Of the three tests that an expatriate must meet to be non-covered, the certification test is the most difficult to understand. It is also the only test to which there are no exceptions – fail this test, and you are a covered expatriate.
Today’s topic will be limited to a general discussion of what it means to pass this test.
Expatriation and the three tests
Expatriation occurs when a US citizen or “long-term resident” terminates his or her citizenship or permanent residence. 1
If the expatriate meets certain thresholds for net worth and the amount of tax they have been paying over the last five years, he or she will be what is known as a covered expatriate. Covered expatriates must pretend they sold all their worldwide assets at the time of expatriation and pay tax on the gains, so it is generally bad to be covered.
The thresholds for net worth and tax paid are known as the net worth test and the net tax liability test. Most new clients who approach us are already at least somewhat familiar with these and pre-qualify themselves as either covered or non-covered expatriates based on these two tests.
There is a third test that is more difficult to know if you have passed: the certification test.
No way out of exit tax if you fail the certification test
The two financial tests – whether your net worth and net tax liability exceed certain thresholds – can be avoided if you meet certain criteria. If you are under age 18 ½ when you expatriate (and meet certain residency requirements), or if you were born a dual citizen (and meet certain residency requirements), you will be a non-covered expatriate even if you exceed the thresholds.
But there is no exception to the certification test. Anyone who fails this, even if they meet exceptions to the other tests, will be a covered expatriate and will be subject to the exit tax.
Certification test basics
The certification test asks you to certify under penalty of perjury that you have complied with all your tax obligations for the past five years before expatriation.
On the face of it, this seems quite simple: have you been filing your tax returns? If the answer is yes, you would probably assume that you have met the certification test unless you know of things that you have omitted from your returns.
But this can get rather tricky. Most people who are expatriating have at least some aspect of their financial lives that is cross-border; perhaps it is a US citizen who moved overseas and started a business, or someone who moved to the US to live and work and had a green card while here.
It is when you get into the world of cross-border tax that things start to get a little more complicated, a little less predictable, and a little more difficult to get right.
To pass the certification test, an expatriate must be able to certify that they have met all the requirements of Title 26. Title 26 is where the Internal Revenue Code is found. To meet all the requirements of Title 26, someone would have to report all their income correctly, file all necessary information returns, and pay all tax, penalties, and interest due. This includes other types of tax, as well – gift tax and employment tax – so make sure those are taken care of in addition to your income tax.
The easy stuff
Most of the things you need to check on the certification test will be relatively easy. Here are some questions to ask yourself when looking at your US tax returns (this is by no means an exhaustive list – not even close).
- Did you report your foreign accounts on Form 8938?
- Did you report your foreign salary income and take the foreign earned income exclusion correctly?
- Did you file Form 8621 to report your foreign mutual funds?
- Did you report all your cryptocurrency transactions, and did you report accounts on foreign cryptocurrency exchanges as required?
- Did you report your ownership interest in foreign businesses?
- Did you report inheritances or gifts you received from foreign persons?
The hard stuff
Some of the things you need to check will be more difficult, and you will likely need the expertise of a professional to help with these. Here are some questions to think about (again this is quite far from an exhaustive list).
- Did you set up or contribute to a foreign trust?
- Are you a beneficiary of a trust?
- Do you have a foreign pension or retirement plan? If so, how did you report it on your US tax return? Does it qualify as a pension under a tax treaty, or does it qualify for some other tax treatment under the US tax system?
- Does your nonresident spouse have a foreign business, and did you ever report anything related to that business under the attribution rules?
Most of what I am pointing to here are items that an ordinary person who doesn’t have years of experience preparing US tax returns to report foreign assets and income would have no reason to know about.
It is these types of items that tend to be problematic in the certification test review.
How to know if you’ve passed
There are a couple safeguards you can use to decide with a reasonable degree of certainty whether you have passed the certification test. Please note these safeguards only work if you have hired a professional to prepare your tax returns.
- Did you tell your tax preparer about every tiny detail of your financial life?
- Does your tax preparer have experience and expertise in preparing tax returns for individuals with cross-border stuff?
If your answer to both questions is a very resounding “yes” with no doubts whatsoever, then you can probably reasonably assume that you have passed the certification test. If you have any doubts at all, I highly recommend checking with a professional before expatriating.
Some words of caution
As always, thanks for reading, and keep in mind that the several items I mentioned in this post are just a tiny, tiny fragment of the potential ways you can mess up your tax returns and fail the certification test. Don’t use this as your checklist. Don’t rely on this to make sure you are safe. Hire a professional to provide advice specific to your situation.