S. in F, J, M or Q status prior to the current visit.

Individuals in principal A and G status and their accompanying spouse are exempt from counting days indefinitely for as long as they maintain the status.  Their children may or may not be exempt individuals depending on their age, marital status and other considerations.

The Five-Calendar-Year Student Exception

Depending on the number of calendar years that individuals in Student status have been in the U.S. since 1985 and their current immigration status, they may be either Exempt or Non-Exempt Individuals. For policy reasons, foreign students are Exempt Individuals for U.S. income tax purposes for five calendar years (not academic years), which corresponds to the traditional timetable for earning an undergraduate degree when the substantial presence test became law.

The five calendar years include all calendar years of presence since 1985 as an Exempt Individual whether as a Student in F, J or M status, or as a J or Q Nonstudent. These five calendar years can include years spent in the U.S. in high school, or even as young children in derivative status (J-2, F-2, etc.) accompanying a parent in principal student status (J-1, F-1, etc.).  Any day in the U.S. as an Exempt Individual causes the calendar year to count against the five total available exempt years.

The Two-Out-of-Seven-Calendar-Year Exception

Under the substantial presence exceptions, J and Q Nonstudents do not count U.S. days in the current calendar year if they have not been in the U.S. as Exempt Individuals in F, J, M or Q status for two calendar years in the prior six calendar years. (This limitation is four out of seven years if all of a foreign national’s remuneration is paid and borne by a foreign employer.)  Any day in the U.S. as an Exempt Individual causes the calendar year to count for purposes of the two-out-of-seven-calendar-year exception. There is no de minimis exception.

Under this rule, J and Q Nonstudents who have not been in the U.S. in F, J, M or Q status in the prior six calendar years are exempt from counting their F, J, M or Q days for their first two calendar years in the U.S. Their U.S. days in their third calendar year in any of those statuses do count for substantial-presence purposes. They become residents in their third calendar year if they are in the U.S. for at least 183 days in that calendar year or if they otherwise meet the substantial presence test based on countable days from the two prior years. 

Effect of Prior Visits in F, J, M or Q Status

J and Q Nonstudents who have been in the U.S. in F, J, M or Q status before may become resident aliens sooner because of that earlier presence in the U.S. in such status. This occurs when, under the rules for the prior visits, the individuals were Exempt Individuals during prior visits as either J or Q Nonstudents or as F, J or M Students. (See section 7701(b)(5)(E)).

F, J, or M Students are exempt from counting U.S. days for purposes of the 183-day residency formula for five calendar years. Therefore, J and Q Nonstudents who were present in the U.S. as Exempt Individuals as Students in the prior six years must take into consideration the calendar years in which they were Exempt Individuals for purposes of the two-out-of-seven-calendar-year rule. For example, an individual enters the U.S. in F-1 status in August of 2012 for PhD studies and expects to remain until 2018. Previously, she was in the U.S. as a J-1 Research Scholar (Nonstudent) in 2009 and 2010. She would start counting days toward U.S. residency in 2015. Calendar years 2009 and 2010 were the first two of her five exempt-from-counting years, even though she was in J Nonstudent status, leaving 2012, 2013 and 2014 as her remaining three exempt-from-counting calendar years.