Tax Implications of Renouncing your US Citizenship
By Nathan Savransky, CPA (US)
As a result of the increasingly complex FATCA rules, many Americans abroad are considering the option of renouncing their U.S. citizenship in order to avoid being subject to US taxation on their worldwide income. This article discusses the tax implications of relinquishing your US citizenship and the steps that need to be followed in order to effectively expatriate for tax purposes.
Officially renouncing your US citizenship through the local consulate does not automatically exempt you from US taxation on worldwide income. In order to expatriate for tax purposes, taxpayers must file a final 1040 for the year they renounced their citizenship and file form 8854 (Expatriation Statement) with the IRS. The main purpose of this form is to confirm that you have complied with all federal US tax obligations for the last five years preceding your expatriation. Failure to file this form will render you a US person for tax purposes until the form is filed.
If you have not filed tax returns for the last few years, you will need to get back to compliance before starting this process.
American expats should also be aware that the IRS imposes an exit tax on certain high net worth individuals. Taxpayers whose net worth was $2 million or more on the date of their expatriation or whose average tax liability for the last five years exceeded $160,000 are subject to an exit tax on the net unrealized gain from most types of assets* as if the property had been sold at its fair market value on the date of their expatriation (i.e. the FMV of your assets minus their cost basis). This gain is only taxable to the extent that it exceeds the IRS annual exclusion, which is $690,000 for 2015.
These expatriation tax rules also apply to long-term residents (individuals who have been lawful permanent residents of the United States for at least 8 of the last 15 years).
My take on this:
American expats are subject to serious tax disadvantages. These include estate tax, 15.3% tax on self-employment income (in countries with no social security agreement like Israel), and PFIC tax on foreign mutual funds among others.
The drawbacks of US citizenship are not only on a tax level. American citizens residing abroad are barred from investing through foreign financial institutions that are not fully compliant with FATCA and several US brokerage companies.
The decision to give up your US citizenship (assuming you have a foreign passport) is a very personal one and there is no right or wrong answer that applies to everyone. The main thing is to bring all the factors into consideration (financial, tax and personal) and make a rational choice that will ensure a better future for yourself and your family.
As always, I cannot overemphasize the importance of getting professional advice and advanced tax planning. The complexities of this topic go beyond the scope of this article. If you have any questions, feel free to call our Israeli office (972-55-6682243) or e-mail me at nathan@savranskypartners.com.
In my next article, I will give you an overview of the different options available to taxpayers who have not filed tax returns and FBARs in the past and want to get back to compliance.
*Exceptions to this rule are deferred compensation items, specified tax deferred accounts and interests in non-grantor trusts. These assets are subject to special tax rules upon expatriation. There is also the option of deferring the tax on selected property until the property is disposed of. A tax professional should be consulted.
The content of this article is intended to provide general information on the subject and is not a substitute for a tax consultation