Form 8854

Form 8854

Form 8854

U.S. Citizens and Permanent Residents who are considered long-term residents file IRS Form 8854. The 8854 form is filed in the year after expatriation. For example, if a Long-Term Resident relinquishes citizenship in 2023, then in 2024 when he files his 2023 tax return, he includes Form 8854. We have summarized the Form and instructions below. If you are a covered expatriate becomes more complex. In addition, if you are unable to certify you are 5 years compliant with taxes and offshore reporting, you should speak with a board-certified tax specialist first before filing Form 8854. That is because with the IRS increasing enforcement of offshore accounts and asset reporting – compliance is crucial to avoid offshore penalties, and possible covered expatriate status.

First, What is Expatriation?

Expatriation is the formal process of terminating a taxpayer’s U.S. person status. There are typically two aspects to expatriation: there is the immigration component, in which the taxpayer renounces their US citizenship at an embassy or consulate or files from I407 to terminate their Lawful Permanent Resident Status and then there is the tax component, in which the taxpayer files their final dual-status tax return. There are other methods taxpayers can use to terminate their U.S. person status, but these are the two primary methods that citizens and permanent residents use to determine U.S. person status.  Only certain taxpayers who expatriate are required to file IRS Form 8854. In addition, taxpayers who are neither U.S. citizens nor long-term lawful permanent residents are not required to file Form 8854 no matter how many years they’ve spent residing in the United States.

Who Must File Form 8854?

There are primarily 3 categories of individuals who have the file form 8854.  It is usually reserved for U.S. citizens, lawful permanent residents who are considered long-term residents, and taxpayers who have already expatriated but still maintain certain types of investments in the United States — such as a 401K. Some taxpayers, only have to file the form one year in the tax year they expatriate. Other taxpayers may have an ongoing annual filing requirement. Form 8854 can be a very complicated international information reporting form for some taxpayers who are considered to be covered expatriates.

U.S. Citizens and Long-Term Residents

Primarily, when it comes to having to file the initial expatriation statement in the year of expatriation, the two categories of filers include U.S. citizens and lawful permanent residents who are long-term residents. A long-term resident is a lawful permanent resident who has maintained that status for at least eight of the past 15 years. The IRS takes the position that does not need to be 8 full years. There are some exceptions and limitations that may apply to taxpayers who would otherwise be considered in one of these two categories.

Covered Expatriate Status

Where it begins to get complicated, is when the taxpayer is considered a covered expatriate. Being a covered expatriate means that the taxpayer may become subject to an exit tax at the time they formally give up or terminate their U.S. person status. There are generally 3 categories of individuals who may be considered to be a covered expatriate, and these categories are based on the net average income tax liability over the past five years, the net worth test, and the tax compliance test.

As provided by the IRS:

      • Covered expatriate. You are a covered expatriate if youexpatriated after June 16, 2008, and any of the followingstatements apply.

      • 1. Your average annual net income tax liability for the 5 tax years ending before the date of expatriation is more than$190,000.

      • 2. Your net worth was $2 million or more on the date ofyour expatriation.

      • 3. You fail to certify on Form 8854 that you have compliedwith all federal tax obligations for the 5 tax years precedingthe date of your expatriation.

It is important to note Taxpayers only have to meet one of the three tests — not all three tests.

When is the Form 8854 Filed?

Since IRS form 8854 is a tax form, it is filed with the tax return.

      • For example: if a person formally terminates their US person status in 2024, then they will file Form 8854 in 2025 when they file their 2024 tax year tax return forms.

A Bit More About the Three Covered Expatriate Tests

You are a covered expatriate if you expatriated after June 16, 2008, and any of the following statements apply.

Net Income Tax Liability

Your average annual net income tax liability for the 5 tax years ending before the date of expatriation is more than the amount listed next.

      1. $139,000 for 2008.

      2. $145,000 for 2009.

      3. $145,000 for 2010.

      4. $147,000 for 2011.

      5. $151,000 for 2012.

      6. $155,000 for 2013.

      7. $157,000 for 2014.

      8. $160,000 for 2015.

      9. $161,000 for 2016.

      10. $162,000 for 2017.

      11. $165,000 for 2018.

      12. $168,000 for 2019.

      13. $171,000 for 2020.

      14. $172,000 for 2021.

      15. $178,000 for 2022.

      16. $190,000 for 2023.

Net Worth Test

Your net worth was $2 million or more on the date of your expatriation.

Certification of 5-Years of Tax Returns

You fail to certify on Form 8854 that you have complied with all federal tax obligations for the 5 tax years preceding the date of your expatriation We have prepared additional resources to help you understand the covered expatriate rules.

Exception for Dual-Citizens and Certain Minors

Dual-citizens and certain minors (defined next) won’t be treated as covered expatriates (and therefore won’t be subject to the expatriation tax) solely because one or both of the statements in paragraph (1) or (2) above (under Covered expatriate) applies. However, these individuals will still be treated as covered expatriates unless they file Form 8854 and certify that they have complied with all federal tax obligations for the 5 tax years preceding the date of expatriation as required in paragraph (3) (under Covered expatriate, earlier).

Certain Dual-Citizens

You can qualify for the exception described above if you meet both of the following requirements.

      • You became at birth a U.S. citizen and a citizen of another country and, as of the expatriation date, you continue to be a citizen of, and are taxed as a resident of, that other country.

      • You were a resident of the United States for not more than 10 years during the 15-tax-year period ending with the tax year during which the expatriation occurred.

 For the purpose of determining U.S. residency, use the substantial presence test described in chapter 1 of Pub. 519.

Certain Minors

You can qualify for the exception described above if you meet both of the following requirements.

      • You expatriated before you were 181/2.

      • You were a resident of the United States for not more than 10 tax years before the expatriation occurred. For the purpose of determining U.S. residency, use the substantial presence test described in chapter 1 of Pub. 519

Taxation Under Section 877A

As provided by the IRS:

      • If you are a covered expatriate in the year you expatriate, you are subject to income tax on the net unrealized gain in your property as if the property had been sold for its fair market value (FMV) on the day before your expatriation date (“mark-to-market tax”).

        • This applies to most types of property interests you held on the date of your expatriation. But see Exceptions, later.

        • Gains from deemed sales are taken into account without regard to other rules under the Code. Losses from deemed sales are taken into account to the extent otherwise allowed under the Code.

        • However, section 1091 (relating to the disallowance of losses on wash sales of stock and securities) doesn’t apply.

        • For 2023, the net gain that you must otherwise include in your income is reduced (but not below zero) by $821,000.

          • Exceptions. The mark-to-market tax does not apply to the following.

            1. Eligible deferred compensation items.

            2. Ineligible deferred compensation items.

            3. Specified tax deferred accounts

            4. Interests in nongrantor trusts.

What does this Mean?

When you are a covered expatriate, you must then perform a calculation to determine your net unrealized gain. In other words, you subtract the adjusted basis A/B from the current FMV on the date before expatriation. The gain is then reduced up to $821,000, which means if your total gain is less than $821,000, you do not owe any tax for the MTM – subject to potential tax on deemed distributions for non-MTM items (See next section)

Deferral of the Payment of Mark-To-Market Tax

You can make an irrevocable election to defer the payment of the mark-to-market tax imposed on the deemed sale of property.

If you make this election, the following rules apply.

      • You make the election on a property-by-property basis.

      • The deferred tax on a particular property is due on the return for the tax year in which you dispose of the property.

      • Interest is charged for the period the tax is deferred.

      • The due date for the payment of the deferred tax cannot be extended beyond the earlier of the following dates.

        • The due date of the return required for the year of death.

        • The time that the security provided for the property fails to be adequate.

      • You make the election in Part II, Section D—Deferral of Tax.

      • You must provide adequate security (such as a bond).

      • You must make an irrevocable waiver of any right under any treaty of the United States that would preclude assessment or collection of any tax imposed by section 877A.

Expatriation with Offshore Disclosure

When a person is either considered a U.S. citizen or a Long Term Lawful Permanent Resident (LTR), the formal process of either renouncing US citizenship or relinquishing a green card is referred to as expatriation. When a taxpayer expatriates from the United States there are various tax and immigration requirements that they must be aware of to ensure that the process goes smoothly. One of the biggest hurdles for some taxpayers is that they are not in IRS tax compliance for the five prior years at the time that they expatriate. As a result, this may lead to the taxpayer having to pay an exit tax when they may have avoided attacks if they had been tax-compliant at the time that they expatriated. Let’s look at four common issues involving offshore disclosure with expatriation.

Are You a Covered Expatriate?

When a person is considered a covered expatriate, it means that they may be subject to the exit tax. When at all possible, taxpayers will try to avoid the covered expatriate status – and there are three (3) tests to determine covered expatriate status. If a taxpayer qualifies for either the net worth test, the net income average tax liability test, or the tax compliance test, they will be deemed a covered expatriate — unless an exception or exclusion applies. Thus, taxpayers who would only be considered to be covered expatriates because of the five-year tax compliance rule should be sure they are in tax compliance before they expatriate. This is because it can lead to an exit tax for items such as mark-to-market unrecognized gains; specified tax-deferred accounts, and ineligible deferred compensation (foreign pension). For taxpayers who have unreported foreign accounts, assets, investments, or income they will want to consider one of the offshore disclosure programs otherwise known as international tax amnesty.

Tax Audits of Expatriates

Some taxpayers are under the impression that once they expatriate, they are no longer subject to U.S. taxes. While they may not be subject to US taxes on their worldwide income, their prior-year tax returns that are still within the statutory time may be audited even after they expatriate, including their final year of tax filings. In other words, simply expatriating from the United States does not protect the taxpayer against the IRS auditing them for prior years. If a taxpayer is audited and the IRS determines that they did not properly expatriate because they did not actually meet the tax compliance rule it could lead to extensive fines and penalties after the fact.

U.S./Foreign Assets May be Subject to Levy/Lien

Even after a person expatriates from the United States, they can still be subject to examination and if the IRS determines that taxes or penalties are owed, then the IRS can lean or levy their bank accounts and other US-based assets, along with foreign assets in conjunction with cooperation clauses contained in tax treaties and FATCA agreements.

401K Withholding

 An additional potential tax pitfall is 401K and other eligible deferred compensation that is not subject to exit tax at the time of expatriation for non-covered expatriates. If the person is later determined to be a covered expatriate it will impact their 401K withholding because taxpayers who are determined to be covered expatriates are subject to a 30% withholding and even if the taxpayer is in a treaty country, they cannot take advantage of the treaty election if they are considered a covered expatriate.

Late Filing Penalties May be Reduced or Avoided

For Taxpayers who did not timely file their FBAR and other international information-related reporting forms and do not qualify for an exception or exclusion to FBAR filing, 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.

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