Worried About U.S. Exit Tax When You Renounce Citizenship?

Worried About U.S. Exit Tax When You Renounce Citizenship?

Should You Worry About Exit Tax?

For U.S. Persons who are either U.S. Citizens (by birth or naturalization) or Long-Term Lawful Permanent Residents (LTR), when they relinquish their Green Card or Renounce their U.S. Citizenship, they may become subject to an exit tax. The Exit Tax is not a wealth tax per se, and while some taxpayers may be subject to an exit tax when they expatriate – it does not impact all expatriates. In general, Taxpayers want to try to avoid the Exit Tax (and avoid being deemed a covered expatriate) when at all possible, but sometimes it is unavoidable. Let’s look at the Exit Tax and whether you are subject to it (and how to minimize the damage).

Are you a U.S. Citizen or LTR?

First, the only situation in which the exit tax may apply for a U.S. taxpayer is if they are considered a U.S. citizen or a Long-Term Lawful Permanent Resident. In other words, if you are a Green Card holder but have only been on a green card for a few years or you are in the United States on a visa then the exit tax does not apply to you.

Are you Approaching LTR Status?

If you are a permanent resident who is approaching long-term resident status and is worried about potential exit tax implications, you should consider different strategies, especially if you reside overseas and may qualify as a foreign person for tax purposes under a treaty.

Are You ‘Covered’

If you are potentially going to become a covered expatriate when you formally renounce your U.S. Citizenship or relinquish your Green Card — here are a few things to consider relative to the exit tax.

Can You Plan Around the $2M Mark (Net Worth Test)

For taxpayers who are only considered covered expatriates because they meet the net worth test, and especially those who have a US citizen spouse who is not expatriating, typically setting up various gifts may help circumvent covered expatriate status. There are various pitfalls to be aware of so taxpayers should not just start giving gifts in the year they plan on expatriating.

Who is the High Earner? (Net Income Tax Test)

Every taxpayer is only considered a covered expatriate because they meet the net income average tax liability test, they may want to consider filing separately and/or modifying their income to bring themselves below the net income tax liability test. It is important to note, that if only one person is expatriating but they filed jointly then the joint tax return is used to determine net income tax liability (it is not split in half, for example).

Are You Not 5-Years Tax Compliant (Offshore Disclosure)

If a taxpayer is only going to be a covered expatriate because they have not been tax-compliant for the past five years they may want to consider submitting an offshore disclosure in conjunction with an expatriation. For these types of complicated submissions, taxpayers should consult with a Board-Certified Tax Law Specialist who specializes exclusively in these types of matters.

Additional Tax Traps to Consider 

Here are a few other tax traps and reporting requirements to consider for taxpayers who are going to expatriate.

401K and Annual 8854 (Covered)

If a person is considered a covered expatriate and still maintains a 401K as well as various other investments outlined in Form 8854 then they may have an additional requirement to file Form 8854 in subsequent years even though they are no longer a US person for tax purposes.

PFIC (Covered or Non-Covered)

There are proposed regulations that would require taxpayers who expatriate to perform tax calculations for all of their PFIC. This is so the IRS can determine whether there is any tax implication as a result of an excess distribution, mark-to-market gain, or QEF income.

Golding & Golding: About Our International Tax Law Firm

Golding & Golding specializes exclusively in international tax, specifically IRS offshore disclosure and expatriation. 

Contact our firm today for assistance.