Considering the significant demand for EB-5 visas amongst high net-worth individuals globally, the consideration of relinquishment of US residency or citizenship may not seem noteworthy. There have been instances, however, where those seeking investment immigration in the USA have found the complicated and costly tax structure and related trade-offs to be unacceptably expensive. It is thus important to note that the relinquishment of permanent residency or citizenship from the United States of America involves a hefty exit tax.
The enactment of the Heroes Earning Assistance and Tax Relief Act in 2008 brought in new rules concerning taxes on those who choose to relinquish their American residency or citizenship. The new rules are applicable to all individuals who choose to relinquish residency or citizenship after June 17, 2008.
The gains and profits of such individuals on all sold property will be taxed at the rate applicable to capital gains in the USA without any exclusion whatsoever. As of 2015, the tax is applicable only on gains exceeding $690,000. In many cases, the calculation of gains made by the investor may be delayed until relevant property sold.
Citizens and long-term residents with a Green Card that choose relinquishment are liable to comply with expatriation rules that cover the last 8 years of residence immediately preceding the application for expatriation.
There are three tests that determine whether the individual will be liable to comply with the expatriation rules.
Firstly, a taxpayer with a net worth in excess of $2 million is considered a covered expatriate.
Secondly, the rules will be applicable if the immigrant investor’s tax liability for the five years immediately preceding the year of relinquishment exceeds $160,000. If the individual fulfills the Net Worth test or the Tax Liability test, then the expatriation rules will apply.
Further, there is a third test, called the Certification Test, under which the rules become applicable if the investor fails to certify that he or she is compliant with all federal tax obligations. If the foreign investor was not in compliance with tax laws during residency, then certification becomes next to impossible. This means the expatriation rules will apply to such investors seeking to relinquish their residency rights.
The only exceptions to the rules apply to taxpayers who became US citizens at birth, and to taxpayers who chose to relinquish residency or citizenship before the age of 18.5 years provided they did not qualify for residence under the substantial presence test more than 10 years immediately preceding the year of relinquishment.
The expatriation rules impose an exit tax on net unrealized gain made by the investor on all worldwide properties at the time of termination of citizenship or residency. In simple words, the law presumes that the investor sells all his or her property on the day before the relinquishment takes effect. Subject to a threshold limit of $690,000 as of 2015, the investor is required to pay tax on these gains. Beneficial interests in trusts other than non-grantor trusts are taxed on a market-to-market basis.
The exit tax is calculated on the fair market value of all properties. An expatriate who is covered by these rules has the option of deferring payment of the tax by providing satisfactory security. However, there is no option of evading or avoiding this tax, as all treaty benefits that would have protected the investor are considered waived. Underpayment of tax will result in an additional interest liability. Even items involving deferred compensation, such as an interest in a qualified plan, are subject to the exit tax applicable to those who relinquish residency or citizenship.
