Ah, the US of A, the land of the free and home of brutal oppressive taxation. I say that love. America is, after all the, country of my birth (even though I am no longer a citizen). And, despite having a crushing a tax system, it is still the land of opportunity. Which is why people from all over the world move there in hopes of making their dreams a reality. The unsuspecting, however, find themselves on the receiving end of a tax gangbang.
To avoid this unpleasantry it is important to understand what your tax obligations will be so you can plan accordingly.
U.S. persons (citizens, permanent residents, and those meeting the substantial presence test) are liable for U.S. tax on their worldwide income. This means they pay U.S. income taxes on income from wherever received, even if from outside the U.S. They are also required to file various international information returns to disclose their non-U.S. income and assets.
Obviously, wages, interest, dividends, capital gains, and rents will subject to tax regardless of where they were generated. There are, however, many less obvious tax issues future immigrants should be aware of and plan for.
- Capital Gains – Capital gains tax is based on the entire capital gain—including the portion allocable to the time you were not a U.S. person.
- Foreign Pension Plans – While your foreign pension plan may be tax-advantaged in your home country, it likely won’t be in the U.S. The U.S. generally doesn’t recognize the tax-deferred status of foreign pensions, which means income earned within the pension plan will likely be subject to U.S. tax. Worse yet, some foreign pensions are treated as foreign trusts necessitating the filing of Forms 3520 and 3520-A.
- IRC 988 Foreign Currency Gains and Losses – The IRS treats foreign currencies sort of like stocks. Say, for example, you have a EUR account and all the EUR in the account were received when the exchange rate to the USD was 1:1. Every time you spend you EUR the IRS will treat it as if you sold EUR for USD at the current exchange rate. The corresponding gain or loss is subject to U.S. tax.
- Foreign Investment Funds – Foreign investment or mutual funds are generally treated as Passive Foreign Investment Companies (PFICs) for U.S. tax purposes. I won’t get into the painful details, except to say that PFICs are subject to punitive taxation that often eliminates any gain. Ownership in PFICs also generally triggers a requirement to file Form 8621.
- Foreign Corporations – If you own an interest a foreign corporation you may be subject to tax on its profits regardless of whether you actually receive any type of distribution from it. This is a complex area of taxation and WAY beyond the scope of this post. Just be aware of the issue. Ownership in a foreign corporation may trigger a Form 5471 and Form 926 filing requirement.
- Foreign Partnerships – Your allocable share of income from a foreign partnership will be subject to U.S. income taxes. You may also be required to file Form 8865.
- Foreign Disregarded Entities – Your income from foreign disregarded entities will be subject to U.S. income taxes. You may also be required to file Form 8858.
- Foreign Trusts – If you transferred assets to a foreign trust that has or allows U.S. beneficiaries within 5 years of becoming a U.S. person, you will be liable for U.S. income taxes on income generated by the trust. Also, if you are a beneficiary of a foreign trust, you may be liable for U.S. income taxes on distributions received. Distributions of accumulated income are subject to a punitive “throwback tax”. Being a settlor or beneficiary of a foreign trust may require you to file Form 3520 and / or Form 3520-A. To learn more about how foreign trusts are taxed, click here.
- FATCA Reporting – You will be required to file Form 8938 if the value of your foreign financial assets (e.g. foreign financial accounts, interests in foreign entities, foreign annuities, etc.) exceed a certain amount. Click here to learn more.
- Report of Foreign Bank and Financial Accounts (FBAR) – You are required to file an FBAR to report your signature authority over or financial interest in foreign financial accounts (e.g. bank accounts, brokerage accounts, etc.) if their aggregate value is more than $10,000. Click here to learn more.
- Estate & Gift Taxes – Depending on whether you are U.S. domiciled or merely U.S. resident will determine whether your worldwide estate (domiciled) or only your U.S. situs assets (resident) will be subject to U.S. estate and gift taxes. Click here to learn more.
This is by no means an exhaustive list of tax considerations when becoming a U.S. person. This post was simply intended to give you food for thought if you are considering becoming a U.S. person.
There are, of course, pre-immigration planning techniques that can greatly minimize the impact of U.S. taxes, but it takes careful planning the assistance of an expert.