Issue
How can treaties between the United States and other countries affect the income of foreign nationals in the United States?
Facts
Bhutta, a citizen of Pakistan and a foreign medical school graduate, entered the United States in 2009 to participate in an internal medicine residency training program. During the three-year residency training program, for which he received an annual salary, Bhutta treated patients, with supervision; conducted and presented research; and supervised and trained third- and fourth-year medical students. His supervising and training of medical students consisted of having the medical students observe him during “rounds”, preparing the students for monthly examinations, and evaluating the students monthly.
For the taxable year 2010, Bhutta reported his wages from the residency training program as exempt from U.S. income tax under the Convention for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion With Respect to Taxes on Income, U.S.-Pak., art. XII, July 1, 1957, 10 U.S.T. 984 (entered into force May 21, 1959). Article XII of this treaty exempts from U.S. income tax remuneration that a professor or teacher receives for teaching if the professor or teacher is a Pakistani resident who temporarily visits the United States “for the purpose of teaching for a period not exceeding two years at a university, college, school or other educational institution” in the United States.
The IRS subsequently issued Bhutta a notice of deficiency disallowing the claimed treaty exemption. Bhutta asserted that he is entitled to an exemption under treaty art. XII or, alternatively, that he is entitled to an exemption under treaty art. XIII(3). Treaty art. XIII(3) exempts from income tax compensation up to $10,000 if a Pakistani resident, temporarily present in the United States under arrangements with the United States or any agency or instrumentality thereof solely for the purpose of training, study, or orientation, receives such compensation for the rendition of services directly related to such training, study, or orientation.
Related Treaty
Convention for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion With Respect to Taxes on Income, U.S.-Pak., art. XII, July 1, 1957, 10 U.S.T. 984 (entered into force May 21, 1959).
Related Tax Rule or Regulation
Internal Revenue Code Section 864
Internal Revenue Code Section 871
Internal Revenue Code Section 894
Income Tax Regs sec. 1.864-4(c)(6)(ii)
Decision:
The court held that Bhutta “…was not in the United States for “the purpose of teaching” in 2010 and therefore is not entitled to the exemption under treaty art. XII.” Further, Bhutta was not entitled to the exemption under treaty art. XIII(3) because he did not prove that he was in the United States under arrangements with the United States or an agency or instrumentality thereof.
What It Means
Because treaties are contracts between sovereign governments, and therefore to give effect to the signatories’ intent, they are construed more liberally than private agreements. Because the word “purpose” as part of the term “purpose of teaching” was undefined in the treaty, the court looked to an “ordinary, contemporary understanding” of the term. Further, that the individuals’ conduct and not his self-serving representations were controlling as to defining and determining his “purpose” for being in the United States. All of the circumstances taken as a whole indicated that Bhutta was in the U.S. for the “purpose” of receiving postgraduate medical training, not teaching, which was an incidental part of petitioner’s overall training to become a doctor.
If you are a foreign national in the New York City, Tri-State area and have questions about whether you owe taxes on your income, call THE TAX EXPERTS AT THE Thorgood Law Firm www.thorgoodlaw.com. For a FREE consultation call 212-490-0704.
