US Expatriation and Exit Tax: What You Actually Owe When You Leave

Who Is a 'Covered Expatriate'?

Not every person who renounces US citizenship or gives up a green card owes exit tax. The exit tax applies to 'covered expatriates': those who meet any one of three tests at the time of expatriation.

• Net worth test: net worth of $2 million or more on the date of expatriation
• Average annual tax liability test: average annual US net income tax for the 5 years preceding expatriation exceeds $201,000 (2024 threshold, adjusted for inflation)
• Certification test: failure to certify compliance with all US tax obligations for the 5 years preceding expatriation
• If you meet none of the three tests and certify compliance, you are a non-covered expatriate and avoid the exit tax entirely

How the Mark-to-Market Exit Tax Works

For covered expatriates, IRC §877A imposes a 'mark-to-market' tax: all property held on the day before the expatriation date is treated as having been sold for fair market value. The resulting gain is taxable in the year of expatriation. A $2 million exclusion ($866,000 in 2024, indexed annually; check current figures with your advisor) applies to reduce the gain.

The tax is calculated at applicable capital gains rates: long-term capital gains rates (0%, 15%, or 20%) for assets held over a year, plus the 3.8% Net Investment Income Tax. Ordinary income assets like IRAs, 401(k)s, and deferred compensation are subject to special rules.

• 2024 exclusion: $866,000 of gain is excluded; amounts above this are taxable
• Unrealized gains: taxed even if the asset is not actually sold; you may need to sell assets to fund the tax liability
• IRAs and retirement accounts: treated as if fully distributed on the expatriation date; the distribution is included in income (no exclusion applies to retirement account balances)
• Deferred compensation: non-qualified plans are subject to 30% withholding; qualified plans follow the mark-to-market rules

Special Rules for Trusts and Inherited Assets

Covered expatriates create a perpetual compliance shadow for certain US assets. Any US person who receives a gift or bequest from a covered expatriate after expatriation is subject to a tax equal to the highest estate or gift tax rate (currently 40%) on the value received, regardless of the normal gift/estate tax exclusions. This applies even decades after expatriation and can significantly affect estate planning for families with mixed US and non-US members.

• Section 2801 tax: 40% tax on gifts and bequests from covered expatriates to US persons
• Applies indefinitely: the covered expatriate status follows you; gifts and bequests to US family members are taxed
• Trusts: complex rules apply when a covered expatriate transfers property to a trust that later distributes to a US beneficiary
• Treaty relief: some US tax treaties provide partial relief from the §2801 tax; analysis required on a country-by-country basis

Pre-Expatriation Planning: Reducing the Bill

The exit tax is not necessarily a reason not to expatriate; it is a reason to plan carefully before expatriation. Several strategies can significantly reduce the covered expatriate's exit tax bill.

• Increase basis before exit: realize gains in advance when tax rates are favorable; step up basis through strategic asset dispositions
• Accelerate retirement distributions: distribute IRAs while still a US resident at ordinary income rates, which may be lower than the mark-to-market regime
• Gifting: gifts to a US citizen spouse are 100% deductible for gift tax purposes; transferring appreciated assets to a spouse before expatriation can eliminate the exit tax on those assets
• Installment payment election: for certain illiquid assets (real estate, closely-held business interests), an election can defer exit tax payments over time with interest

The Process: From Decision to Renunciation

Renouncing US citizenship requires a formal appointment at a US Embassy or Consulate outside the United States. The process cannot be done on US soil. The renunciation fee is $2,350, one of the highest in the world. You must file Form 8854 (Initial and Annual Expatriation Statement) in the year of expatriation and for a period after.

For long-term green card holders (8 of the last 15 years as a lawful permanent resident), the same exit tax rules apply upon abandonment of the green card. Abandonment is formally accomplished by filing Form I-407.

Our US foreign compliance team specializes in expatriation planning and exit tax modeling. We model the exit tax liability under various scenarios and identify the optimal timing and pre-expatriation steps for your asset mix.