How to Expatriate from the United States – Part 4: Post-Expatriation Tax Considerations and Future Travel to the US
Two seasoned veterans in the world of US tax and expatriation law discuss investment migration questions that uniquely impact Americans.
In this fourth and final part of this series [see also Part 1, Part 2, and Part 3], we will examine all the various issues that arise for former US taxpayers, whether they renounce US citizenship or relinquish a long-term Green Card, as well as other US securities and regulatory issues faced by anyone who moves away from the US, even if they retain their citizenship.
TAX, SECURITIES, AND REGULATORY CONSIDERATIONS
Once an expatriate has either renounced US citizenship or abandoned long-term Green Card status in the US, it is very common that there are numerous US tax and US securities and other regulatory law issues that the expatriate must contend with in his or her new status as a non-resident alien of the US. Even if the individual retained his or her US citizenship but gave up residency in the US and is part of the growing US expat community living outside the US in retirement, certain US securities and regulatory considerations must be considered.
Tax Considerations
Perhaps the most obvious requirement for a former US citizen or resident is that the expatriate must notify all US financial institutions with evidence of his or her non-resident alien (NRA) tax status in the US. This is typically done by filing a Form W8BEN with the US custodian or financial institution for any US stocks or other US investment assets. The US custodian or financial institution controls the money before it flows out of the US. The US government places the burden on the US financial institution to collect the tax. If the financial institution screws up, it must pay the tax.
The US Treasury regulations provide a roadmap to the US withholding agent telling them how much to withhold, but these regulations also contain a number of rules telling the withholding agent that if they do this or that, they are safe. In US tax jargon, these are called “safe harbors.” One of these safe harbors is “If you receive a Form W-8BEN from someone and you have no reason to think they are lying, you can rely on it and not get penalized by the IRS as a withholding agent if it turns out you screwed up.”
To demonstrate why Form W-8BEN is so important to the expatriate living outside of the US, here is a quick overview of the tax results that a Non-Resident Alien (aka: “NRA” or Not a US Person for Tax Purposes) can expect:
The default rule is that bank interest is taxed at zero in the US for an NRA. Giving Form W-8BEN to a bank will ensure that all interest earned on your US bank account is tax-free.
Capital gains (short-term and long-term) are not taxable by the US for non-real estate investments or real estate located outside the US. The NRA wants the financial institution to have Form W-8BEN in hand so they report the capital gains correctly and don’t impose backup withholding tax on the gross proceeds of your stock sales.
The main reason an NRA wants to use Part II of Form W-8BEN is to reduce his or her US income tax bill. The general rule is that dividends, pension payments, IRA distributions, and other types of passive investment income from US sources will be taxed at a flat 30% with no deductions. By completing Part II of Form W-8BEN and delivering it to the financial institution, the financial institution knows they are in a “safe harbor” and can withhold zero (or an amount less than 30%) of tax on payment to you.
Part II of Form W-8BEN is where an NRA can reduce their US income tax withholding rate from a flat 30% to some lower number, possibly zero, by claiming relief under one of the nearly 70 bilateral US income tax treaties. The US has an income tax treaty with numerous countries, including Portugal, the UK, Italy, and many more countries that have favorable tax treatment schemes for mostly wealthy individuals.
For example, in Part II of Form W-BEN, an expatriate who has moved to Portugal would have the opportunity to claim a reduction in the dividend withholding rate by US payors under the US–Portugal income tax treaty.
Suppose you are now a resident of Portugal, and you receive some dividend income from a US corporation. Line 10 of Part II of Form W-8BEN requires you to find the relevant portion of the US-Portugal income tax treaty that discusses dividends. Article 10 of the treaty limits the amount of tax the IRS can take to 15% of the gross dividend amount paid by a US corporation to a Portuguese resident. This is better than the default 30% rate in the US tax code. (There are different rules if you own at least 25% of the capital of the payor corporation).
Somewhat less obvious is the potential mismatch of US and Portuguese tax when an appreciated foreign asset not situated in the US (e.g., a residence in Portugal) is held on the day before the expatriation date from the US and then is subsequently sold when the individual is no longer a US income tax resident:
Assume that you buy a residence in Portugal before you decide to renounce your US citizenship because you want to try out living in Portugal before taking the consequential step of surrendering your US passport. Under the US exit tax rules requiring a hypothetical or deemed sale of all your worldwide appreciated assets on the day before expatriation, US exit tax will likely be paid to the US under the “mark-to-market” part of the US Expatriation Tax Regime on the Portuguese residence.
No tax would be paid to Portugal in connection with such appreciated non-US situs asset on expatriation from the US because this is not a real sale of the Portuguese residence but only a hypothetical or deemed sale for US tax purposes only. In exchange for including the Portuguese residence in his or her US exit tax calculation, the individual is entitled to a basis step-up to fair market value on the day before expatriation from the US but solely for US tax purposes. There is no basis step-up in Portugal in the Portuguese residence because Portugal does not recognize your hypothetical sale, which is for US tax purposes only.
When the NRA goes to sell the Portuguese residence, which was previously taxed or at least partially taxed as part of the exit tax (i.e., the “mark-to-market” exit tax regime is a hypothetical deemed sale of worldwide assets of a former US citizen or “long-term” Green Card holder), there is full tax in Portugal for all of the appreciation from date of purchase. Thus, the NRA may well pay double tax on some portion of the same appreciation in the Portuguese residence.
Increased Scrutiny and Restrictions Imposed by Financial Institutions of Former Americans Who Are Now NRAs
Of increasing concern to former US citizens and income tax residents is whether any US financial institution will want to continue to do business with you after you cease to be a citizen or income tax resident. The trend is somewhat discouraging. More and more US financial institutions are declining to do business with NRAs, including some who expatriated. These financial institutions typically want you gone because you are expensive and risky.
As an NRA of the US, you now carry “know your customer” (KYC) risks, even though you may have had an account at the US financial institution for 20 or 30 years prior to expatriation. The financial institution is now concerned with proving that the source of funds for your investment account was from legal sources and not illicit activities. One day the US financial institution may be soliciting your business and, a few weeks later, they are worried about your illicit activities.
In addition, you now carry securities law risks. If Fidelity or Merrill Lynch in the US allows you – a resident of Portugal – to buy and sell stocks, there is a risk that Portuguese securities regulations might catch the US financial institution unaware, and Fidelity or Merrill Lynch could find themselves facing stiff fines in Portugal for those violations.
A major new trend is that US banks and brokerage firms are restricting and even closing the accounts of Americans living abroad due to their status as non-US residents. Many of the major US banks and brokerage firms no longer open new brokerage accounts for Americans residing outside of the US. The major US banks and brokerage firms can now monitor where you are calling them from and, if they sense you are repeatedly calling them from outside the US, they could decide to remove you from their US business platform, which is only available to individuals residing in the US
Among US financial institutions, account restrictions vary between firms, and sometimes the same firm treats tax-favored retirement accounts differently than taxable accounts. Other US financial institutions are closing all US brokerage accounts for non-US residents, while still other firms are only restricting services available to Americans no longer residing in the US.
In other situations, the US investment firm may require very high minimum account values for non-US residents who wish to remain clients. Bans on non-residents, including US citizens, purchasing US mutual funds are now the norm. These new restrictions affect bank accounts, brokerage accounts, and retirement accounts.
It is for this reason that an effective Expatriation Plan should include the acquisition of new foreign bank and brokerage relationships. Often this will be with a foreign branch of the current US relationship. Many major US banks and financial institutions have overseas branches and affiliates. However, the US and non-US branches are often required to operate separately from each other, so the transition from onshore to offshore might not be as smooth as you would hope.
FUTURE TRAVEL TO THE UNITED STATES
When you give up US citizenship or Green Card status, the way in which US border officials view you changes fundamentally. Specifically, US citizens and Green Card holders (who can prove the same) have the right to enter the US. If they are wanted on criminal charges, they may be arrested after entering – but even criminal suspects have the right to enter.
Those who have given up US citizenship or Green Card status become foreigners who are seeking the discretion of the port of entry official to grant them visitor status in the US. Like all foreigners seeking visitor status in the US, they must first satisfy officials that they are not inadmissible under the Immigration and Nationality Act (“INA”). The grounds of inadmissibility are outlined in s. 212(a) and include:
- Health-Related Grounds of Inadmissibility [INA § 212(a)(1)];
- Criminal Grounds of Inadmissibility [INA § 212(a)(2)];
- Economic Grounds of Inadmissibility [INA § 212(a)(4)];
- Illegal Entrants & Immigration Violators [INA § 212(a)(6)];
- Foreign Nationals Previously Removed [INA § 212(a)(9)];
- Miscellaneous Grounds of Inadmissibility [INA § 212(a)(10)]: eg. Practicing Polygamists, International Child Abduction, Unlawful Voters, Ineligible for Citizenship, or Foreign Nationals who Evaded the Draft
- Documentation Requirements [INA § 212(a)(7)] such as the “Intending Immigrant” [INA § 212(a)(7)(A)(i)(I)] –
This “Intending Immigrant” issue is the most common ground of inadmissibility applied under INA § 212(a)(7). Any foreign national who seeks to enter the US and remain permanently, or who is suspected of seeking to enter the US and remain permanently but who does not have the proper documents to demonstrate that s/he has the authorization to do so, is inadmissible.
What most frequent visitors do not realize is that the US has a certain conceit in its law. Namely that every foreigner seeking entry into the US is presumed to be intending to immigrate to the US. That is why it is critical that those who renounce their US citizenship or give up their Green Card seek proper advice from experienced counsel on their future travel back to the US. [Note: Along with over three decades of experience with former taxpayers traveling to the US, one of the authors also draws upon his experience in working as a port of entry official while going through law school.]
Reed Amendment: Real Issue or Toothless Tiger
In 1996, the US did a major overhaul of the Immigration and Nationality Act (“INA”). This legislative debate occurred in the wake of a November 1994 Forbes Magazine story on expatriation, when there was a great debate raging about Wealthy Americans leaving the US. Tapping into populist adverse sentiment, then-Democratic Representative Jack Reed introduced something that was later dubbed the “Reed Amendment”. The Reed Amendment was an attempt to bring into law the old playground rule that says, “if you take your ball and leave, you can’t come back”.
Unfortunately for those who supported such a rule, over the subsequent 27 years, lawmakers and bureaucrats found that both constitutional and practical issues have prevented such a barrier from being implemented. Therefore, it is very safe to say that despite this rule being alluded to in part of a paragraph in one of the forms filed during the renunciation appointment, the Reed Amendment is a toothless tiger. In short, it is not one of the bases for inadmissibility for either a visa issuance or refusal at a port of entry.
Visa Issues for former US citizens and Green Card holders
When foreigners seek entry into the US, they seek visitor status under a B1/B2 tourist status. Whether or not the foreigner needs to do something before seeking entry at a port of entry depends completely upon the passport they will be presenting at the port of entry.
The US is among the countries that begin with the premise that they always require the foreigner to attend a US embassy abroad to apply for a “visa”. Certain nationalities are exempted from this requirement if the foreigner meets the requirements under the US Visa Waiver Program (“USVW”). The countries included in the USVW program, as well as the eligibility conditions, are listed here.
Only nationals of Canada and Bermuda are completely exempted from both the visa and ESTA requirements before seeking entry from a port of entry official.
If a former taxpayer is from a country that requires a B1/B2 visitor visa before seeking entry, they will need to be able to prove that they are no longer a US citizen or Green Card holder. For those who have renounced their US citizenship, even though under US law they ceased to be a US citizen at the time of their renunciation appointment, they need to be in possession of a Certificate of Loss of Nationality (“CLN”) to apply for a US visa.
This is for the simple reason that a US visa officer only considers visa applications from foreigners, not US citizens. As we described in Part 2 of this series, there is a gap period between the date of the renunciation appointment and the individual’s receiving a CLN. Depending on whether the mission adopts the relatively rare policy of issuing the CLN at the mission itself or sending it to State Department headquarters, the issuance of a CLN can take anything from a week to several months. As a result, the US citizen expatriate who comes from a country that requires a US visa may have quite a period of time after their renunciation before they can apply for a B1/B2 visa to be able to travel back to the US.
If the former taxpayer is from a country that requires a B1/B2 visa and they gave up their Green Card status, the process is different. As described in Part 2, relinquishing Green Card status involves submitting an I-407 form either by mail or at a port of entry. Despite the fact that the individual ceases to a Green Card holder the moment the I-407 is received by the US government, they still need to have gotten back from the US government a stamped I-407, acknowledging that the US government has noted they are no longer a Green Card holder.
If the relinquishment is done at a port of entry, the I-407 is immediately stamped and handed back to the individual. If they are carrying a passport from Canada, Bermuda, or a USVW program country, they can be granted entry at that point. (Note the USVW program national needs to do an online ESTA application before being allowed entry). If they are from a country that requires a B1/B2 visa, they cannot be immediately granted entry as they need to first apply for and secure a visa from a US mission abroad.
As a result, Green Card holders from countries that require a B1/B2 visa are advised to mail in their I-407 and apply to the local US mission once they receive back the stamped I-407.
Pros and Cons of other Non-Immigrant Visas, such as an E2 Visa
Many former US citizens or Green Card holders are nervous about abandoning their prior position of having an unlimited right to enter the US without first obtaining the permission of US officials to grant them visitor status in the US.
For this reason, former US citizens seek to obtain another non-immigrant status in the US, which gives them the ability to seek entry for longer than a six-month visitor status and have more rights than being a tourist or business visitor. These non-immigrant visa statuses include L-1A Intracompany Transferee Executive or Manager, O-1 Visa: Individuals with Extraordinary Ability or Achievement, and E-2 Treaty Investors.
The E-2 Visa has garnered a great deal of attention in the RBI/CBI world in the past few years, as countries like Grenada, Montenegro, and Turkey were included on the list of countries whose nationals were eligible for this type of visa. This gave these countries’ CBI programs a considerable competitive advantage as a way for foreigners to gain early entry into the US while their EB-5 visas for a Green Card were being processed. However, this advantage was severely curtailed in late 2022 by the US National Defense Authorization Act, which noted that an individual needed to be “domiciled” for three years in the E2 treaty-listed country before being eligible.
However, we have long contended that while very useful for foreigners to fast-track their move into the US and its tax system, it was not appropriate for American taxpayers who were leaving the US tax system. This is because unlike the L-1A or O-1 visa categories, the E2 required that the holder be actively managing the business enterprise in the US.
This meant that to renew their E2 visa, the former US taxpayers would require US global tax liability under the Substantial Presence Test. In short, having just gone through great effort to take off the noose of US taxation by renouncing citizenship or relinquishing a Green Card, the individual who sought an E2 visa was climbing back up the scaffolding.
FINAL THOUGHTS
As we have shown over the past four articles, the process of legally leaving the US tax system is highly complex and requires expert advice and planning to achieve the desired goal. However, if properly designed and executed, the one-time cost of executing such a departure will result in significant future tax savings, which will make the cost and hassle a rounding error.
As more and more wealthy Americans look into the future with concern, many are acquiring Backup Plans to give themselves the comfort of knowing that they can preserve their family’s wealth and well-being should they decide to overcome life inertia and leave the US and its tax system behind.
See the other instalments in this series: