Relinquishing one’s US citizenship has implications from both a US immigration and nationality standpoint as well as from a US tax standpoint. See my blog post trilogy about the nightmares caused by US “tax citizenship” versus US “citizenship” for immigration law purposes, here, here, and here. Relinquishing US citizenship can be accomplished by: (i) either renouncing it or (ii) performing a potentially expatriating act with the specific intent to give up one’s US citizenship. Most commonly, persons relinquish US citizenship by renouncing it which simply involves taking and signing the US oath of renunciation.
From an immigration perspective, the question often arises about the ability to travel to the US after relinquishing US citizenship. Questions on this issue relate to whether one can travel to the US while waiting for the United States Department of State (DOS) to issue a so-called Certificate of Loss of US Nationality (CLN); and whether, once the CLN is in hand, one can be denied entry because he or she is treated as having expatriated for tax avoidance motives. From a tax perspective individuals often wonder whether they are responsible for taxes during the interim period between the renunciation date and the date of actual receipt of the CLN.
Travel Limbo While Waiting for CLN?
The DOS had an unofficial policy mandating that those who gave up their US citizenship surrender their US passport to the Consulate or Embassy after the official oath of renunciation had been taken by the individual. The passport was retained at the Consulate or Embassy. After the renunciation proceedings, the Consulate or Embassy would send the renunciation application to DOS headquarters in Washington, DC. There the relevant paperwork would be reviewed and the application for renunciation either granted or denied. Processing of this paperwork can take a long time, especially since the number of renunciations has been dramatically increasing. If the renunciation is approved, the individual is issued the CLN. The date of the loss of US nationality reflected on the CLN is the date the oath of renunciation was taken at the Consulate or Embassy (rather than the actual date of issuance of the CLN).
Under the DOS’ long-standing policy position (“Policy”), while issuance of the CLN was pending the renunciant was considered to remain a US citizen. (We’ll discuss later if this means he is still taxed as a US citizen). As such he could not be issued a visa to visit the US for any purpose simply because US citizens are not eligible for visas. However, since the individual’s US passport was being held by the Consulate or Embassy pending issuance of the CLN, he could not use the US passport to travel to the US. To further exacerbate matters, different US Consulates and Embassies applied different rules with some cancelling the US passport and issuing a visa, while others did not cancel the passport (but retained it) and denied the visa. With this Policy in place, and lacking any clear guidance, it was impossible for individuals who planned to give up their US citizenship but who needed to travel to the US to know what to do.
Withers Worldwide engaged in discussion with DOS raising the argument that the DOS Policy unconstitutionally infringed the individual’s right to travel to the US. Withers argued that either DOS return the US passport to the renunciant or that it issue a temporary visa pending the issuance of the CLN. DOS officially changed its policy in February of this year after realizing that the arguments made by Withers had both legal and constitutional merit. The State Department’s Foreign Affairs Manual was then updated advising the officers at all US Embassies and Consulates to return US passports to any recent US citizen renunciant who had plans to travel to the USA. The relevant portion is quoted below. You can read the full updated Manual information here (see page 15 out of 37).
“The post should not cancel the U.S. passport, but rather retain the passport in a secure location until the approved CLN is received back from CA/OCS/ACS;
(4) If the intended expatriate advises the post that he or she needs the U.S. passport immediately because of intended travel to the United States, the consular officer should return the passport to the individual for such travel only until the loss of nationality case is approved. When post receives the approved Certificate of Loss of Nationality for the individual, post should inform the individual to appear in person at post to return the passport and receive the CLN. The CLN should not be provided to the individual unless the passport is returned. If the individual reports the passport as stolen or lost, applicable procedures should be followed;
(5) If the intended expatriate advises the post that he or she needs the U.S. passport immediately because it contains valid foreign visas, the post may cancel the book in accordance with 7 FAM 1300 Appendix Z, “Cancelation of Passport Books and Passport Cards.” Do not damage the entry/exit or visa stamp or foreign visas;”
Banned from Re-Entry: Reed Amendment
Aside from the tax consequences of expatriation, summarized below, current US immigration laws provide that former US citizens who are deemed to have renounced their US citizenship for tax avoidance purposes may be banned from entering the US by including them in a class of “inadmissible” aliens. This law is commonly referred to as the “Reed Amendment” and was enacted in 1996. [Public Law 104-208, § 352; INA § 212(a)(10)(E); 8 USC § 1182(a)(10)(E)]. The law has never been enforced in part because Immigration guidelines have never been established for what is meant by “tax avoidance” and probably because doubts as to its constitutionality have been expressed by legal scholars. Furthermore, legislative proposals have cropped up very recently time and again to make the expatriation regime even harsher.
Even if the Reed Amendment is not being enforced, there are certainly other ways to keep expatriates out of the country by denying issuance of the visa on some other grounds. The visa process is discretionary with the consular officer and those denied a visa may never come to fully understand why this was so. Some mystery surrounds the case of Roger Ver, the virtual currency millionaire commonly known as “Bitcoin Jesus”. Ver was denied re-entry to US after taking on Saint Kitts’ citizenship and then expatriating.
Tax Limbo While Waiting for CLN?
Many taxpayers are confused about the tax results of expatriation. One of the most common questions is whether, after having expatriated, but before they receive the CLN, the individual is liable for US tax on his worldwide income. This question likely stems from the DOS policy that while issuance of the CLN is pending, the renunciant is still considered to remain a US citizen.
While this may be the case for US nationality and immigration purposes, for tax purposes, the individual’s final tax year is bifurcated into two separate portions. The first portion is the part of the calendar year he was a US citizen, commencing January 1 and ending on the day prior to the expatriation date. During this portion, he is liable for tax on his worldwide income and must file Form 1040 to report that income. For the balance of the year, which commences on the expatriation date and ends on December 31, he is treated as a nonresident alien and is liable for tax only on his US-source income. He must file Form 1040NR with regard to this portion of the tax year. He must also remember to file Form 8854 with the final years’ income tax returns. This is a critical Form, and failure to file it will cause the individual to be treated as a “covered expatriate”, more fully discussed below.
For US tax purposes, a US citizen will be considered to have relinquished his US citizenship on the earliest of the following dates:
- The date he renounces US citizenship before a diplomatic or consular officer of the United States (provided that the renouncement is subsequently approved by the issuance of a CLN by the DOS);
- The date he furnishes to the DOS a signed statement of voluntary relinquishment of US nationality confirming the performance of an expatriating act (provided that this voluntary relinquishment is subsequently approved by the issuance of a CLN by the DOS);
- The date the DOS issues a CLN; or
- If the individual is a naturalized citizen, the date that a US court cancels the certificate of naturalization.
US Expatriation Tax Rules in a Nutshell
The US “expatriation tax” provisions rules apply only to certain US citizens who have renounced or relinquished their citizenship and certain long-term residents (generally those holding a green card for 8 out of the past 15 years), who have ended their US resident status for federal tax purposes.
Under the US expatriation rules, an individual will be treated as a so-called “covered expatriate” if any of the following tests apply:
- The individual’s average annual net income tax for the 5 years ending before the date of expatriation or termination of residency is more than a specified amount that is adjusted for inflation ($157,000 for 2014 and $160,000 for 2015).
- The individual’s net worth is $2 million or more on the day before the date of expatriation or termination of residency.
- The individual fails to certify on Form 8854 that he or she has complied with all US federal tax obligations for the 5 years preceding the date of expatriation or termination of residency.
If any of these tests are triggered, the individual is a “covered expatriate” subject to the “Exit Tax” or “Mark-to-Market” regime which generally means that all property owned by the covered expatriate worldwide is treated as sold for its fair market value on the day before the expatriation date. This phantom gain is then taken into account for the tax year of the deemed sale and subject to tax, usually at capital gains rates. In lieu of the “Exit Tax”, special withholding tax rules apply to certain types of deferred compensation items and to trust distributions. In addition to the Exit Tax, US recipients of any gift or bequest at any time in the future from the “covered expatriate” will be hit with a special tax upon receiving that gift or inheritance. In essence, this is an alternative way for the US to recoup US Gift or Estate taxes that it would otherwise have received (upon the making of lifetime gifts, or upon death) had the individual not given up his US citizenship or long-term residency. More information about the current expatriation tax regime can be found on my tax blog posting here.
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