Last month, we covered a general overview of the exit tax, expatriation, and the distinction between covered and non-covered expatriates.
We will now focus on the ways in which a US citizen can expatriate, and on what date that expatriation becomes effective.
The Internal Revenue Code, or tax law, definition of a US citizen points to the definition from immigration law. This is the tax law definition of a US citizen: 1
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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 USC 1401-1459).
The term “exit tax” is not used or defined in the Code or regulations anywhere. It is a shorthand to describe the federal law that requires some citizens and green card holders who are leaving the US tax system to pay US tax, one last time, on their worldwide assets.
The defining feature of the exit tax is that all assets are treated as if they are sold on the day before citizenship or resident status is terminated. If there are any profits from the pretend sale, you pay tax on those profits. This is the “mark-to-market” feature of the exit tax.... continue reading
Money cannot flow back to the United States from a Covered Expatriate by gift or inheritance, except with a massive tax cost.Section 1. How It Works
Covered Expatriates have a disincentive to make gifts to U.S. persons. They also have a disincentive to leave a bequest to a U.S. person when they die.
Anyone who receives a gift or inheritance from a Covered Expatriate must pay tax at the highest gift tax rate. The recipient pays the tax.
The usual exemptions in the gift tax laws apply. The Covered Expatriate can give $14,000 per year (the current gift tax exemption amount for 2013; this is indexed for inflation) without problem.... continue reading
Covered Expatriates who are beneficiaries of nongrantor trusts face another tax problem. Beneficial interests in nongrantor trusts are subjected to the exit tax. Generally, you face 30% withholding as distributions are made, but you can elect to be taxed in a lump sum.Section 1. Nongrantor Trust Interests
The mark-to-market rules do not apply to an interest in a nongrantor trust. A Covered Expatriate who is a beneficiary of such a trust will be subjected to taxation under special rules.
A nongrantor trust is any trust where the Covered Expatriate is not the owner under the normal grantor trust rules.... continue reading
Deferred compensation items (think “pensions”) will either be taxed as a lump-sum distribution or tax will be withheld as distributions are made to you. This applies, however, only to Covered Expatriates.
This stuff is strange and you really should hire an expert to figure this out for you.Section 1. What Are They?
The mark-to-market taxation rules explicitly do not apply to any “deferred compensation item.” Instead, the tax treatment depends on whether the item is an “eligible deferred compensation item” or an “ineligible deferred compensation item.”
An “eligible deferred compensation item” is taxed at a flat 30% rate. When the payor makes a payment to the Covered Expatriate, 30% of the payment is withheld as tax.... continue reading