Exit Tax Planning
Exit Tax Planning: The U.S. Exit Tax Planning & IRS analysis is complicated. When a U.S. Citizen or Legal Permanent Resident (Green Card Holder) who is considered a Long-Term Resident (LTR) wants to give up or relinquish their U.S. tax status and escape the clutches of the U.S. tax system, there is a formal process they have to go through in accordance with IRC 877A. This process is called expatriation and generally includes filing Form 8854 and possibly a mark-to-market analysis. U.S. Citizens and Long-Term Residents have to evaluate their financial situation in accordance with the three (3) covered expatriate test to determine whether or not they are considered a covered expatriate, and then possibly become subject to U.S. exit tax at expatriation.
Some Long-Term Residents and U.S. Citizens may become subject to exit tax, but depending on how they plan — they may be able to avoid the exit tax.
Currently, there is no look-back period, per se. Therefore, a person can begin planning anticipation of making a submission in the future.
Can Exit Tax Planning Avoid the U.S. Exit Tax?
Here are some general exit tax planning tips:
Avoid Legal Permanent Residence Altogether with Exit Tax Planning
In order to even be subject to the IRS covered expatriate and exit tax rules, a person must be a U.S citizen or long-term legal permanent resident.
Therefore, the easiest way to avoid the long-term resident exit tax trap it is to simply avoid becoming a legal permanent resident.
This may not always be conducive for work purposes, but it is something to keep in mind — based on the taxpayers’ age individual persons specific goals, facts and circumstances.
8 Years of LPR Status
When a person is a legal permanent resident, they do not become a long-term resident until they have been a legal permanent resident for at least eight of the last 15 years.
Therefore, try to time the status accordingly to avoid the 8-year trap.
*It does not have to be eight full years.
**The LPR does not need to have to reside in the U.S.
Be sure your LPR Status Abandonment is Voluntary
When it comes time to abandon the legal permanent resident status, it must be done voluntarily. One easy way is worth USCIS Form I-407.
Just because a green card expires doesn’t mean a person has voluntarily abandoned their legal permanent resident status for tax purposes.
The green card is used to reflect LPR status.
Reduce Net Worth (Important Exit Tax Planning Tip)
If it is possible for the taxpayer to reduce their net worth to below $2 million, they will not meet the first net value test.
Gifting Money Before Expatriation
One way to reduce net worth is by gifting accounts, money and assets. This can significantly reduce net income tax liability. The key important issue with gifts is to determine whether the taxpayer and spouse are U.S citizens or not.
There is (usually) an unlimited exception when the gift is transferred to the U.S citizen.
Of course, of the US citizen spouse is then going to give up his or her status down the line as well, it could be just kicking the can down the road – which is why exit tax planning is important
When a person has a foreign retirement plan, that is generally going to be considered an ineligible retirement plan, resulting in a deemed distribution for the value on the day before expatriation.
It is important to assess whether or not there is a way for the U.S. person to transfer or gift that money to another person, and therefore avoid the exit tax deemed distribution rules.
As you can imagine, retirement plans are designed to defer income and therefore there could be some serious hurdles in foreign retirement planning.
Possibly, if the individual was able to move the investment accounts from the retirement into a savings account aka cash, without a deemed distribution in the foreign country, then there might be some wiggle room to avoid the deemed distribution, and avoid any unrealized tax, since the money is now in a savings account — but this is can be risky, and the IRS may pullback the money.
Individuals should speak with an attorney form the specific foreign country where the retirement is located – before they expatriate.
Reduce Net Income Tax Liability
Likewise, if a person has a significant tax burden, they may consider ways to reduce their net income tax liability to reduce the 5-year average.
One way — if applicable — is to stop filing married filing jointly, especially when it is the non-covered expatriate spouse with the significant tax liability.
Avoid the 5-Year Trap
Be sure to be in tax compliance for the five years prior to expatriation. If you have been out of compliance and prior years you may consider offshore disclosure to get into compliance and anticipation of expatriation.
Interested in Exit Tax Planning & Expatriation Representation?
Our firm specializes exclusively in international tax and a focus on offshore compliance and expatriation.
Contact our firm today for assistance with getting compliant.