Many lawful permanent residents (green card holders) set up a revocable living trust for basic estate planning—often just to avoid probate and keep their financial life tidy. The surprise comes later: if that person abandons U.S. residency (for example, by filing Form I-407 or via a treaty tie-breaker election) and there’s no U.S. person left controlling the trust, the trust can flip into a “foreign trust” for U.S. tax purposes. That flip carries real tax and reporting consequences.
This post explains when the flip happens, the tax hit that can occur, ongoing U.S. filing/withholding rules, and practical planning steps—specifically for revocable living trusts.
Quick Definitions (Plain English)
-
Living (revocable) trust: A common estate planning tool where the grantor (you) usually serves as trustee and can revoke/amend at any time. While you’re a U.S. person, it’s typically a grantor trust—so all income just goes on your Form 1040.
-
Domestic vs. foreign trust: A trust is domestic only if it passes both the court test (U.S. court can supervise) and the control test (one or more U.S. persons control all substantial decisions). If either fails, the trust is foreign.
-
U.S. person (for tax): U.S. citizen or U.S. resident under tax rules (which generally includes green card holders until status is abandoned or revoked, or treaty non-resident status is elected).
When Does a Living Trust Become a Foreign Trust?
The key trigger is failing the control test—i.e., when no U.S. person controls the trust’s substantial decisions. A common path:
-
The grantor is a green card holder and the sole trustee.
-
They abandon the green card or become a treaty non-resident.
-
If no U.S. trustee (or other U.S. person with decision control) remains, the trust fails the control test and becomes foreign on that date.
Is there a “grace period”?
Yes—there’s a 12-month cure window as long as reasonable steps are underway to fix the failure (e.g., appoint a U.S. trustee). If cured in time, the trust is treated as remaining domestic throughout the period. If not cured, the trust is treated as foreign from the original failure date.
The Conversion Tax: IRC §684 “Deemed Sale”
When a domestic grantor living trust becomes foreign, the tax code treats it as if it sold all assets at fair market value immediately before the change (gains only, losses are not recognized). This is the §684 deemed disposition.
-
Who reports it? In a classic living trust setup (fully grantor-owned up to the moment of change), the individual grantor typically reports the §684 gains on their final U.S. return for that year, on Form 1040NR with a new tax identification number for the foreign trust.
-
Exit tax coordination: If the person is a “covered expatriate” (long-term resident under §877A), the exit tax may also apply. The rules coordinate, but proper timing and professional handling matter to avoid double counting.
Bottom line: If there’s significant appreciation in the trust portfolio, §684 can be expensive—which is why pre-departure planning matters.
After the Flip: Ongoing U.S. Taxation & Filings
Once foreign, a living trust is generally a foreign grantor trust (common if still revocable and owned by a non-U.S. grantor).
U.S. tax on income going forward
-
If the foreign living trust has only U.S.-source FDAP income (e.g., dividends/interest) and the U.S. payor withholds correctly (30% or treaty-reduced rate with a valid W-8BEN on file), a U.S. return is typically not required for the trust. Form 1042 must be prepared.
-
If the trust has ECI (e.g., U.S. rental real estate, a U.S. trade or business) or FIRPTA gains, or needs a refund/true-up (e.g., over-withholding, claiming a treaty benefit not applied at source), then the trustee files Form 1040-NR for the trust and signs as fiduciary.
Which return, and who files?
-
If only properly-withheld FDAP income and no need for a refund/true-up: no U.S. return is typically required. Most foreign living trusts are in this category.
-
If there’s ECI, FIRPTA transactions, or a refund is needed: the trustee (fiduciary) files and signs Form 1040-NR on behalf of the trust.
-
The trust or grantor provides the broker with the correct W-8 (W-8BEN if owner-documented grantor trust; W-8BEN-E if trust is the payee).
U.S. beneficiaries (if any)
If the foreign trust later makes distributions to U.S. beneficiaries, the beneficiaries must file Form 3520 for distributions received. There is no minimum amount of distribution for Form 3520. The penalty for not filing Form 3520 is $10,000.
Common Planning Moves (Before Abandoning the Green Card)
-
Keep the trust domestic (avoid §684):
Appoint a U.S. trustee (or have one step in immediately at expatriation). Ensure U.S. persons control all substantial decisions continuously.
-
Terminate the living trust while still a U.S. person:
Dissolving a revocable grantor trust and returning assets to the grantor is generally non-taxable while grantor status applies; avoids the foreign-trust flip.
-
Asset & beneficiary planning:
Address highly appreciated assets and potential U.S. heirs now—minimize future UNI/throwback exposure, consider restructuring U.S. real estate (FIRPTA/ECI).
-
Coordinate with expatriation rules:
Determine covered expatriate status, timing for Form I-407 or treaty tie-breaker, and Form 8854. Align these with trust actions to manage §684 and §877A cleanly.
-
Paper it properly:
Trustee acceptances, amendments, and 12-month cure steps
Disclaimer: This article is for general informational purposes only and does not constitute legal, tax, or financial advice. Laws and regulations change, and the application of tax rules depends on your specific facts. You should consult a qualified U.S. international tax professional and licensed attorney before taking any action. Reading or relying on this content does not create an attorney–client or advisor–client relationship, and I disclaim any liability for actions taken or not taken based on this information.