Expatriation Tax: “Covered Expatriates” under Notice 2009-85
As an international tax attorney who constantly deals with expatriates, I am often contacted by individuals who are thinking about renouncing their U.S. citizenship. If you are consideration going down this path, you should understand the very serious legal and tax implications of this strategy. On the tax side, you should be especially aware of the current expatriation tax rules under the Internal Revenue Code (IRC) Sections 877A and 2801, IRS Notice 2009-85 and other relevant IRC sections and regulations.
Statutory Background
The new IRC Section 877A (and corresponding changes to other relevant IRC sections) was added pursuant to Section 301 of the Heroes Earnings Assistance and Relief Tax Act (HEART) of 2008. HEART also added important IRC Section 2801, which imposes transfer tax on U.S. persons who receive gifts or bequests on or after June 17, 2008; this article does not address Section 2801 provisions. In response to HEART, on November 9, 2009, the IRS issued Notice 2009-85 which explains the application and implementation of Section 877A provisions.
This article will cover some of the fundamental rules under IRS Notice 2009-85 (note that other expatriation tax rules will apply depending upon when a U.S. citizen relinquished his or her citizenship, or when an individual ceased to be a lawful permanent resident of the U.S.). Notice 2009-85 is a highly complex and broad IRS regulation; therefore this article will focus its attention solely on the definition of a “covered expatriate”.
This article is not intended to constitute tax or legal advice. Expatriation can involve many complex tax and legal issues, so you are advised to seek an experienced expatriate international tax attorney in these matters.
Definition of “Expatriate” Under IRS Notice 2009-85
It is important to understand that the expatriation tax regime imposed by Section 877A applies only to individuals who fall under the definition of “covered expatriates”. Understanding this terms requires definition of each of its part – “expatriate” and “covered”.
IRC Section 877A(g)(2) provides that the term “expatriate” means (1) any U.S. citizen who relinquishes his or her citizenship and (2) any long-term resident of the United States who ceases to be a lawful permanent resident of the United States (within the meaning of section 7701(b)(6), as amended).
Note that “long-term resident” is not equivalent to “permanent resident” and has its own definition. Pursuant to section 877A(g)(5), a long-term resident is an individual who is a lawful permanent resident of the United States in at least 8 taxable years during the period of 15 taxable years ending with the taxable year that includes the expatriation date. Expatriation date is separately defined by Section 877A(g)(3) as the date an individual relinquishes U.S. citizenship or, in the case of a long-term resident of the United States, the date on which the individual ceases to be a lawful permanent resident of the United States within the meaning of section 7701(b)(6).
Let’s deal with each of these events separately. Section 877A(g)(4) foresees four different possibilities of relinquishing U.S. citizenship (whichever is the earliest date will be treated as the date an individual relinquishes his U.S. citizenship):
a) the date the individual renounces his or her U.S. nationality before a diplomatic or consular officer of the United States pursuant to paragraph (5) of section 349(a) of the Immigration and Nationality Act (8 U.S.C. 1481(a)(5)), provided the renunciation is subsequently approved by the issuance to the individual of a certificate of loss of nationality by the United States Department of State;
b) the date the individual furnishes to the United States Department of State a signed statement of voluntary relinquishment of U.S. nationality confirming the performance of an act of expatriation specified in paragraphs (1), (2), (3), or (4) of section 349(a) of the Immigration and Nationality Act (8 U.S.C. 1481(a)(1)-(4)), provided the voluntary relinquishment is subsequently approved by the issuance to the individual of a certificate of loss of nationality by the United States Department of State;
c) the date the United States Department of State issues to the individual a certificate of loss of nationality;
d) the date a court of the United States cancels a naturalized citizen’s certificate of naturalization.
Definition of “cessation of lawful permanent residency” is even more complex (as many expatriate international tax attorneys and immigration attorneys will readily affirm) and primarily driven by immigration law, in particular Section 7701(b)(6). Pursuant to this section, a long-term resident ceases to be a lawful permanent resident if (A) the individual’s status of having been lawfully accorded the privilege of residing permanently in the United States as an immigrant in accordance with immigration laws has been revoked or has been administratively or judicially determined to have been abandoned, or if (B) the individual (1) commences to be treated as a resident of a foreign country under the provisions of a tax treaty between the United States and the foreign country, (2) does not waive the benefits of the treaty applicable to residents of the foreign country, and (3) notifies the Secretary of such treatment on Forms 8833 and 8854. Again, it is a strong recommendation to contact an expatriate international tax attorney to determine whether your situation fits under the legal definitions provided above.
“Covered Expatriates” Under IRC Section 877A
We have finally come to the final destination of this article – understanding who is considered to be a “covered expatriate”. Generally, expatriate international tax attorneys would turn to IRC Section 877A(g)(1)(A), which defines three categories of “covered expatriate”. Under this section, the term “covered expatriate” means an expatriate who:
(1) has an average annual net income tax liability for the five preceding taxable years ending before the expatriation date that exceeds a specified amount that is adjusted for inflation ($145,000 in 2009) (the “tax liability test”);
(2) has a net worth of $2 million or more as of the expatriation date (the “net worth test”); or
(3) fails to certify, under penalties of perjury, compliance with all U.S. Federal tax obligations for the five taxable years preceding the taxable year that includes the expatriation date, including, but not limited to, obligations to file income tax, employment tax, gift tax, and information returns, if applicable, and obligations to pay all relevant tax liabilities, interest, and penalties (the “certification test”).
For the purposes of the certification test, this certification must be made on Form 8854 and must be filed by the due date of the taxpayer’s Federal income tax return for the taxable year that includes the day before the expatriation date. See a separate article on www.sherayzenlaw.com for information concerning Form 8854.
Note that the determination as to whether an individual is a covered expatriate is made as of the expatriation date (see above for the definition).
Definition of “Covered Expatriate” is Complex; Two Major Exceptions Listed
As expected, there are serious complications with respect to determining eligibility under the “tax liability” and “net worth” tests (generally, Section III of IRS Notice 97-19 should be consulted) – you will need to discuss your particular situation with an expatriate international tax attorney to determine whether you fall under any of the three categories.
I will solely point out the most glaring exceptions to the tax liability test and net worth test. IRC Section 877A(g)(1)(B) provides that an expatriate will not be treated as meeting the tax liability test or the net worth test of section 877(a)(2)(A) or (B) if:
(1) the expatriate became at birth a U.S. citizen and a citizen of another country and, as of the expatriation date, continues to be a citizen of, and is taxed as a resident of, such other country, and has been a U.S. resident for not more than 10 taxable years during the 15 taxable year period ending with the taxable year during which the expatriation date occurs; or
(2) the expatriate relinquishes U.S. citizenship before the age of 18.5 (eighteen and a half) and has been a U.S. resident for not more than 10 taxable years before the date of relinquishment.
Contact Sherayzen Law Office for Legal Help with Expatriation Issues
If you are considering expatriation as a tax strategy, you need to be aware of the very complex legal and tax issues related to expatriation. This why you need to contact Eugene Sherayzen, an experienced international tax attorney at Sherayzen Law Office; our international tax firm will thoroughly analyze the expatriation option for you, explain to you the consequences of taking such a step, and (if you still wish to proceed with the strategy) guide you through the entire process of expatriation, including completing all necessary tax and legal forms.