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October 13, 2015 - Phil Hodgen

Naturalized citizens do not get the dual citizen exemption

Hello from Phil and welcome to the Expatriation Only newsletter, published every other Tuesday at 6 am Pacific (Daylight or Standard) time. If you want to stop getting this email, click the Unsubscribe button at the bottom of this email. We have other email newsletters, and you can sign up for them athodgen.com/lists.

When you read this I will be high above the Pacific on a China Eastern Airlines flight to Bangkok via Shanghai. After a few days in Bangkok I will fly to Singapore for a few days. It’s a wonderful world. Round trip: Los Angeles to Bangkok, then Singapore to Los Angeles. Total fare (business class) ~$2,900. How do they do it?​

Thank you on behalf of my wife

And thank you (on behalf of my wife) for the people who contacted me about sourcing women’s apparel from Asia for her small company.

My wife sells high-end casual women’s clothing and is looking for new lines and the possibility of manufacturing her own goods. I look forward to meeting some of you on this trip — so does she.​

I am lucky to have Mary on this trip with me. 🙂 If you know designers or manufacturers in Asia that we should contact, please let me know.

This week: naturalized dual citizens

I received an email asking about the dual-citizen exception. It raised an important point about naturalized dual citizens:

I greatly appreciate the expertise you continue to share on your website regarding expatriation. In particular I thought your article “Why People Expatriate” is one of the fairest analysis on the subject that I have come across so far.

One question that I’m trying to figure out is regarding dual-citizen exemptions. According to code section 877A(g)(1)(B), exit tax exemptions are permitted for certain qualifying dual-citizens by birth, but what exemptions exist for dual-citizens by naturalization?​

If for example, someone was born in country A (yet no longer a citizen of A), and became a naturalized citizen of country B, and eventually also became a naturalized citizen of country C (in this case, country C is the US). What dual-citizen exemptions exist for said person if they want to renunciate C, while still being a citizen plus resident of country B? And in a slightly different scenario, what dual-citizen exemptions exist if while trying to renunciate C, the person is still a citizen of country B, but is now residing in a new country D?

Thank you for your time and consideration!

Best Regards,

Don’t you like how I left the congratulatory bits in? Hey. We have to celebrate these things. 🙂 (Thanks for the compliments, correspondent! It made my day.)​

Short answer​

The short answer to my correspondent’s question is:

Naturalized citizens (of any country) do not qualify for the dual citizenship exception.​

The dual citizen exception for exit tax​

The dual citizen exception for exit tax is a way for someone who is “rich” enough to be come a covered expatriate to nevertheless escape that status.

Remember that if you are a covered expatriate you are treated as if you sold everything you own when you renounce citizenship or give up your green card. Your pensions and other retirement accounts may be taxed as if you received a giant “pretend” distribution of everything in them. Other bad stuff happens.

You want to NOT be a covered expatriate if at all possible.

You become a covered expatriate by being “too rich” or not having all of your tax life in order for the previous five years.​

  • Net worth of $2,000,000 or more. This is the “net worth test” and the number is not indexed for inflation. See IRC §877(a)(2)(B).
  • Average tax liability greater than $160,000. You had a big U.S. tax liability (calculated by looking at the previous five years and — basically — take Line 56 of Form 1040, add the five years’ amounts together and divide by five) which is defined for 2015 as a $160,000 amount. See IRC §877(a)(2)(A).

Someone who satisfies the dual citizen exception is exempt from having to be below those two thresholds. See IRC §877A(g)(1)(B). This is an avenue for wealthy U.S. citizens to pursue if they want to drop their U.S. citizenship and not pay exit tax.

What is required

In order to qualify for the dual citizen exception, two things must be true. The two requirements are at IRC §877A(g)(1)(B)(i). The individual:

(I) 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​

(II) has been a resident of the United States (as defined in section 7701(b)(1)(A)(ii)) for not more than 10 taxable years during the 15-taxable year period ending with the taxable year during which the expatriation date occurs[.]​

I will ignore the second point (“Have you been mostly living outside the United States?”) in order to keep this email short. It is an abominably written slice of prose that I will deal with another time.

Let’s just focus on the first clause.

Became a citizen at birth

The dual citizen exception applies only to people who — because of the fact of birth — acquired citizenship.

E.g., if you were born in the United States you become a citizen automatically. That’s just the way our laws work. If the laws of your parents’ country make you a citizen of that country as well — even if you were born outside the territorial boundaries of that country — then the mere fact of being born to your parents makes your a citizen of that country.​

Or the reverse can be true. You might be born outside the United States to parents who are citizens of the United States and acquire U.S. citizenship in that way. Simultaneously, being born in the country where your mother happened to be at an opportune time (Happy birthday to you!) made you a citizen of that country.

Not naturalization​

Naturalization is the process of taking someone who does not have citizenship in a country, and making them into a citizen. It is a process that is voluntary on the part of the applicant, and is not something that can be automatically gained by right.​

Since naturalization-based citizenship is not an automatically-assigned right occurring because of the fact of birth (via location or identity and citizenship of your ancestors), it will not qualify you for the dual citizenship exception to the exit tax rules.

The certification test still applies​

Even if the dual citizen exception works for you, there is one more element that can make you a covered expatriate. That is the certification test. You must be fully up to date with your tax paperwork and tax payments for the five years prior to the year in which you expatriate. See IRC §877(a)(2)(C).​

A covered expatriate is someone who fails (or satisfies, depending on your point of view) one or more of the:​

  • tax liability test (IRC §877(a)(2)(A)),
  • net worth test (IRC §877(a)(2)(B)), or
  • certification test (IRC §877(a)(2)(A)).

The dual citizen exception eliminates only the tax liability test and the net worth test, not the certification test. IRC §877A(g)(1)(B). This means it leaves the certification test as still applying to an individual, where failure will mean covered expatriate status.​

Disclaimer

​We’re all grown-ups on this bus. This isn’t legal advice and you wouldn’t take it as such. You of course would hire your own expert to figure out exactly what the rules are for your particular situation. Taking advice from a random email newsletter would be daft, especially when doing things wrong could be hideously expensive in taxes, penalties, and interest.

See you in a couple of weeks.

Expatriation