Expatriation has become somewhat of a hot topic in recent years with the increased filing requirements that the Internal Revenue Service (IRS) imposes on their citizens living outside of the United States. Whether you lived in the U.S. for half of your life or you simply had the pleasure of being born on the other side of the border, Canadians who also hold U.S. citizenship have increasingly been looking for a way to renounce their American citizenship. 

Who is a “Covered Expatriate?”

From a tax perspective, the expatriation process has changed since the Heroes Earnings Assistance and Relief Act (HEART Act) passed in June 2008. This Act applies to individuals who relinquish their US citizenship or long term U.S. residency after June 16, 2008 and who either: 1) have an average annual income tax liability of more than $155,000 for the five years preceding expatriation; 2) have a net worth equal to or greater than $2,000,000 on the date of expatriation or termination of permanent residency; or 3) have failed to provide certified compliance with U.S. tax obligations for the five years prior to expatriation. An individual who meets one of these criterion is referred to as a “covered expatriate.”

Mark-to-Market Tax

The HEART Act imposes a capital gains exit tax (called a “mark-to-market” tax) upon the date of departure. A covered expatriate will be deemed to have sold all his/her worldwide assets at their fair market value on the day before expatriation. Any capital gains on the deemed sale are taxed as income in the year of expatriation. This is similar to the deemed disposition on death applied by Canadian tax authorities.

The biggest issue for Canadians in this situation is that the tax imposed under this Act cannot be claimed as a tax credit in Canada unless the individual actually sells the assets. There is an option to defer the tax until the assets are eventually sold, but the expatriate must provide security and pay interest for the period of deferral.

Possible Consequences of Expatriation

Another concern is that after expatriation, the ability to gift or transfer property to a U.S. citizen or resident is greatly limited. A tax of up to 40% is imposed on the recipient of any transfer or gift above the excluded amount of $14,000 per person per year. This can also cause tax problems for U.S. beneficiaries of a trust created by the expatriate.

Expatriates may also run into immigration issues when trying to re-enter the U.S. An amendment to the United States’ Illegal Immigration Reform and Immigrant Responsibility Act of 1996 called the Reed Amendment provides that an expatriate can be permanently refused entry to the U.S. after expatriation if the Attorney General determined that you expatriated for the express purpose of avoiding U.S. tax liability.

Expatriation can be the right option in many situations but, as explained above, comes with serious implications and should not be handled lightly.