Effectively Connected Income: Tax Filing Options for Foreign-Owned U.S. LLCs

Two Ways to Handle U.S. Taxes Under Effectively Connected Income Rules — And How We Can Help

Foreign owned US LLC’s are more than likely to need to report their income in the U.S. under the Effectively Connected Taxable Income Rules.  While there are many resources that explain how owners should file, we decided to break it down further for a better understanding.

It is also important to note that Effectively Connected Income (ECI) rules are not the same as the Permanent Establishment rules (PE). PE rules determine if the US can tax a foreign person, and the ECI rules determine how to tax a foreign person. 

There are two options:

1. File as a C Corporation

The first option is to file as a C Corporation, which stands independent of its owners and pays its own tax. The LLC files Form 1120 which includes all important and required information – including – Form 5472 between the corporation and the foreign owner.

• ✅ Pros:
  • The corporation pays separately from the owner
  • Keeps the owner’s identity and financial details confidential (not on form 1040-nr)
  • Could potentially reduce certain withholding obligations on payments to the foreign owner
• ❌ Cons:
  • Subject to corporate tax rates 
  • No personal deductions for the owner
  • Additional compliance and corporate formalities

2. Report on Owner’s Form 1040-NR

 The second option is that the owner reports his or her ECI on a personal form – 1040NR – and either pays a tax or seeks relief under a tax treaty. The LLC is ignored in this case and the foreign owner is treated as directly earning the LLC’s income. 

Then they would file a separate form 1120DE “pro forma” that is used to transmit Form 5472 to report any related-party transactions. 

• ✅ Pros:
  • May qualify for a treaty relief to reduce or eliminate US Tax
  • Owner pays tax only one time (no double taxation like a C Corp)
• ❌ Cons:
  • Must handle individual tax filing (which can be complex)
  • More visibility into the business owner’s identity and activity

💡Important Details to Remember

Form 5472 is required for both options as any transaction with a foreign owner must be reported. Failing to file this form can result in a penalty of $25,000.

You must also have a TIN or EIN to file. If you do not have a TIN, click here to get support.

Which one should you choose?

Choosing between filing as a C Corporation or reporting income personally on a 1040-NR can feel a bit overwhelming — especially with all the rules around effectively connected income, treaties, and forms. The good news is, both options are valid — it just depends on your situation and goals. If you’re not sure which path makes the most sense for you, don’t worry — we’re here to help make the process easier and ensure you stay compliant every step of the way.