In terms of tax compliance, what level must be reached in order to go ahead with the renunciation?
Firstly, expatriation, from an immigration perspective, entails going to the embassy or consulate, having an interview, and giving up your citizenship. In terms of taxes, there are several things which need to be done so the IRS knows that you have given up your citizenship, and then they will release you from the tax rules you would be under as an US citizen. There are several key things to look at; the first of these is that you have filed your tax returns correctly for the last five years. A sixth year of returns does also need to be filed in the year that you actually expatriate. On those tax returns, we need to ensure that you have never paid more than $150,000 USD in tax in any one of those years (this changes with inflation). Another important thing to check is your net worth on the day that you expatriate. If it is under $2 million USD, the process is simple. If it is more than $2 million USD, you can be charged with an exit tax. This is worth planning ahead of time in order to avoid the tax.
What is a simple way to calculate your net worth to check it is under $2 million?
A simple way of doing this is to take an inventory of your current assets. You may not be able to calculate the exact figure, but you should be able to come up with a good estimate relatively easily. It should involve adding up the value of your home or real estate, the fair market value of any retirement accounts, household goods, other investments in your portfolio, but also being aware of any liabilities such as a mortgage, which would decrease the total net worth.
If someone has calculated their net worth, and the total appears to be nearer $3 million, is there anything they can do about exit tax?
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There are things that can be done about exit tax, but it does require some planning ahead of time, as if you have already gone to the consulate, you are probably too far through the expatriation process to do anything about the tax. The best tool to remove assets from your name is gifting, and currently US citizens are allowed to give up to $11 million dollars. With proper planning ahead of time, it is certainly the best way to get assets out of your name tax-free, by gifting those assets to a non-American spouse or relative.
There is an extra tax return to do in the year that you renounce your citizenship. What do we need to know about this?
In the year you expatriate, what you need to file is a dual-status tax return. It informs the IRS that you are a US citizen, and thus a tax resident for at least a portion of the year, but then also informs them that status has changed at some point during the year. It is important on that tax return to include form 8854. Form 8854 covers the relevant checks that need to be made before expatriation, that you have filed for the previous five years, the amount of tax you have paid in each of those years and gives the IRS an idea of what your net worth is. It allows the IRS to see that you have fulfilled all of your tax obligations.
As an example, if somebody renounced their US citizenship in 2020, and had the interview at the embassy on the 1st March, would the final tax return be from the 1st January – 1st March?
The tax return itself will cover the full calendar year, but the individual would only be taxed on their worldwide income for the portion of the year they were a US citizen, so from the 1st January till the 1st March. However, it has the same deadlines as any other tax return, so cannot be filed till the following year. We also recommend anyone who is a US resident for any portion of the year, no matter how short, submits an FBAR.
What is going to happen if you decide to go to the embassy and renounce your citizenship, and then decide to not fulfil any of the remaining tax obligations?
If you renounce, and you have not taken care of your tax obligations, you will basically not be able to certify the fact that you dutifully completed five years of tax returns before expatriating. This puts you into a category known as a “Covered Expatriate”, which has significant tax consequences, because if the IRS discovers this, you will have to pay an exit tax. When we are discussing tax obligations, we do mean your income tax returns, but on top of that, any other filing requirements you may have, such as trust tax returns, should also be fulfilled.
What happens if you do not do anything at all to fulfil your tax obligations? What can they do if you are now living abroad?
The reach of the IRS is wide. Many governments around the world do have information sharing agreements with the US government, so information will be fed back to the IRS. It would be tough to open a bank account in any country without having to answer questions about your US citizenship status. In order to do that with a clear conscience, and without risking perjury, you really should fulfil your US tax obligations before expatriation.
Who falls into the “Covered Expatriate” category?
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Individuals who do not file form 8854 in their final year of US citizenship, have not fulfilled other tax obligations, or those who have a net worth of more than $2 million USD, are known as Covered Expatriates. Form 8854 covers the three questions; have you filed tax returns for the five previous years, how much did you pay on those tax returns, and whether or not your net worth is over $2 million USD. If you fail any one of these, you will be liable to pay an exit tax. For the exit tax, the IRS imagines you sold all your assets on the day of expatriation, and tax you on that amount. Even though you have actually sold your assets, or you may not have the finances to pay, the IRS will still expect payment, which is known as a mark-to-market tax. We want to work with all our clients to strategize ahead of time in order to avoid this tax as much as possible.
What is the difference between renouncing and relinquishing citizenship?
There is a definite distinction between renouncing and relinquishing. Someone who relinquishes their US citizenship must have done something in order for that to happen. The State Department has a published list online of acts which will lead to an individual having to relinquish their citizenship. This includes actions such as serving in another country’s military or donating to a terrorist organization. Renouncing your US citizenship is definitely the better option!
What about those who have dual nationality? Are there any exceptions for them?
If you hold a dual citizenship, and still reside in the non-US country, the $2 million USD net worth limit does not apply, so you would not be subject to an exit tax under that test.
Can you still collect social security after you have renounced your citizenship?
Your social security benefits are unrelated to your citizenship. As long as you have worked for forty quarters in the US, or you have worked for enough time in the US and you live in a country with a totalization agreement, the US will work with that country to harmonize your retirement benefits, and you can access these even if you are not a US citizen.
Can you still travel to the US after you have renounced your citizenship?
It depends what country you are coming from, and what passport you now have. It can be worth speaking to an immigration attorney or checking the travel requirements before booking any travel to the US, but you are unlikely to have any issue travelling back to the US after you have expatriated.