Who and What is an Expatriate for Tax Purposes, Examples

Who and What is an Expatriate for Tax Purposes, Examples

What is an Expatriate for U.S. Tax Purposes?

When taxpayers are considered ‘U.S. persons for tax purposes,’ the United States taxes them on their worldwide income (exceptions and exclusions may apply). However, once a person formally expatriates from the United States, generally, unless they take action to re-ignite their U.S. person status, they will only be taxed on their U.S.-sourced income and not their worldwide income. Especially for taxpayers who earn a significant portion of their wealth from outside the United States, and in low-tax countries, this can result in a significant tax benefit. When determining who is an expatriate for tax purposes, it is important to distinguish between individuals taxed on their worldwide income and those taxed only on their U.S.-sourced income. Since expatriation can be a very complex topic, we wanted to provide some introductory examples on who is subject to expatriation/exit taxes.

U.S. Visa Holder

If a person has only been a U.S. visa holder, then they are not considered to be an expatriate who can become subject to Form 8854/expatriation tax, no matter how long they held their visa for — presuming that they did not also have a Green Card and otherwise met the eight-year test.

• • • Example 1: Adam has maintained several different types of visas over the past 20 years and has accumulated a significant amount of wealth, but he was never a green card holder. Therefore, he would not be subject to the exit tax.

    • Example 2: Adrian is a permanent resident for the past three years and was an H-1B holder for the nine years preceding her becoming a green card holder. Even though she has been living in the United States for 12 years and is currently a green card holder, she has only had her green card for three years, so she is not subject to the exit tax.

Permanent Resident (Under 8 Years)

• • • Example 1: Brian is a permanent resident who has maintained his permanent residency status for six years. Even though Brian has a net worth that far exceeds the covered expatriate threshold and significant unrealized gains in stocks and other assets he acquired, he is not subject to an exit tax.

    • Example 1: Brianna has been a permanent resident for the past four years. She was also a permanent resident for five years prior (but within the 15-year long-term residence threshold). Because Brianna was a permanent resident for nine of the past 15 years, even though it was not consecutive — she is considered a long-term resident who may be subject to the exit tax.

Permanent Resident (8+ Years)

• • • Example 1: Charlie has been a permanent resident for eight of the past years, even though for a few of those years he did not live in the United States for the full six months as required for a permanent resident holder. Nevertheless, Charlie is still considered to be a permanent resident, and these years count toward the eight-year long-term resident rule.

    • Example 2: Christine had a green card that expired, and she did not renew but she also did not take any affirmative action to return the green card by filing an I-407 or equivalent procedure. Under these circumstances, the IRS takes the position that since no proactive action was taken to cancel the Green Card, the years that the green card had already expired but had not been returned to the US government, or are still counted toward the 8 out of 15 long-term resident rules.

United States Citizen

• • • Example: David is a U.S. citizen and therefore is automatically subject to the potential covered expatriate tests, whether he lived in the United States or not, and whether or not he was born a U.S. citizen or naturalized. Nevertheless, depending on David’s specific facts and circumstances, he may qualify for the covered expatriate exception if he is a dual citizen living outside of the United States and meets the strict requirements of the exception.

Covered Expatriate

• • • Example: Eve is a U.S. citizen with a net worth of $10 million and a significant amount of ineligible deferred compensation and unrealized capital gain. Since Eve is considered a covered expatriate, she may owe exit tax on the unrealized gain and the pretend distribution of her ineligible deferred compensation. In addition, in the future, when she receives Social Security from the United States, the U.S. will withhold 30%, and Eve has irrevocably waived the right to rely on a treaty to reduce the withholding amounts because she was a covered expatriate at the time she expatriated.

Non-Covered Expatriate

• • • Example: Frank is a U.S. citizen who is not considered a covered expatriate. Therefore, even though Frank lived his entire life in the United States, since he is not not considered a covered expatriate — he is not subject to any exit tax. If Frank was to relocate to a treaty country, then when he begins receiving Social Security, he may be able to make a treaty election to reduce the withholding on the distributions he receives from Social Security.

Expatriation Can Get Very Complicated

These are just some basic examples to illustrate how the rules work. Depending on each taxpayer’s specific facts and circumstances, there may be various mechanisms available to reduce or eliminate the exit tax. Ideally, the taxpayer may try to avoid the exit tax altogether by planning not to become a permanent resident or U.S. citizen, although inevitably that may not be feasible depending on their overall life goals and residency requirements.

Late Filing Penalties May be Reduced or Avoided

For Taxpayers who did not timely file their FBAR and other international information-related reporting forms, the IRS has developed many different offshore amnesty programs to assist taxpayers with safely getting into compliance. These programs may reduce or even eliminate international reporting penalties.

Current Year vs Prior Year Non-Compliance

Once a taxpayer missed the tax and reporting (such as FBAR and FATCA) requirements for prior years, they will want to be careful before submitting their information to the IRS in the current year. That is because they may risk making a quiet disclosure if they just begin filing forward in the current year and/or mass filing previous year forms without doing so under one of the approved IRS offshore submission procedures. Before filing prior untimely foreign reporting forms, taxpayers should consider speaking with a Board-Certified Tax Law Specialist who specializes exclusively in these types of offshore disclosure matters.

Avoid False Offshore Disclosure Submissions (Willful vs Non-Willful)

In recent years, the IRS has increased the level of scrutiny for certain streamlined procedure submissions. When a person is non-willful, they have an excellent chance of making a successful submission to Streamlined Procedures. If they are willful, they would submit to the IRS Voluntary Disclosure Program instead. But, if a willful Taxpayer submits an intentionally false narrative under the Streamlined Procedures (and gets caught), they may become subject to significant fines and penalties. 

Need Help Finding an Experienced Offshore Tax Attorney?

When it comes to hiring an experienced international tax attorney to represent you for unreported foreign and offshore account reporting, it can become overwhelming for taxpayers trying to trek through all the false information and nonsense they will find in their online research. There are only a handful of attorneys worldwide who are Board-Certified Tax Specialists and who specialize exclusively in offshore disclosure and international tax amnesty reporting. 

Golding & Golding: About Our International Tax Law Firm

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

Contact our firm today for assistance.