Key considerations for non-resident families contemplating a move to the United States
Introduction
The decision to relocate to the United States represents a significant transition for any family, involving considerations that extend well beyond logistics and lifestyle. For families with substantial wealth, the tax implications of becoming a U.S. resident merit careful attention, ideally well before the move occurs. The U.S. tax system differs markedly from most other countries, and actions taken prior to establishing residency can materially affect a family’s tax position for years to come.
This overview addresses several key areas that families contemplating immigration should discuss with their advisors. The specifics will vary considerably based on each family’s circumstances, country of origin, asset composition, and long term plans.
Understanding the U.S. Tax Framework
The United States taxes its residents and citizens on their worldwide income, regardless of where that income is earned or where assets are located. This approach differs from the territorial systems employed by most other nations, which generally tax only income sourced within their borders.
For families accustomed to a territorial system, this shift can be significant. Investment income, business profits, rental income from foreign properties, and gains on the sale of assets held abroad all become subject to U.S. taxation upon establishing residency. Understanding this fundamental difference is the starting point for effective pre-immigration planning.
The Importance of Timing
The date on which an individual becomes a U.S. tax resident determines when worldwide income reporting obligations begin. For most immigrants, this date corresponds to obtaining a green card or meeting the substantial presence test, which generally involves spending 183 or more days in the United States over a three year period using a weighted formula.
Strategic timing of the residency start date can provide meaningful planning opportunities. For example, if an individual expects to recognize significant income or gains in the near term, such as from the sale of a business or the vesting of equity compensation, completing that transaction before establishing U.S. residency may reduce or eliminate U.S. tax on the gain. Conversely, delaying certain deductible expenses until after residency begins may provide U.S. tax benefits.
The determination of residency start date involves technical rules that require careful analysis. Families should work with qualified tax advisors well in advance of their anticipated move to understand their specific circumstances.
Addressing Foreign Trusts and Entities
Many non-U.S. families hold assets through structures that are common and tax efficient in their home countries but receive unfavorable treatment under U.S. tax law. Foreign trusts, in particular, present challenges for incoming residents.
The U.S. imposes complex reporting requirements on U.S. persons who are grantors, beneficiaries, or transferors of foreign trusts. Distributions from foreign trusts to U.S. beneficiaries may be subject to punitive tax treatment, including the throwback rules that can result in interest charges on accumulated income. In some cases, restructuring or terminating foreign trusts before establishing U.S. residency may be advisable.
Similarly, interests in certain foreign corporations may be classified as Passive Foreign Investment Companies, or PFICs, under U.S. tax law. PFIC ownership can result in harsh tax treatment on gains and distributions, including interest charges and ordinary income treatment for what would otherwise be capital gains. Families should inventory their holdings in foreign entities and evaluate the PFIC implications before becoming U.S. residents.
Stepping Up the Basis of Assets
A valuable pre-immigration planning strategy involves establishing a fair market value basis in appreciated assets before becoming subject to U.S. tax. When a non-resident sells an asset, the U.S. generally cannot tax the gain subject to certain exceptions. If the same individual later becomes a U.S. resident and sells that asset, the entire gain becomes potentially taxable.
Some families accomplish a basis step up by selling appreciated assets before immigration and either repurchasing similar assets or investing the proceeds differently. Others may be able to contribute assets to certain structures or effectuate deemed sales through elections or transactions that establish a new basis equal to current fair market value.
The analysis of whether and how to pursue a basis step up requires consideration of transaction costs, home country tax implications, investment objectives, and the relative tax rates that would apply to future gains. This planning is highly fact specific and should involve coordination among advisors in both jurisdictions.
Estate and Gift Tax Considerations
The U.S. estate and gift tax system applies differently to residents, non-residents, and citizens. Upon becoming a U.S. domiciliary for estate tax purposes, which involves a subjective inquiry into one’s intent to remain indefinitely, an individual’s worldwide assets become subject to U.S. estate tax.
Current U.S. estate tax rates reach 40 percent on amounts exceeding the exemption threshold. For families with significant wealth, planning for potential estate tax exposure is an important component of pre-immigration analysis.
Some families establish trusts or make gifts before becoming U.S. domiciliaries, potentially removing assets from the future U.S. taxable estate. The rules in this area are intricate, and structures must be carefully designed to achieve the intended result without running afoul of anti-abuse provisions.
Reporting Obligations
U.S. residents face extensive reporting requirements for foreign financial accounts and assets. The Report of Foreign Bank and Financial Accounts, commonly known as FBAR, requires disclosure of foreign accounts exceeding certain thresholds. Form 8938 requires reporting of specified foreign financial assets. Additional forms apply to interests in foreign corporations, partnerships, and trusts.
Penalties for failure to comply with these reporting requirements can be severe, including civil penalties that may exceed the value of the unreported assets in some cases. Families should establish systems for tracking and reporting foreign assets before becoming subject to these obligations.
Coordination Across Jurisdictions
Effective pre-immigration planning requires coordination among advisors in the family’s current country of residence, the United States, and potentially other jurisdictions where assets are located. Tax treaties may provide relief from double taxation in certain circumstances, but treaty benefits must be analyzed carefully and claimed properly.
The interaction between home country departure taxes, U.S. entry rules, and treaty provisions creates complexity that cannot be navigated without professional guidance. Families should engage qualified advisors in all relevant jurisdictions well before their anticipated move, ideally twelve to twenty four months in advance, to allow adequate time for analysis and implementation of any recommended strategies.
Conclusion
Relocating to the United States offers tremendous opportunities, but the tax implications warrant serious attention. The decisions made before and around the time of immigration can affect a family’s tax position for decades. With careful planning and appropriate professional guidance, families can structure their affairs to manage their U.S. tax obligations effectively while pursuing their personal and financial objectives in their new home.