Expatriation Tax

March 19, 2012

The Internal Revenue Code imposes a tax on an individual who abandons his U.S. citizenship for the principal purpose of avoiding U.S. taxes. The expatriation tax applies to citizens who lose U.S. citizenship and to long-term permanent residents who terminate U.S. residency or who are treated as residents of another country pursuant to a treaty and who fail to waive treaty benefits. This tax may be assessed on U.S. source income for 10 years after the loss of the individual's citizenship or residency.

The Internal Revenue Service presumes a tax avoidance purpose if the individual's annual net income tax for the five years before termination exceeds an amount set by the statute ($124,000 plus a defined inflation) or the individual's net worth on the date of termination was more that a statutory amount ($ 2,000,000 plus a defined inflation).

Exemptions

If an individual meets either of the tests leading to a presumption of tax avoidance as the principal purpose for renouncing citizenship, he or she may be eligible to request a ruling from the IRS that he or she did not expatriate to avoid U.S. taxes. The request must occur within one year from the date of expatriation. The IRS may grant a favorable ruling exempting an individual from the expatriation tax if the individual meets one of the following requirements: he or she was born a U.S. citizen and a citizen of another country and retains citizenship in the other country; he or she becomes (not later than the close of a reasonable period after loss of U.S. citizenship) a citizen of the country of the individual's birth, the birth country of a spouse, or the birth country of either parent; he or she loses citizenship before age 18 1/2; he or she was present in the United States for 30 days or less each year of the 10-year period; or he or she is exempted by regulation.

An individual subject to the expatriation tax is taxed as if he or she had been a citizen or resident during the 10-year period following the loss of citizenship or residency, but only if that tax is greater than the tax imposed on nonresident aliens. The expatriation tax applies to the individual's gross income effectively connected with the conduct of a U.S. business or trade as well as U.S. source income that is not effectively connected with a U.S. business or trade. Income subject to the tax includes any gain realized on the disposition of property or any income from property contributed to specified foreign corporations during the 10-year period. The expatriate subject to taxation is entitled to deductions to the extent that they are allocable to gross income, but any unused capital losses may not be carried over to another tax year. In addition, the expatriate may be subject to the alternative minimum tax.

Relief from double taxation of income is provided by a credit for foreign taxes paid on income that is subject to U.S. taxation solely by reason of the expatriation tax.

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