Presenting a live 90-minute webinar with interactive Q&A. Today s faculty features:

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1 Presenting a live 90-minute webinar with interactive Q&A Tax Planning Issues for U.S. Expatriation: Minimizing the IRC 877A Exit Tax Determining Covered Expatriates, Navigating the Mark-to-Market Tax on Unrealized Gains, Reporting Elections THURSDAY, NOVEMBER 29, pm Eastern 12pm Central 11am Mountain 10am Pacific Today s faculty features: Stephen Flott, Principal, Flott & Co., Arlington, Va. Philip D. W. Hodgen, Attorney, HodgenLaw PC, Pasadena, Calif. The audio portion of the conference may be accessed via the telephone or by using your computer's speakers. Please refer to the instructions ed to registrants for additional information. If you have any questions, please contact Customer Service at ext. 1. NOTE: If you are seeking CPE credit, you must listen via your computer phone listening is no longer permitted.

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5 FLOTT & CO. PC - ATTORNEYS Tax Planning Issues for U.S. Expatriation Stephen Flott Flott & Co. PC sflott@flottco.com Strafford Publications, Inc. Thursday, November 29, 2018 TAX PLANNING ISSUES FOR U.S. EXPATRIATION #5 5

6 FLOTT & CO. PC - ATTORNEYS Who is a Covered Expatriate? Overview The Foreign Investors Tax Act of 1966 ( FITA ) Health Insurance Portability and Accountability Act of 1996 ( HIPPA ) American Jobs Creation Act of 2004 ( AJCA ) Heroes Earnings Assistance and Relief Tax Act of 2008 ( HEART ) TAX PLANNING ISSUES FOR U.S. EXPATRIATION #6 6

7 FLOTT & CO. PC - ATTORNEYS The Foreign Investors Tax Act of 1966 ( FITA ) Added section 877 to the Code Persons who expatriated after March 8, 1965 were subject to tax on their US source income for ten years after expatriation at graduated tax rates unless avoiding US tax was not the principal purpose of expatriation TAX PLANNING ISSUES FOR U.S. EXPATRIATION #7 7

8 FLOTT & CO. PC - ATTORNEYS The Foreign Investors Tax Act of 1966 ( FITA ) Furstenberg v. Commissioner, 83 T.C. 755, held that persons who gave up US citizenship would not be found to have done so primarily to avoid US taxation unless affirmative steps are shown to have been taken to avoid US taxation TAX PLANNING ISSUES FOR U.S. EXPATRIATION #8 8

9 FLOTT & CO. PC - ATTORNEYS Health Insurance Portability and Accountability Act of 1996 ( HIPAA ) Enforcement of 877 was limited Determining motivation was difficult creating litigation risk for IRS IRS had to catch expatriates after the fact There was no mechanism to notify the IRS when someone expatriated TAX PLANNING ISSUES FOR U.S. EXPATRIATION #9 9

10 FLOTT & CO. PC - ATTORNEYS Health Insurance Portability and Accountability Act of 1996 ( HIPAA ) Added presumption of avoiding US tax for high income or high net worth persons Expanded US source income to include income or gain from CFCs Added long term US residents to 877 Added a reporting requirement (6039G) Created exception for persons born with dual citizenship TAX PLANNING ISSUES FOR U.S. EXPATRIATION #10 10

11 FLOTT & CO. PC - ATTORNEYS Health Insurance Portability and Accountability Act of 1996 ( HIPAA ) Unlike FITA, Congress intended that HIPPA temporarily override inconsistent US tax treaty provisions until the tenth anniversary of its enactment (August 21, 2006) Treasury and the IRS interpreted all treaties, whether or not in force on August 21, 1996, to preserve US taxing jurisdiction of expatriates until expiration TAX PLANNING ISSUES FOR U.S. EXPATRIATION #11 11

12 FLOTT & CO. PC - ATTORNEYS Health Insurance Portability and Accountability Act of 1996 ( HIPAA ) Reporting under section 6039G was only required when an expatriate announced his/her expatriation Those who relinquished citizenship by committing an expatriating act (naturalizing as a citizen of another country with intent) were not covered TAX PLANNING ISSUES FOR U.S. EXPATRIATION #12 12

13 FLOTT & CO. PC - ATTORNEYS American Jobs Creation Act of 2004 ( AJCA ) Added section 7701(n) providing that US citizens would continue to be treated as US citizens for tax purposes until the person gives notice to the Department of State AND provides a statement in accordance with section 6039G Eliminated the principal tax avoidance purpose presumption TAX PLANNING ISSUES FOR U.S. EXPATRIATION #13 13

14 FLOTT & CO. PC - ATTORNEYS American Jobs Creation Act of 2004 ( AJCA ) Eliminated the private letter ruling regarding principal purpose of expatriation Added an objective income tax liability and net asset test to determine who would be subject to the 10 year alternate tax regime TAX PLANNING ISSUES FOR U.S. EXPATRIATION #14 14

15 FLOTT & CO. PC - ATTORNEYS American Jobs Creation Act of 2004 ( AJCA ) Exempted dual citizens who had no substantial contacts with the United States No substantial contact Never a resident of the US Never held a US passport Not present in the US for more than 30 days in any of the ten years prior to expatriation TAX PLANNING ISSUES FOR U.S. EXPATRIATION #15 15

16 FLOTT & CO. PC - ATTORNEYS Heroes Earnings Assistance and Relief Tax Act of 2008 ( HEART ) Created the regime and reporting requirements that now govern those who expatriate after June 16, 2008 Added section 877A to the Code, replacing the 10 year regime of section 877 with a mark-to-market regime, what is commonly called the exit tax TAX PLANNING ISSUES FOR U.S. EXPATRIATION #16 16

17 FLOTT & CO. PC - ATTORNEYS Who is a Covered Expatriate? HEART (continued) Eliminated requirement to report to both the IRS and the State Department Set date of relinquishment of US citizenship & revises section 6039G to require expatriates to file Form 8854 Applies to individuals who expatriate on or after June 17, 2008; section 877 ceased to apply after June 16, 2018 TAX PLANNING ISSUES FOR U.S. EXPATRIATION #17 17

18 FLOTT & CO. PC - ATTORNEYS Heroes Earnings Assistance and Relief Tax Act of 2008 ( HEART ) Everyone who renounced US citizenship after June 16, 2008 is subject to HEART Only those who relinquished US citizenship prior to that date are subject to the provisions of one of the earlier statutes depending upon the date on which they relinquished US citizenship TAX PLANNING ISSUES FOR U.S. EXPATRIATION #18 18

19 FLOTT & CO. PC - ATTORNEYS Heroes Earnings Assistance and Relief Tax Act of 2008 ( HEART ) A person relinquishes US citizenship if he or she becomes a naturalized citizen of another country and intends by doing so to give up his or her US citizenship The date of that person s naturalization in the other country is the date of their expatriation from the United States TAX PLANNING ISSUES FOR U.S. EXPATRIATION #19 19

20 FLOTT & CO. PC - ATTORNEYS Who is a Covered Expatriate? Anyone who fails to file Form 8854 to certify compliance with his/her US tax obligations for the five years preceding the year of expatriation Form 8854 must be filed by the due date of the expatriate s federal income tax return for the tax year of expatriation TAX PLANNING ISSUES FOR U.S. EXPATRIATION #20 20

21 FLOTT & CO. PC - ATTORNEYS Who is a Covered Expatriate? If a US citizen expatriates in 2018, that person must file Form 8854 with his/her Form 1040 by June or October 2019 The Form 8854 must certify that the person has filed US tax returns for at least five tax years prior to 2018, i.e., for 2017, 2016, 2015, 2014 and 2013, assuming the person was required to file a US tax return in all of those years TAX PLANNING ISSUES FOR U.S. EXPATRIATION #21 21

22 FLOTT & CO. PC - ATTORNEYS Who is a Covered Expatriate? Anyone who meets either of these tests: Average annual net income tax liability for the five years prior to the year of expatriation (2018) exceeds: $155,000 for 2013 $157,000 for 2014 $160,000 for 2015 $161,000 for 2016 $162,000 for 2017 Net worth exceeds $2 million on the date of expatriation TAX PLANNING ISSUES FOR U.S. EXPATRIATION #22 22

23 FLOTT & CO. PC - ATTORNEYS Who is not a Covered Expatriate? Anyone who became at birth a citizen of the United States and a citizen of another country and, as of the expatriation date, continues to be a citizen of, and is taxed as a resident of, such other country and has been a resident of the United States for not more than 10 taxable years during the 15 taxable year period prior to expatriation TAX PLANNING ISSUES FOR U.S. EXPATRIATION #23 23

24 FLOTT & CO. PC - ATTORNEYS Who is not a Covered Expatriate? Anyone who expatriates before he or she turns 18½ and has been a resident of the United States for not more than 10 taxable years prior to expatriation TAX PLANNING ISSUES FOR U.S. EXPATRIATION #24 24

25 FLOTT & CO. PC - ATTORNEYS Who is a Covered Expatriate? The dual national exemption DOES NOT apply to anyone who fails to file Form 8854 certifying compliance with US tax requirements for the five years preceding expatriation TAX PLANNING ISSUES FOR U.S. EXPATRIATION #25 25

26 FLOTT & CO. PC - ATTORNEYS Who is a dual national at birth? Anyone who was born in the United States is a citizen of the United States by virtue of the 14 th Amendment to the US Constitution Anyone who was born abroad to two US citizen parents is a citizen of the United States if either of the parents legally resided in the US prior to the child's birth TAX PLANNING ISSUES FOR U.S. EXPATRIATION #26 26

27 FLOTT & CO. PC - ATTORNEYS Who is a dual national at birth? Anyone who was born abroad and one parent is a US citizen and the other is not, that person is a US citizen if the US citizen parent has been physically present in the US before the child s birth for a total period of at least five years, and at least two of those five years were after the US citizen parent s fourteenth birthday TAX PLANNING ISSUES FOR U.S. EXPATRIATION #27 27

28 FLOTT & CO. PC - ATTORNEYS Who is a dual national at birth? Anyone born in the United States who is entitled by the law of the country of his/her parents citizenship to citizenship of that or those countries (jus sanguinis) is a dual citizen at birth and is not a covered expatriate for purposes of the tax and asset tests These individuals are not required to naturalize to obtain citizenship in their parents countries of citizenship TAX PLANNING ISSUES FOR U.S. EXPATRIATION #28 28

29 FLOTT & CO. PC - ATTORNEYS Who is a dual national at birth? Query: what is the effect of the provision and, as of the expatriation date, continues to be a citizen of, and is taxed as a resident of, such other country? Example: Does a person born in the US, who is a citizen of Spain by virtue of his parents Spanish citizenship, satisfy the dual national at birth test if that person lives in France and pays tax in France as of the date of expatriation? TAX PLANNING ISSUES FOR U.S. EXPATRIATION #29 29

30 FLOTT & CO. PC - ATTORNEYS Thank you! Stephen Flott FLOTT & CO. PC 2200 Wilson Boulevard, Suite 320 Arlington, VA [PO Box 17655, Arlington, VA ] Tel: Fax: sflott@flottco.com Web: TAX PLANNING ISSUES FOR U.S. EXPATRIATION #30 30

31

32 II. The Income Taxes of IRC 877A There are, in fact, four different exit taxes, plus a couple of stealth exit taxes littered elsewhere in the Internal Revenue Code 32

33 The income tax risks for expatriates Covered expatriates only IRC 877A - what we are talking about right now Everyone, even non-expatriates (the stealth taxes) IRC transfer of assets to a foreign trust is a mark-to-market event (what if the expatriate is the trustee?) IRC change of residence is a deemed disposition of PFICs (that s what the ancient Proposed Regulations say) 33

34 Covered Expatriates: Four Income Tax Rules /1 1. Specified Tax Deferred Accounts - (IRAs, for example). Deemed distribution (no early distribution penalty). IRC 877A(e). 2. Deferred Compensation - ineligible taxed as a deemed present value lump sum distribution; eligible has 30% withheld from distributions. IRC 877A(d). 3. Trust Distributions - 30% withheld from the taxable portion of the trust distributions when paid. IRC 877A(f). 34

35 Covered Expatriates: Four Income Tax Rules /2 4. Everything Else - deemed sale; gain/loss recognized. IRC 877A(a)(1). The first $725,000 of capital gain recognized on the deemed sale is exempted from taxation (for 2019 expatriations). IRC 877A(a)(3), Rev. Proc , This amount is indexed for inflation. 35

36 II.A. Specified Tax Deferred Accounts Deemed lump sum distribution on the day before expatriation 36

37 Specified Tax Deferred Accounts IRC 877A(e), Notice , Section 6 IRA, Roth IRA, Coverdell Education Savings Account, Health Savings Account, Medical Savings Account. IRC 877A(e)(2). Not: SEP, Simplified Retirement Account (these are deferred compensation items) 37

38 Specified Tax Deferred Accounts Deemed distribution on the day before expatriation. IRC 877A(e)(1)(A). No early distribution penalty. IRC 877A(e)(1)(B). The gain exclusion for mark-to-market deemed sales does not apply, because this is not a mark-to-market disposition. Adjustment basis in the IRA, so the amount taxed isn t taxed again. IRC 72, Notice , Section 6. 38

39 II.B. Deferred compensation Deemed lump sum distribution on the day before expatriation, or pay as you go as distributions are received 39

40 Deferred Compensation Items IRC 877A(d), Notice , 5. Step 1: Is this a deferred compensation item? Notice , 5(B)(1). Step 2: Is this an eligible or ineligible deferred compensation item? Notice , 5(B)(2), (3). Step 3: How is this (eligible or ineligible) deferred compensation item taxed and what are the withholding rules? 40

41 Deferred compensation: eligible or ineligible? Eligible has two requirements: The payor is a U.S. person (or a foreign person who elects to be treated as a U.S. person for this purpose). Notice , 5.B(2). AND... the covered expatriate gives the payor Form W- 8CE within 30 days of the expatriation date. Notice , 5.B(2), 8. Ineligible is anything else. Notice , 5.B(3). 41

42 Taxation: ineligible deferred compensation Deemed lump sum distribution of the present value of accrued benefits, deemed received on the day before expatriation. Notice , 5.D. Present value computation methods are found in Notice , 5.D. 42

43 Taxation: eligible deferred compensation The covered expatriate is a nonresident alien. Normal rules apply. Use IRC 871 to determine U.S. tax liability. IRC 877A(d)(6)(B). Treaties can be used to change taxation of eligible deferred compensation items. (You aren t forced to waive the right to treaty benefits). 43

44 Withholding: eligible deferred compensation 30% of the taxable payment. IRC 877A(d)(1)(A), Notice , 5.C. Withholding cannot be reduced by making a treaty claim. Notice , 5.C. 44

45 Eligible deferred compensation rules are dumb Withholding must be 30%. The covered expatriate must waive the right to reduce withholding rates by treaty in order to get the pay as you go treatment for eligible deferred compensation items. IRC 877A(d)(3)(B)(ii). Tax liability can be 0%. A covered expatriate doesn t waive the right to use a treaty to reduce tax liability. E.g., Thailand/U.S. treaty, Article 20(1) says country of residence gets to tax pension payments. Result. A covered expatriate may need to file Form 1040-NR to get withheld tax refunded. 45

46 II.C. Distributions from nongrantor trusts Pay as you go on distributions received 46

47 Nongrantor trust distributions: withholding IRC 877A(f), Notice , 7. Applies to all nongrantor trusts foreign or domestic. IRC 877A(f)(3). Withholding: 30% of the taxable portion of the trust distributions, as made. IRC 877A(f)(1)(A). Taxable portion means do the math while pretending that the covered expatriate is still a U.S. citizen or resident. IRC 877A(f)(2). 47

48 Nongrantor trust distributions: taxation The covered expatriate is a nonresident alien. Compute tax liability accordingly. Use IRC 871. If the trust distribution contains U.S. source income, the beneficiary is taxed using the principles of IRC 871. If the trust distribution is foreign source income, the beneficiary has no tax liability under IRC 871. Result: Form 1040-NR needed to claim tax refunds. 48

49 II.D. Mark-to-market gain/loss recognition Pretend that you sold everything else, recognize gain/loss, and pay capital gain tax 49

50 Mark-to-market gain/loss for everything else IRC 877A(a), Notice , 3. Elements: Let s pretend disposition; gain/loss recognition Special basis rule for green card holders Exemption amount and allocation among assets Tax payment deferral 50

51 Mark-to-market: assets it applies to Everything. IRC 877A(a)(1). Except the stuff with special rules. IRC 877A(c). Specified tax deferred accounts Deferred compensation items Beneficial interests in nongrantor trusts 51

52 Mark-to-market: what is everything? Would it be includable in your gross estate if you died on the day before expatriating? Notice , 3.A. Are you a beneficiary of a trust that is not part of your gross estate under IRC AND is not a trust that is taxed under IRC 877A(f)? Include the value of that beneficial interest, too. Notice , 3.A. 52

53 Mark-to-market: what s the sale price? Pretend you sold at fair market value. Use estate tax principles to determine fair market value. See special modification to estate tax principles in Notice , 3.A. Except: beneficial interests in trusts are valued using gift tax principles of IRC Notice , 3.A. Except: value life insurance policies using gift tax rules; apply Reg Notice , 3.A. 53

54 Mark-to-market: what s your basis? Your basis is your basis. Except for green card holders, who can elect basis to be the fair market value of assets they owned owned on the first day the individual became a resident alien (N.B. not just a green card holder). IRC 877A(h)(2). But not U.S. real property interests, which the IRS intends to say is out of bounds for basis step-up. Except maybe you can get a basis step-up if a treaty allows it. Notice , 3.D. 54

55 Mark-to-market: losses and carryforwards Losses are recognized. The wash sale rules don t apply. No guidance exists, but I take the position that a sale is a sale (even deemed transactions) and this unlocks suspended passive activity losses. Use your NOLs. 55

56 Mark-to-market: gains Gain/loss is recognized because of IRC 877A(a). The character of the gain/loss is determined by the regular rules of the Internal Revenue Code. The first $725,000 of gain is tax-free (expatriations in 2019). Rev. Proc , Allocate this pro-rata across all gain items you can t pick and choose. 56

57 Mark-to-market: uncertainties You have a pretend sale of your primary residence. Do you claim the IRC 121 exclusion or the IRC 877A(a)(3) exclusion or both? In which order? You have suspended passive activity losses that are now available because you sold an asset. Do you take those into account in computing capital gain before or after the IRC 877A(a)(3) exclusion? 57

58 Mark-to-market: tax payment deferral IRC 877A(b), Notice , 3.E. Paperwork. Post security. ( We like surety bonds! ) Interest accrues on the unpaid tax liability. 58

59

60 III. The Section 2801 Tax A tax on the recipient of gifts or bequests from covered expatriates 60

61 Section 2801 s target: a gift or bequest 61

62 Congress: Make Expatriation Tax-Neutral 62

63 The Section 2801 Tax Equation Section Elements III.A Covered Expatriate III.B + U.S. Recipient III.C + Covered Gift or Bequest III.D = Section 2801 Tax 63

64 III.A. Covered Expatriate 64

65 Covered Expatriate defined Same definition as used for income tax purposes from IRC 877A(g)(1). IRC 2801(f). Except... not if the covered expatriate became a U.S. resident or citizen again. Prop. Reg (h). Use the estate/gift tax definition of resident. Prop. Reg (b). (It s a domicile test, not the count the days or do you have a green card? test). 65

66 Examples Individual expatriates. Result: covered expatriate for IRC Individual expatriates, becomes a covered expatriate, then becomes a U.S. resident or citizen again. Result: not a covered expatriate for IRC Individual expatriates, becomes a covered expatriate, becomes a U.S. resident or citizen again, then expatriates again. Result: covered expatriate for IRC

67 What does it take to establish U.S. domicile? Estate of Khan v. Commissioner, T.C. Memo Estate of Jack v. United States, 54 Fed. Cl. 590 (2002). Reg (b)(1): A resident decedent is a decedent who, at the time of his death, had his domicile in the United States. * * * * 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. * * * * 67

68 Planning: re-establish U.S. domicile to die? 68

69 III.B. U.S. Recipient 69

70 U.S. recipient: Prop. Reg (e) 70

71 Let s talk about nominees Covered Expatriate Uncle Fred U.S. Recipient I don t have to pay Section 2801 tax because the transfer came from Uncle Fred, not a covered expatriate.! 71

72 Let s talk about nominees Analogy: disguised partnership sales. See Reg (d) where sales more than two years after contribution are presumed (rebuttable with real facts) to not be disguised sales. You can argue that the money has been held by a third party long enough to create an economic risk of loss, so it is an independent transfer, not a prearrangement. But... you re having the conversation, aren t you? I d avoid doing stuff that seems a bit too clever by half. 72

73 III.C. Covered Gift or Bequest 73

74 Anything coming from a covered expatriate It must be a gift in order to be a covered gift. The usual definition of gift applies. Prop. Reg (a). Covered gifts and bequests mean any transfers coming from a covered expatriate, directly or indirectly... to ANYONE. (It s only when a covered gift or bequest touches a U.S. recipient that it spawns the Section 2801 tax). Details: Prop. Reg (f), (g);

75 Covered gifts/bequests: exceptions that don t work You can t use some exceptions to claim that a gift is not a gift and therefore it can t be a covered gift. If you make these transfers, they will be covered gifts. See Prop. Reg (a). Transfers of intangible by nonresidents. Payments of school and medical expenses. A few other fiddly and uncommon exceptions. 75

76 Covered gifts/bequests: exceptions that work Fair market value transactions. They re not gifts. Annual small gift exclusion - IRC 2503(b). An amount smaller than the threshold is a covered gift but the tax does not apply to amounts below the IRC 2503(b) threshold. IRC 2801(c). Gifts that are otherwise subject to the gift tax, and are reported on a timely gift tax return. IRC 2801(e)(2). Gifts made while the covered expatriate is a U.S. resident. 76

77 Covered gifts/bequests: exceptions that work Marital deduction transfers to U.S. citizen spouses. IRC 2801(e)(3). QDOTs for bequests to noncitizen spouses. Prop. Reg (c)(4). Gifts to noncitizen spouses under the IRC 2523(i)(2) large annual gift exclusion. Prop. Reg (f), Example 1. (Hint: green card holder spouse living abroad). Charitable transfers. IRC 2801(e)(3). 77

78 III.D. The Section 2801 Tax 78

79 Form 708 and tax payment Form 708 has not yet been published; it will be published when the Proposed Regulations are final. No filing requirement until the Final Regulations are published. Announcement No payment of tax is required until the Final Regulations are published. Announcement

80 Tax liability calculations FMV of covered gift or bequest received, minus the annual exclusion amount. Multiply that by the highest estate/gift tax rate in effect when the covered gift or bequest was received. IRC 2801(a), (c). Take a credit for foreign gift or estate taxes paid on the covered gift or bequest. IRC 2801(c). 80

81 IV. Planning for Expatriation Preventing the exit tax, mitigating its effect, or preparing to accept disaster 81

82 Noncitizens: don t be a long-term resident Start Covered Expatriate Citizen or Long-Term Resident Expatriation Event Expatriate Three Tests, Exceptions Not a Covered Expatriate 82

83 Noncitizens: don t be a long-term resident Do not get a green card. Use another visa category to live and work in the United States. If you must get a green card, prevent long-term resident status: Abandon green card status before the 8th year. Use treaty elections to be a nonresident in tax years before the 8th year arrives. 83

84 Everyone: don t be a covered expatriate Start Covered Expatriate Citizen or Long-Term Resident Expatriation Event Expatriate Three Tests, Exceptions Not a Covered Expatriate 84

85 How to be a covered expatriate (or not) Start: Expatriate Title 26 Obligations OK? Yes Net Worth < $2 Million? Yes 5 Year Income Tax Liability < $168,000? Yes Not a Covered Expatriate Prior Five Years Tax Obligations Not Satisfied Net Worth Above $2 Million Prior Five Years Average Income Tax Liability > $168,000 Dual Citizen; Young Person Exception Applies? No Exception Applies Covered Expatriate 85

86 Everyone: pass the certification test Can you certify full compliance with all Federal tax obligations if you have normal minor errors on your tax returns in the five-year period? Or does the certification test only cause you to fail if you have major compliance failures? How big is major? How little is minor? I do not have an answer. Nor does the IRS (yet). 86

87 What I do for the certification test If you should have filed a form (e.g., Form 8621, Form 3520) but didn t? Probably a problem. Fix it. If you did something and the noncompliance penalty is massive or creates an open statute of limitations? Probably a problem. Fix it. If you could be indicted for perjury, it s an obvious failure. Small mistake? Who knows? Why rely on the kindness of strangers Revenue Agents? Cf. Blanche Dubois. Fix it. 87

88 Net Income Tax Liability Test: MFJ MFS This Year s Tax Liability Prior Five Years Average 2012 (MFJ) 200, (MFJ) 200, (MFJ) 200, (MFJ) 200, (MFJ) 200, , (MFS) 100, , (MFS) 100, , Safe to expatriate this year 88

89 Net Worth Test: Gifts Assets H (Expatriate) W (U.S. or NRA) Cash 1,500,000 1,500,000 Stock 1,500,000 1,500,000 Individual Total 3,000,000 3,000,000 Gift of $1,100,000 cash from H to W Cash 400,000 2,600,000 Stock 1,500,000 1,500,000 Individual Total 1,900,000 4,100,000 89

90 Gifts: gift tax risks (marital deduction) Traditionally, interspousal gifts are not subject to gift tax. There is a marital deduction that reduces taxable gifts to zero. IRC 2523(a). The marital deduction is not permitted for gifts to noncitizen spouses. IRC 2523(i). Plan on using the unified credit. 90

91 Gifts: gift tax risks (unified credit) If you are relying on the unified credit, make your gifts in one calendar year and expatriate in the next. The amount of unified credit available for gifts depends on your citizenship/resident status on December 31. IRC 2505(a)(1). In the expatriation year you will be a nonresident noncitizen on December 31, and your unified credit available for gifts in that year is zero. 91

92 Other transfers to spouse: capital gain tax risk Non-gift transfers to nonresident alien spouses will be treated as a gain recognition event. IRC 1041(d). E.g., watch out for you get my half of the house, and I get your half of the bank account. That will be treated as the expatriate s sale of his interest in the house in exchange for cash in the bank account. Solve this problem by having the nonresident alien spouse elect under IRC 6013(g) to be a U.S. resident for income tax purposes in the year of transfer. 92

93 Gifts: green card holder abroad Gift tax rules apply to U.S. citizens and residents. Resident means domiciled in the United States. Reg (b). A green card holder domiciled abroad is only subject to gift tax on U.S. real estate transfers and gifts of U.S.-situs tangible personal property. IRC 2501(a)(1), (2). Foreign assets and worldwide intangible personal property can be given away without concern for gift taxation by or reporting to the U.S. 93

94 Covered expatriates: reduce mark-to-market tax Minimize mark-to-market gain by gift transfers. E.g., give away low basis/high capital gain assets, keep cash and highbasis assets. Where exit tax is unavoidable, ensure foreign tax credit availability in the expatriate s home country. (Hint: it probably isn t). Do this by triggering a gain recognition event in the foreign country. 94

95 Prepare for doom: double taxation risks U.S. citizen is a covered expatriate. One of the assets owned by the covered expatriate is real estate in France. The U.S. citizen pays mark-to-market exit tax to the United States for the unrealized capital gain on the French real estate. Later, when the (former) U.S. citizen sells the French real estate, he pays tax on the capital gain in France. 95

96 Prepare for doom: double taxation risks A covered expatriate has a foreign pension. It is an ineligible deferred compensation item. The pension is treated as having made a lump sum distribution of the present value of the vested pension benefits at the time of expatriation. U.S. tax is paid on that pretend lump sum pension distribution. Later, the (former) U.S. citizen retires and starts receiving pension distributions. Those pension distributions are taxed by the home country of the (former) U.S. citizen. 96

97 Solved for Canada USA Expatriation If Canadians come to the USA, they can make an election for U.S. tax purposes that will allow them to eliminate doubletaxation on assets that are subject to the Canadian departure tax. Rev. Proc The Canada/U.S. Income Tax Treaty allows expatriating Americans in Canada to get the same double-taxation relief. Article XIII, Paragraph (7). Effectively there is fake sale in both countries, allowing foreign tax credit to be used and give basis step-up. 97

98 This Is Not a Circular 230 Warning This is not legal or tax advice. I am not your lawyer. 98

99 Thank you Philip D. W. Hodgen HodgenLaw PC 301 East Colorado Boulevard, Suite 323 Pasadena, California web: hodgen.com office: