In this three-part article series, Oliver Burton of Blick Rothenberg, together with Tahir Mahmood and Todd Cowan of London & Capital give a comprehensive overview of expatriation. They discuss the basics of expatriation and who it impacts, all the way through to the planning opportunities available.
In the first part of the series, they have discussed what is expatriation, why do people do it, what happens to an individual’s US tax return obligations and the costs associated with expatriation and abandonment of permanent resident status. Click here to read part 1.
What is the process of expatriation?
Once an individual has decided that they no longer wish to be a US citizen or US Green Card holder, the process should typically play out as follows:
01 Take upfront tax and immigration advice to ensure a full understanding of the consequences and to take advantage of any planning opportunities.
02 Book an appointment with the local US Embassy.
03 Complete any paperwork that is requested ahead of the appointment.
04 Attend the appointment, accompanied by any requested paperwork and supporting documentation.
05 File your income tax return for the year of expatriation or abandonment, along with Form 8854.
06 Pay any exit tax.
Who is subject to the exit tax?
The exit tax (or expatriation tax) can apply to US citizens who have renounced their citizenship status, and to Green Card holders who have ended their permanent resident status having held their Green Card for 8 of the last 15 tax years (also known as long-term residents).
Importantly, the exit tax provisions only apply to individuals who are “covered expatriates”.
A covered expatriate is a US citizen or long-term resident for whom any of the following statements apply:
- Average annual net income tax for the 5 years prior to expatriation was over $178,000 (this is the 2022 threshold, but it is adjusted each year for inflation).
- Net worth of $2,000,000 or more on the date of expatriation.
- A failure to certify on Form 8854 that you are up to date with your US tax obligations in the 5 years prior to expatriation.
If you are a non-covered expatriate, you are normally able to expatriate without an exit tax being imposed.
How is it calculated?
For covered expatriates, an exit tax calculation will be performed as part of the final tax return. The calculation determines a potential exit tax liability as if the individual had sold all of their worldwide assets on the day before expatriation or abandonment.
Any gain here is generally calculated on a mark-to-market basis. If the deemed gain is in excess of the exemption amount ($767,000 for 2022), then an exit tax is likely to be due.
The tax due on any excess will typically be imposed at a rate of 23.8%. It is important to remember that this is a tax on a deemed gain. In future, when the assets in question are sold and there is an actual capital gain, that gain may be taxed again in another jurisdiction, with no credit available for the exit tax that was paid to the US previously.
For married couples who are both following this process, it is important to note that two separate exit tax calculations are done for each individual. This means that the overall exemption for a married couple can be over $1.5m.
The exit tax calculation for an individual with basic affairs can still be complicated. Throw in some retirement accounts and certain non-US assets and it can quickly become overwhelming.
For example, when handling retirement accounts in this context, the IRS (Internal Revenue Service) will consider present net values, the type of pension, estimated accrued future benefit, where the pension is held and so on. It is important to engage proficient tax advisors to assist you with calculating your exit tax liability.
Are there any lasting consequences?
For non-covered expatriates, once the appropriate filings are submitted and the US passport or Green Card has been surrendered, the expectation is that there will be no lasting US tax consequences.
There can be lasting negative consequences for covered expatriates, even if no exit tax was payable. Future gifts or bequests from a covered expatriate to a US citizen or permanent resident can trigger a US tax bill that the recipient is liable to pay. This is unfortunately the case even when the correct process was followed successfully in earlier life. It is a particularly unsavoury piece of legislation, given that the primary goal of expatriating in the first place is often to sever ties with the US tax system.
This, coupled with the exit tax, means that the goal should always be to expatriate or abandon a Green Card on a non-covered basis whenever possible. Avoid being a covered expatriate at all costs.
Click here to read the next article of our Expatriation series where Oliver Burton of Blick Rothenberg, together with Tahir Mahmood and Todd Cowan of London & Capital will be discussing “The planning opportunities”. Sign up to our newsletter to get this delivered straight to your inbox.
