By Lynn M. Eller, CPA, APCIT, PFS

For a variety of reasons, many Americans living overseas contemplate relinquishing their citizenship. This process has a number of ramifications that warrant serious consideration.

This article will focus on the tax impact of renouncing US citizenship — the US Exit Tax.

The US Exit Tax imposed on certain expatriates can be expensive, but careful planning can help to minimize or avoid the tax altogether.

What Is the US Exit Tax?

The primary component of the US Exit Tax that can hit hard is the mark-to-market tax on unrealized gains. Most all of the property of the expat is deemed sold on the day before exit. The deemed gain in excess of an exclusion amount is subject to income tax.  The inflation-adjusted exclusion is $821,000 in 2023.

How to Minimize or Avoid the US Exit Tax

Some expats may be able to minimize or avoid the exit tax by:

If ALL 3 tests apply, the expat is not subject to the exit tax if:

    1. Net worth is less than $2 million.  The base of assets is broad and considers worldwide property including trusts and business interests.
    2. The average US income tax liability over the previous five years is equal to or less than a specified inflation adjusted amount ($190,000 in 2023).
    3. The taxpayer is fully compliant with all Federal tax obligations over the previous 5 years. Compliance includes not only payment of taxes, but also filing of all income tax returns and the foreign bank account reports.

Regardless of net worth and tax liability thresholds, some US citizens may escape the exit tax. These US citizens will still need to have complied with all federal tax obligations for the 5 preceding years.

Two exceptions are:

  1. A person who at birth is a citizen of the US and another country, and is taxed as a resident of the other country at the time of expatriation, may be exempt from the exit tax. To qualify, the person must not have been a US tax resident for more than 10 of the last 15 years.
  2. Minors are excluded from the exit tax if citizenship is renounced before the age of 181/2 and if they have not been a US tax resident for more than 10 years.

Pre-expatriation planning can help reduce the exit tax. Some strategies to consider are:

  1. Waiting until five-year average tax liability is under the threshold, if recent earning years have been high.
  2. Using the US gift exclusion or certain trust structures to reduce net worth if over $2 million.
  3. Deferring income from certain US and foreign retirement accounts which may provide this option.

Regardless of the strategies above, compliance is always required. The IRS provides various relief procedures to catch up tax filings.  One such relief that is commonly used is the Streamline Foreign Offshore Procedures. If eligible for these procedures, there will be no penalties or interest for late filing and paying tax.

Learn More

Whether you are an employee or a retiree, managing your finances and the associated tax implications from abroad can be complicated

Minimize tax consequences and make well-informed decisions by consulting with a tax expert who understands the complexities and can provide options and insightful solutions.

From advice about where to set up a bank account to deciding whether or not to expatriate, with PBMares, you’ll find the guidance you need. Contact us today.