Giving Up U.S. Citizenship

There are essentially two steps a taxpayer must take to surrender their U.S. Citizenship, a process commonly referred to as “Expatriation.”  The first part involves the legal and political aspects of surrendering citizenship, which is handled by the U.S. State Department through the United States Embassies or Consuls throughout the world.  The second part involves filing the required forms with the Internal Revenue Service and satisfying their requirements.

It is important to fully consider the entire process before taking any steps towards expatriation.  

When a U.S. citizen expatriates they fall into one of two categories for tax purposes.  They are either an “expatriate” or a “covered expatriate”.

A covered expatriate is generally someone who upon expatriation has an average U.S. tax liability for the last 5 years greater than $124,000 or who has a net worth in excess of $2,000,000 on the date of expatriation.  An individual will also not be considered a covered expatriate if they meet certain dual citizen and residency requirements.  The tax issues relating to covered expatriates are quite complex and professional advice from someone experienced in these matters can result in significant tax savings.

The issues that can arise if a person is considered a covered expatriate include:

• Deem disposition of assets on the expatriation date which can result in taxable capital gains.
• Inclusion on the final U.S. return of pension accounts.
• Taxes payable by U.S. resident recipients of gifts or inheritances if received from someone who is a covered expatriate.  This can be a big problem for expatriating individuals whose kids and family are U.S. residents or citizens.

If an individual is not a covered expatriate the tax and legal process for relinquishing citizenship is fairly straight-forward and while there are administrative hoops to deal with, as long as the individual perseveres, the process is relatively painless from a tax perspective.

It is important to note that an expatriate will automatically become subject to the covered expatriate rules if he/she fails to certify on a particular form (Form 8854) that they have satisfied their U.S. income tax filing requirements for each of the last 5 years prior to expatriation.  This rule makes it critically important for an expatriate to be current with their U.S. tax filings before starting the expatriation process.