New Exit Tax May Cost Expats Dearly!
• An individual
born with citizenship both in the United States and in another country.
They are exempt provided that (a) as of the expatriation date, the individual
continues to be a citizen of, and is taxed as a resident of another country,
and (b) the individual was not a resident of the United States for the
five taxable years ending with the year of expatriation.
is on the verge of passing an outrageous law that would impose the first-ever
"exit tax" on expatriates (former U.S. citizens or long-term residents).
Like many outrageous
laws, this ridiculous bill is cleverly hidden within another Act. In this
case, it's buried in the "Small Business and Work Opportunity Act."
Sounds innocent enough right?
The Small Business
and Work Opportunity Act includes an increase in the minimum wage along
with tax breaks for small businesses. That means once this bill emerges
from the conference committee, and both houses of Congress approve the
bill, it would be political hari-kari for President Bush not to sign it.
this bill is stuck in a conference committee in Congress. If it passes,
it could include a little-known provision, which demands that expatriates
pay a tax on all unrealized gains of their worldwide estate. The
gains will be assessed based on the fair market value of the expatriate's
assets and the tax due within 90 days of expatriation.
tax applies to assets held in retirement plans and trusts, both domestic
and foreign. The only thing it doesn't apply to is U.S. real estate investments,
which remain subject to U.S. tax under existing law.
the phantom gain would be taxed as ordinary income (at rates as high as
35%) or capital gains (at either a 15% or 25% rate), as provided under
current law. When the assets are actually sold, no further U.S. tax
will be due (although the gain might be taxed again by the country in which
the expatriate resides, leading to double taxation on the same income).
of the bill that applies to retirement plans is particularly unfair.
First, these gains are generally taxed at the expatriate's top marginal
tax rate - up to 35% - and usually aren't eligible for the more favorable
15% long-term capital gains rate. Also, expatriates who must withdraw
assets from retirement plan to pay this tax, and are under 59-1/2 years
old, will be hit with a 10% penalty tax on top of the exit tax. And
finally, when distributions are actually made, the country where the expat
resides could tax those distributions a second time. Talk about legislative
In all cases,
the first US$600,000 of gains will excluded from the exit tax (US$1.2 million
in the case of married individuals filing a joint return, both of whom
relinquish citizenship or terminate long-term residence). That exclusion
will increase each year as the cost of living adjusts.
There are two
exemptions to this horrific bill. Unfortunately, neither of these
exceptions applies to most "covered expatriates:
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• A U.S. citizen
who relinquishes U.S. citizenship before reaching age 18 1/2, provided
that the individual was a resident of the United States for no more than
five taxable years before he or she expatriated.
the "Billionaire's Loophole"
over expatriation wouldn't even exist if there weren't an existing quirk
in the U.S. Tax Code. U.S. citizens, unlike citizens of almost every
other country in the world, are taxed on the basis of their citizenship,
not their residence.
living in the United Kingdom, Japan, Australia, or almost every other country
merely need to leave those countries and become non-resident for an extended
period to stop paying taxes in their home country. But not
the United States: it taxes all the earnings of all its citizens, whether
they live in Miami, Montreal, Moscow, or Mumbai.
Since the publication
of an article in Forbes magazine in 1994 describing how a handful of billionaires
had given up their U.S. citizenship to escape the clutches of the IRS,
the image of former U.S. citizens living tax-free in some tropical paradise
has been an irresistible populist target.
a now-retired Florida Democrat, referring to expatriates, spoke of
"the despicable act of renouncing allegiance to the United States."
Former Congressman Rep. Martin Frost, a Texas Democrat, supported an exit
tax on the basis of "basic patriotism and basic fairness."
like these, it's not surprising that our political solons have decided
to enact an exit tax on "rich" expatriates. However, the tax will
affect many more than just a handful of wealthy Americans who become tax
exiles by giving up their U.S citizenship. It will also affect hundreds
of thousands of wealthy long-term green card holders (many of whom no longer
reside in the United States) who are not U.S. citizens.
it's very likely that this new exit tax will inspire these wealthy non-citizen
residents to leave the U.S., if they haven't already lived here for eight
years. Not to mention, it will discourage successful foreigners from
taking up residence in the U.S. at all.
You Supposed to Pay This Exit Tax?
But if you're
affected by the exit tax, there are much greater practical problems to
consider. The most obvious one is how do you come up with the cash
to pay the tax without selling the underlying assets? For illiquid,
highly appreciated assets, such as a closely held business, it may be impossible
to come up with the necessary cash to pay the tax.
For such situations,
there are provisions in the law to permit deferral of the exit tax, but
they come with a stiff price.
• First, interest
is charged for the period the tax is deferred at a rate two percentage
points higher than the rate normally applied to individual underpayments
deferral is possible only if the expat invests in a U.S. Treasury bond
that matches the amount of the deferred tax. For owners of illiquid
property that can't easily be sold or borrowed against, the only way they
will be able to post the necessary bond will be to pledge the property
itself to the U.S. government.
a stinger to consider for those who might be tempted not to comply.
This new law states that anyone who does not comply with the new U.S. Tax
Code will be denied entry to the United States.
an exit tax, the United States joins the ranks of Nazi Germany and the
former Soviet Union, which confiscated part (and sometimes all) of the
assets of wealthy emigrants. Apartheid South Africa imposed a similar
levy on emigrating whites.
And for what?
The exit tax is estimated to raise only US$250 million over the next five
years. That's a drop in a bucket compared to the annual US$250 billion
federal deficit. Of course, these estimates don't include the losses
in revenue from highly talented individuals who may not ever establish
U.S. residence or citizenship because they want to avoid such harsh tax
of Hope - Buried in Our Constitution
glimmer of hope is that U.S. courts may declare the exit tax unconstitutional.
The right to expatriate is fundamental in American law. Indeed, the
Declaration of Independence cited it as a "law of nature." The U.S.
Constitution guarantees the right to end U.S. citizenship, to live and
travel abroad freely, and to acquire citizenship from other nations.
All of these rights have been affirmed by the U.S. Supreme Court.
highest court have the courage to defend what populists scornfully refer
to as the "billionaire's loophole?" I'm not holding my breath-and
neither should you.
is the author of many books and reports on privacy and asset protection,
including The Lifeboat Strategy. The former editorial director for
The Sovereign Society, Mark now serves as a Wealth Preservation and Tax
Consultant to the Society. You can contact him by email at firstname.lastname@example.org
or visit his website at http://www.nestmann.com
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