Is There a Time-Bomb Hiding Under Your Green Card?

The United States is one of two countries in the world that subject their citizens to tax on their worldwide income, no matter where they reside. Most other countries tax individuals based on residence – they are no longer subject to tax when they no longer reside in that country. This is a very simplistic explanation and there are many exceptions and permutations to that general rule, but the principle prevails.  There have been many US persons who have moved to tax haven jurisdictions and renounced their US citizenship to avoid US taxes.  There have been several attempts in US tax law to address this issue, the current one being the concept of the “Covered Expatriate” (Covered ExPat). If a person is a Covered ExPat, he will be deemed to have sold his assets at fair market value upon leaving the US. Gifts back to US persons will be subject to US Gift tax, and a bequest to a US person will be subject to the US Estate Tax.  The tax will be assessed against the recipient, and will have greatly reduced exemptions when compared with the exemptions available to US persons.

A Covered ExPat is one who meets one of three tests – (1) he has not been in compliance with US tax law for the past five years, (2) his average income tax liability was $160,000 or more (indexed for inflation), or (3) his net worth on the date of expatriation is $2,000,000 or more (not indexed for inflation). The $2,000,000 is a fairly low threshold in today’s environment.

These rules apply for US Citizens who renounce their Citizenship, or to long-term green card holders who give up their green cards. As a US Citizen, I can move elsewhere in the world and these rules will not apply to me unless I renounce my US Citizenship.  As a Green Card holder, however, I am forced to relinquish my permanent resident status if I leave the US.  This could happen as a result of a job transfer, a decision to go home to care for an elderly relative, or to retire back home.

What is the solution? One is to monitor your status so you do not become a “long-term” green card holder.  Another might be to apply for US Citizenship.  While this will keep you in the US tax system, the cost may not be that great.  A third would be to plan pro-actively to make sure your assets are below the $2,000,000 threshold on the date you give up you green card.  The fourth is to do nothing, only to have that “time-bomb” explode unexpectedly.

There is perhaps an even more sinister trap for the long-term green card holder. He may have a net worth of less than $2,000,000, his average income tax liability is under the threshold, and he may think he has been compliant with US tax law for the past five years, BUT:  US tax law requires an alien to file a Form 1040-C, U.S. Departing Alien Income Tax Return before leaving the United States.  This rule is largely ignored – people simply leave the US, file their final US Income Tax Return and have pay all that is due to Uncle Sam.  Could the failure to file a Form 1040-C cause an otherwise exempt long-term green card holder to be a Covered Expatriate for failure to comply with US tax law?  It seems to me that one should use extreme caution and file a Form 1040-C before giving up one’s green card.

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