expat tax: IRS issues guidance on expat tax rules

The Internal Revenue Service on October 15 released guidance (Notice 2009-85) addressing the tax treatment of expatriating individuals under section 877A, which was enacted last year as part of the Heroes Earnings Assistance and Relief Tax (HEART) Act of 2008 (P.L. 110-245).


Section 877A

Section 877A modified prior rules for expatriation under section 877 and replaced them with deemed mark-to-market sale rules. Under the new rules, high-net-worth individuals who expatriate or terminate their long-term U.S. residency are subject to income tax on the net unrealized gain in their property as if the property had been sold for its fair market value on the day before the expatriation or residency termination. Gain is recognized to the extent it exceeds $600,000 (adjusted for cost of living in calendar years after 2008). For 2009, the gain exclusion is $626,000.

Section 877A also imposes a tax on certain gifts and bequests (at the highest applicable gift tax rate at the time of the transfer) made by expatriates and requires a 30 percent withholding tax on qualifying deferred compensation paid to a covered expatriate.

These provisions apply to any individual whose expatriation date is on or after June 17, 2008 (the enactment date of the HEART Act) and to covered gifts or bequests received on or after June 17, 2008, from individuals who expatriate on or after the enactment date.


Notice 2008-85

In the notice, the IRS discusses:
- Background regarding the general application of section 877A;
- Rules for determining whether an individual is subject to section 877A;
- Operation of the mark-to-market regime;
- Interaction of section 877A and certain other provisions of the tax code, including section 877;
- Application to deferred compensation items;
- Application to specified tax-deferred accounts;
- Application to interests in nongrantor trusts; and
- Filing and reporting requirements for expatriates who are covered by section 877A, changes to Form 8854, and the introduction of new Form W-8CE (Notice of Expatriation and Waiver of Treaty Benefits).

According to the notice, future guidance will address gifts and bequests subject to a transfer tax under new section 2801. The notice states that regulations to be issued incorporating this guidance will apply to individuals whose expatriation date is on or after October 15, 2009. Those individuals may apply these rules in their entirety until such regulations are issued.

Individuals whose expatriation date is on or after June 17, 2008, and before October 15, 2009, may also apply these rules in their entirety.