The IRS has announced new relief procedures for certain individuals who have relinquished their U.S citizenship but want to come into compliance with their U.S. income tax and reporting obligations and avoid being a “covered expatriate” under Code Sec. 877A. The new “Relief Procedures for Certain Former Citizens” are available only to individuals, not to estates, trusts, corporations, partnerships, or other entities.
The relief is intended for individuals who may have lived outside the United States most of their lives and might not have been aware that they had U.S. tax obligations. Those who qualify for relief will not be assessed penalties and interest.
Tax Treatment of Citizens and Expatriates
With very limited exceptions, all persons born or naturalized in the United States are U.S. citizens. A person born abroad to a U.S. citizen parent acquires U.S. citizenship at birth if the parent or parents meet certain conditions. Regardless of whether they live in the United States or not, all U.S. citizens must report and pay to the IRS all applicable taxes on their worldwide income.
Individuals who renounce or relinquish U.S. citizenship face U.S. tax consequences. Under Code Sec. 877A, if an individual is a covered expatriate, he or she generally:
- is treated as having disposed of all worldwide assets on the day before his or her expatriation date;
- must pay a mark-to-market tax on the gain (subject to an exclusion amount) from this deemed disposition; and
- is subject to additional tax consequences on certain deferred compensation items and trust distributions.
Code Sec. 877(a)(2) defines a “covered expatriate” as any U.S. citizen who relinquishes citizenship, or any long-term U.S. resident who ceases to be a lawful permanent resident of the United States, if the individual meets any of the following tests:
- The average income tax liability test: the individual’s average annual net income tax liability for the five years before the year of expatriation exceeds a specified inflation-adjusted amount (e.g., $161,000 for 2016, $162,000 for 2017, $165,000 for 2018, $168,000 for 2019);
- The net worth test: the individual’s net worth is $2 million or more as of the expatriation date; or
- The certification test: the individual cannot certify, under penalties of perjury, on Form 8854, Initial and Annual Expatriation Statement, that he or she is compliant with all federal tax obligations for the five tax years before the tax year that includes the expatriation date.
The relief procedures are available only to individuals whose past compliance failures were due to non-willful conduct. Further, to be eligible for relief, the individual must:
- have relinquished U.S. citizenship after March 18, 2010;
- have no filing history as a U.S. citizen or resident;
- have not exceeded the average annual net income tax threshold for the five-year period ending before his or her date of expatriation;
- have net worth of less than $2,000,000 at the time of expatriation and at the time of he or she makes a submission under the relief procedures;
- have an aggregate total tax liability of $25,000 or less for the five tax years before expatriation and in the year of expatriation (after applying all applicable deductions, exclusions, exemptions, and credits (including foreign tax credits), but excluding the application of Code Sec. 877A and any penalties and interest); and
- agree to complete and submit with his or her submission all required federal tax returns for the six tax years at issue, including all required schedules and information returns.
An eligible individual must submit the following documents to the IRS:
- A Certificate of Loss of Nationality (CLN) of the United States, Form DS-4083, or a copy of the court order cancelling a naturalized citizen’s certificate of naturalization;
- A copy of either (i) a valid passport, or (ii) a birth certificate and government issued identification;
- For the year of expatriation: a “dual-status” return, including Form 1040NR with all required information returns (Form 8854; Form 1040 attached as an information return reporting worldwide income up to date of expatriation; all other required information returns, including but not limited to Form 8938); and
- For the five tax years before the tax year of expatriation: Forms 1040 with all required information returns.
If an individual is eligible to use the relief procedures, no payment of the amounts shown on the returns is required.
More details on the new relief procedures are on the IRS website. The IRS will also be hosting an online webinar in the near future to provide additional information and practical tips for making a submission for relief.