[This is Chapter 2 of the Student Edition of my Exit Tax book.]
Tax law has its own definition of “U.S. citizen”, but that definition is lifted wholesale from immigration law’s definition. As a result, knowing whether someone is — or is not — a U.S. citizen will be a fairly easy proposition.
A U.S. citizen, for tax purposes, is defined as follows:
“Every person born or naturalized in the United States and subject to its jurisdiction is a citizen. For other rules governing the acquisition of citizenship, see Chapters 1 and 2 of Title III of the Immigration and Nationality Act (8 U.S.C. 1401-1459).”1
The reference to the Immigration and Nationality Act tells us that the Internal Revenue Code will look to Federal law generally to determine citizenship status for purposes of taxation.
People tend to use two separate concepts (“citizen” and “national”) interchangeably. They are not identical. And — importantly for our purposes — only citizens run afoul of the exit tax.
A “national” of the United States is someone who owes allegiance to the United States because he or she is a U.S. citizen, or (if a noncitizen) for some other reason.2 Thus, a U.S. citizen is always a “national” of the United States.3 The reverse is not true: a U.S. “national” is not always a U.S. citizen.4
This is interesting in an intellectually curious way, but does not matter for exit tax purposes. The Internal Revenue Code only cares about citizens who relinquish or renounce their U.S. citizenship:5
“The term “expatriate” means . . . any United States citizen who relinquishes his citizenship[.]””
This means that someone who is purely a “national” of the United States (and not a citizen) may terminate that status without triggering application of the exit tax provisions of Internal Revenue Code Sections 877A and 2801.6
Since all of the fun and games for tax purposes revolves around citizenship and its relinquishment or renunciation, let’s look at what it takes to be a citizen of the United States.
The first way to become a citizen of the United States is by birth. While birth within the borders of the United States is the simplest way to accomplish this, being born outside the United States under a variety of specified circumstances will also do the trick.7 As this discussion is for tax professionals and not immigration specialists, we will ignore the intricacies of acquiring citizenship by birth, and assume that the individual contemplating expatriation is, in fact, a U.S. citizen.
The second most common way to become a U.S. citizen is by naturalization.8 Again, the details of the naturalization process are unimportant for tax purposes. All that matters is the result — U.S. citizenship has been acquired.
Holding multiple nationalities is irrelevant for U.S. tax law. If you are a U.S. citizen, the other passports you hold will not matter. You are taxable as a citizen of the United States, and for our purposes you will be (if you relinquish your citizenship) an expatriate.
Renouncing U.S. nationality is the most common way to relinquish U.S. citizenship. This requires paperwork and an appearance in front of a consular official. The expatriating act (causing expatriate status) occurs when:
The individual renounces his or her U.S. nationality before a diplomatic or consular officer of the United States pursuant to paragraph (5) of section 349(a) of the Immigration and Nationality Act (8 U.S.C. 1481(a)(5)).
Renunciation is not the only way in which a citizen can voluntarily terminate U.S. nationality. A citizen can relinquish U.S. nationality by taking an action with the necessary intent of thereby terminating U.S. nationality:
The individual furnishes to the United States Department of State a signed statement of voluntary relinquishment of U.S. nationality confirming the performance of an act of expatriation specified in paragraph (1), (2), (3), or (4) of section 349(a) of the Immigration and Nationality Act (8 U.S.C. 1481(a)(1)-(4)).
The specified methods of relinquishing nationality are:
Note that merely taking these acts is not sufficient. The State Department must issue a Certificate of Loss of Nationality confirming the relinquishment of nationality.18
This book is about tax, not the details of nationality law. If you are uncertain about whether your prior actions might constitute a voluntary relinquishment of U.S. nationality, please talk to an immigration law specialist.
A naturalized citizen may relinquish citizenship. But a naturalized citizen also loses citizenship if a court cancels the certificate of naturalization.19
“The opera ain’t over until the fat lady sings” is equally true for the exit tax as it is for opera and basketball. You are not an expatriate until the U.S. government says you are no longer a citizen.
This is critical for tax purposes. A citizen who relinquishes citizenship needs to know exactly when this happened. It is a watershed moment: income earned before that date will be fully taxable by the United States, while income earned after that will only be taxable if it comes from U.S. sources.
The answer to our question (“When, exactly, are you no longer a U.S. taxpayer?”) is derived in typical tax law fashion: by following a trail from one place in the Internal Revenue Code to another place, and reading words in the way they were written. And, as is often the case, the answer is vaguely unsatisfactory, yet apparently correct.
“Expatriation date” is a defined term. It means the date an individual relinquishes United States citizenship.20 Relinquishment of citizenship — for tax purposes, not necessarily nationality purposes — is deemed to occur on the earlier of two dates.21 It is here that things become interesting, if by interesting you mean “No one really knows what the law means.”
The “compare two dates and select the earlier” method works well for someone who relinquishes U.S. nationality by renunciation. There are two possible dates to choose from:
It would require time travel to have a Certificate of Loss of Nationality (that confirms that U.S. nationality has been renounced) issued before event the event of renouncing U.S. nationality. As a result, the earlier of the two events will always be the day that the oath of renunciation occurs before the Consular official.
The other methods of voluntary relinquishment of U.S. nationality create a paradox. If read literally, the exit tax rules create a situation where an individual is not a U.S. national (and therefore not a citizen) under the Immigration and Naturalization Act, but is a U.S. citizen for purposes of taxation.
Relinquishment of citizenship — by methods other than renunciation — is deemed to occur on the date on which you submit paperwork to the State Department making that claim. Specifically, for tax purposes relinquishment of U.S. citizenship occurs on:
“the date the individual furnishes to the United States Department of State a signed statement of voluntary relinquishment of United States nationality confirming the performance of an act of expatriation specified in paragraph (1), (2), (3), or (4) of section 349(a) of the Immigration and Nationality Act (8 U.S.C. 1481(a)(1)–(4))[.]”25
In other words, you do not stop being a U.S. citizen (for tax purposes) when the the relinquishing event occurs. You do, however, cease being a U.S. national on that date because of the Immigration and Nationality Act.
Only applying for a Certificate of Loss of Nationality will terminate your citizenship for U.S. tax purposes, even if that application is filed years after the event.
Consider the following example:
You were born in the United States and became a permanent resident of Canada when you were a child, because your parents moved to Canada.
In 1972 you swore an oath of allegiance to Canada and became a citizen. You intended to terminate all ties to the United States citizenship by doing so, but did not notify the U.S. government that you had acquired Canadian citizenship. You did not receive a Certificate of Loss of Nationality from the United States because you never asked for one.
In 2014, you were asked by your Canadian bank to supply a Certificate of Loss of Nationality to prove that you are not a U.S. person, in order for the bank to take the required steps under FATCA regulations. You could not do so, because you do not have a Certificate of Loss of Nationality.
You then, in 2015, submit the necessary paperwork to the State Department to prove that you committed an act of expatriation in 1972. Specifically, you show that you triggered the requirements of 8 U.S.C. §1481(a)(1) because, with the required intent, you obtained “naturalization in a foreign state upon [your] own application . . . after having attained the age of eighteen years[.]”
In 2016, after routine bureaucratic delay at the State Department, you receive a Certificate of Loss of Nationality.
The State Department will say that you relinquished U.S. nationality in 1972. The law states that it is the relinquishing act — coupled with the required intent — that causes the termination of U.S. nationality. Recall that all U.S. citizens are U.S. nationals. Therefore, if your nationality terminated in 1972, your U.S. citizenship would necessarily terminate in 1972 as well.
The Internal Revenue Code says that you remain a U.S. citizen until the necessary conditions of IRC §877A(g)(4) are satisfied.26 We look there, and discover that there are two dates on which you are treated as relinquishing your citizenship. We are instructed to pick the earlier of the two dates.
The earlier of the two dates is 2015. Therefore, for U.S. tax purposes, you were a citizen of the United States until 2015, even though your Certificate of Loss of Nationality says you relinquished your U.S. citizenship in 1972.
This matters because of tax. The exit tax.
Someone who relinquishes U.S. citizenship after June 16, 2008 is an “expatriate”. Going back to the example, if you relinquished your U.S. citizenship in 1972 when you became a Canadian citizen, then you did not relinquish U.S. citizenship after June 16, 2008, and you cannot be an “expatriate”. The exit tax is meaningless to you; it simply does not apply to you.
But if we take the Internal Revenue Code’s definition, then you relinquished your U.S. citizenship in 2015 — after June 16, 2008 — and therefore you are an “expatriate”.
Your next task is to decide whether you are a covered expatriate or not. If you are a covered expatriate, you do not want to have a 2015 expatriation date, because this will be a costly U.S. tax event.
There are plenty of arguments amongst lawyers about this point. As usual, we wait for the Federal Government to clean up the mess it created. So far we have heard nothing from them.
For someone who claims to have voluntarily relinquished U.S. citizenship before June 16, 2008 — and never received a Certificate of Loss of Nationality — there is a profound dilemma:
Congress has been known to write bad laws in the past. They did it here, and they will do it again in the future.
Citizenship plus an expatriating act means that you are subjected to the exit tax rules. Except for people who have U.S. citizenship forcibly terminated by the government, the expatriating act is that of relinquishment.
The implications of that expatriating act for a (former) U.S. citizen — paperwork and possible tax — are explored in later chapters.