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As much as many believe the United States to be the "ultimate" destination to visit, work in and establish long term life & roots, there are others for many reasons who want to sever their ties with the US. We have seen an increasing number of expatriations in recent years because of the onerous reporting requirements under the Foreign Account Tax Compliance Act or FATCA and the Bank Secrecy Act. The expatriation process in itself was initially free of cost. A $450 fee was added in 2010 and this increased to $2,350 in 2014 to handle the unprecedented increase in expatriation.
This post will go briefly into rules for Expatriation and what happens if one is a Covered Expatriate. We will also briefly discuss when expatriation might be a good idea and when it might not be so.
To start us off, let us break down the term Expatriation and see who is a "Covered Expatriate".
Expatriation:
The act of voluntarily or forcefully revoking one's citizenship from a country is known as expatriation.
A U.S person who has been either a citizen or a long term lawful permanent resident (AKA Green Card holder) for eight of the last fifteen years is an expatriate. This excludes any year in which they would have claimed treaty benefits to be treated as a foreign resident on Form 8833.
Covered Expatriates:
It is very important to understand if one is a Covered Expatriate. This determines the process of expatriation and whether the person is subject to Exit Tax.
Important to note, one may be a Covered Expatriate and still not be subject to Exit Tax.
An expatriate is considered "covered" when they are either a citizen of the United States or a Green Card holder outlined above AND they must meet any one of the three tests below under the IRC 877A rules:
- Net Worth Test: Net Worth is $2 Million or more (not adjusted for inflation) on the date of expatriation or residency termination.
- Net Income Tax Liability Test: Specified amounts of tax for the 5 years (adjusted for inflation) ending on the date of expatriation or residency termination. ($190,000 for 2023)
- Tax Compliance Test: Failure to certify on From 8854 that all U.S federal tax obligations have been complied with for the 5 years ending on the date of expatriation or residency termination.
Note: The goal is to be NOT considered a Covered Expatriate when expatriating (if possible).
If the Covered Expatriate Test is Met:
If the test is met, there is will be a mark-to-market tax on appreciated assets (stocks, shares & real estate etc.) and a deemed distribution of tax-deferred accounts (employer retirement accounts, IRAs, etc.). This is going to cause a huge tax bill or the "Exit Tax".
If you are a Covered Expatriate, certain current/ future transactions with US persons will continue to be taxable. This is especially true where as a Covered Expatriate, you are sending gifts/ there are bequests to a US person. The gifts/ bequests may be subject to 40% tax rate.
Planning to Expatriate? Things to Think About:
If you are someone who has little or no ties with the U.S (think Accidental Americans), or are a Green Card holder who is thinking of moving out of the U.S for good or are a Green Card holder who has NOT held the card for more than 8 years- you may be a good candidate to avoid being a Covered Expatriate & subject to Exit Tax. On the other hand, if you have family in the U.S, or expect to be away only for a brief stint, or are heavily invested in the US, it may make it emotionally/ socially/ financially difficult for you to expatriate. - Tax Reporting and Compliance
If you are not up-to-date with your tax compliance. Or have failed to report certain foreign income or assets. You will need to bring these up-to-date using an IRS Amnesty Program before you can expatriate. This will be an expensive and complex process without even going into the possibilities of owing Exit Tax. - Double Taxation of World-wide Income
If you are moving to a country with similar or higher tax rates, your foreign tax credit or ability to take the foreign earned income exclusion will most likely not result in double taxation. Or for these very reasons, retiring in these countries may not be a great option. On the other hand, if you live in a country where there are no taxes or very low taxes and you end up owing the US a lot of taxes on your world-wide income every year- you may want to consider expatriation. - Convenience of a U.S. Passport
Not much explanation needed here. Having a US passport has more advantages than disadvantages & access & travel is so much easier. - Timing of Expatriation and Wealth & Estate Implications
The timing aspect makes it really, really important to talk to a qualified attorney or tax professional specializing in international tax and expatriation. You may be a green card holder in year 6 or 7 and thinking of surrendering your status. You will need to understand and work with someone who can accurately advice and calculate the tax (if any) under Internal Revenue Code 2801.
Like I always say- these are complex issues, please do not venture to DIY!
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