U.S. expats can’t avoid cross-border tax

More than 1,000 Americans chose to renounce their citizenships between January and March 31, says IRS data.

Many of the expatriations likely have to do with American tax law, which requires U.S. citizens and green card holders to pay tax on worldwide income. American legislation also requires foreign financial institutions to disclose any U.S. citizens’ assets on their books. It’s made some banks reluctant to sign up American clients, says Stanley Barg, a tax lawyer at Kozusko, Harris, Duncan in Washington, D.C.

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Renouncing American citizenship can be costly. Candidates must pay a 40% exit tax, says Barg.

“These individuals are treated as if they sold all of their assets worldwide on the day before they gave up their U.S. residence or citizenship,” he says. Applicants must also certify they’ve settled their taxes for the last five years.

But America’s grasp on expatriates’ wallets doesn’t end when they renounce citizenship, Barg told attendees at the annual STEP conference in Toronto this week.

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If you’re a beneficiary of a non-grantor trust and get a distribution, the trustee must withhold 30% of it. “How that is going to get enforced around the world isn’t exactly clear, but it is part of the rules,” he says.

There’s also an inheritance tax on bequests from expatriates to U.S. persons, even though Americans usually pay estate taxes, not inheritance taxes.

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“In many instances, for people that’s a harder thing to do—deal with this tax—than the exit tax. It makes it not worth it for them,” he says. Estate experts expect the U.S. government to clarify the tax with regulations.

Former U.S. citizens who want to go back to visit also face uncertainty. The Reed Amendment, passed in 1996, bans entry to those who give up their citizenships for tax avoidance. While Barg says no one’s been denied entry under the rule, there have been attempts to make the rule more effective.

“That’s something to watch,” he says.