Anyone considering giving up their US citizenship or long-term residency must understand the complexities of US tax expatriation rules.
The landscape of US tax expatriation rules has changed significantly over the years. Initially, the focus was on ensuring that individuals who renounced their citizenship or terminated their long-term residency met their tax obligations. This was primarily governed by Section 877 of the Internal Revenue Code, which introduced the concept of taxing expatriates for 10 years following their expatriation. Initially, Congress targeted tax-motivated losses of residency or citizenship for those who renounced their status before June 17, 2008. However, this rule proved to be challenging to administer.
However, the introduction of Section 877A in 2008 marked a significant shift. This section introduced the 'exit tax,' which aimed to tax expatriates on a mark-to-market basis at the time of their expatriation. Understanding these changes is crucial for anyone considering expatriation. To learn more about strategies for navigating these rules, check out our guide on how to minimize taxes when renouncing US citizenship or abandoning a Green Card.
Anyone who reads both Section 877 and Section 877A gets confused about the difference between these codes.
Section 877 initially imposed a tax on specific expatriated individuals, requiring them to continue paying US taxes for 10 years after their expatriation. This rule was designed to prevent individuals from avoiding US taxes by simply renouncing their citizenship or terminating their long-term residency.
Under this rule, expatriates were taxed on their US-source income and gains from the sale of US property. The aim was to ensure that the US government continued to receive tax revenue from individuals who had benefited from the US tax system but chose to expatriate.
They are taxed differently than residents or non-residents. The rules under 877 still apply to expatriates before June 17, 2008. For obvious reasons, the population of such individuals is shrinking.
2008 Section 877A was introduced, replacing the 10-year rule with an exit tax under the Heroes Earnings Assistance and Relief Tax Act of 2008. This exit tax is a mark-to-market tax that applies to 'covered expatriates' at the time of their expatriation. A covered expatriate meets certain income, net worth, or compliance requirements. For a detailed explanation of these requirements and their implications, see our article on the impact of US Exit Tax on Green Card Holders. Congress created a bright-line test with new rules.
The exit tax requires covered expatriates to recognize gain as if they had sold all of their property at its fair market value on the day before their expatriation date. This can result in significant tax liabilities for individuals with substantial assets. However, there are certain exclusions and exemptions available which can mitigate the impact of the exit tax. To explore strategies for managing this tax burden, check out our guide on smart strategies to lower your Exit Tax burden.
While both sections aim to tax expatriates, they do so in very different ways. Section 877 focused on taxing expatriates for 10 years following their expatriation, primarily on their US-source income. In contrast, Section 877A imposes an immediate exit tax on all of an expatriate's assets, regardless of their source, at the time of expatriation.
Another key difference is the criteria for being subject to these rules. Section 877 had more stringent requirements, while Section 877A had broader criteria, making it applicable to a larger number of expatriates. Additionally, introducing the exit tax under Section 877A has simplified the IRS's enforcement of tax obligations.
Understanding the implications for individuals considering expatriation can help mitigate the impact of the exit tax and ensure compliance with US tax laws. For a comprehensive guide on minimizing tax implications during this process, see our article on how to minimize taxes when renouncing US citizenship or abandoning a Green Card.
Consulting with a tax advisor specializing in expatriation can provide valuable insights and strategies. This includes evaluating eligibility for exclusions and exemptions, assessing potential tax liabilities, and exploring options to minimize the financial impact of expatriation. Being well-informed and prepared can make the expatriation process smoother and less financially burdensome. For more information on your tax obligations after renouncing permanent residency, read our guide on US Tax Duties.
Tax laws always have exceptions. We aim to provide broad guidance in simple, understandable language. We recommend any reader consult with appropriate paid professionals to obtain tailored guidance after disclosing your facts and circumstances. Our blogs do not provide professional opinions to readers.