Coming to America [California CPA]

The Basics of Pre-immigration Tax and Estate Planning

©PAs are often among ihr first lax professionals who arc approached when a nonresidem alien is comideriitg immigrating lo the United Stales. Immigration to the United Stales can lead lo enormem» income, gift and cuate tax ramifications tu lise high net-worth client. Thereforc, a basic understanding of preimmigration, tax and estate planning is a great quiver for CPAs to have in their arsenal.

Pre-Immigration Ta* Planning Basics

As CPAs understand, the United Sutes subjects its dozens and permanent residents to federal income tax on their worldwide income, including foreign source income.

However, foreign sourer income is not subject to U S. income tax prior to a nonresident alien becoming a citizen or resident, usually via obtaining a green car-d or by meeting the substantial presence test,

Hierein re, the usual strategy forprcímm!gruñere income tax planning oivohev accelerating the realization of foreign source income prior to immigration to avoid ILS. income tax, and deferring losses and deductible expenses until after immigration so that they may be used to offset post immigration taxable gains asid income.

Accelerating income typically involves collecting outstanding amounts that may be due-such as accounts receivables, stock options, accumulated earnings from foreign entities, taxable deferred compensation plans and ñores held from installment sales. Wie re practical, these assets may also be sold at tilt-]» present lair market value and the proceeds transferred to the individual before immigration,

Ira addition, where the immigrant has foreign assets with substantial built-in gain, those assets do not receive a step-up in basts upon obtaining US. citizenship or permanent residence status. Consequently, those assets should be disposed of and possibly reacquired at a higher cost basil prior to immigration to avoid US. taxation on the built-in gain.

However, for the sale to be respected, the transaction should be entirely arm's length, bona fide and well documented- wtlli no implied cibligatiuii fui repurchase or cancellation. It should be mentioned that there would be expenses to consider when both selling and repurchasing

In contrast to accelerating realization of built-in gain and income, built-in losses and deductible expenses should lie deferred until US. residency status is achieved to shelter post-immigration income and gain. Tim includes deferred disposition of loss property and-where practical-deferred payment of deductible expenses, at business expenses for cash-basil taxpayers are generally oedy deductible in the year io which they are paid ime Sec. 162).

Pre-immigration Estate and Gift Tax Planning Basies

The US. taxes its citizens and residents on neatly ail types of worldwide gratuitous wealth transfers. Therefore, where the value of the immigrant's gross estate exceeds tile applicable exclusion amount (55,250,(1110 for 2013), the goal of pre-immigration mate planning is to reduce the value of the gross estate of the immigrant prior to residency. This is typically done in several ways.

For U.S. situs tangible personal property «ich as cash or oilier valuables, physically relocating such property outside of the United States (transforming it into nonUS. situs property) before transfer ensures avoidance of US. transfer taxes. For US. situs real property, any gratuitous transfer will be subject to US, transfer tax, which means it's critica] rsiair and gift lax planning istr placr before acquisition.

US. transfer lax does not reach stock held by a non-resident alien in a foreign corporation, arid planning in this area typically involves the formation of a foreign corporation to acquire and hold U.S. situs property.

By converting US. sitos property ownership into non-U.S, situs properly ownership (c-g foreign stock), US transfer taxes may be avoided. For this arrangement to be respected, it must be properly planned, documented and maintained, .fe' Make sure to avoid any pit [fills and exceptions lo ibis situation by reviewing IRC Sec, 807,

Foreign assets can also be gifted directly to future beneficiaries or transferred to a irust prior to residency (free of U.S. iranafer taxes] to reduce the value of the gross estate. Given the numerous ami-avoidance rules, these transfers should be undertaken with great care to avoid having trust income taxed lo the grantor. Foreign transfer laxes also must be analysed, preferably by foreign tax advisers.

Foe example, if a non-resident alien makes a gratuitous transfer to a foreign trust with a US. beneficiary and within five years of the transfer obtains U.5. dtiacnsbip or permanent residence status, any income attributable to the property transferred to the trust »ill be taxable to the grantor (TRC See. 67S(aX-»)].

In addition, the general grantor trust rules abo apply to pre-immigration tnuts.

Therefore, even in eases where a preitnmigrotioti trust was funded more than five years prior to obtaining U,S. dtivemhip or residency status, ir live grantor bas retained any tiuemi as enumerated under IRC secs. 673 through 677 jeg reversión ary interest greater than 5 percent, power of revocation or power to rfirecl the distribution of trust income or corpus], must income will be taxable to the grantor under die grantor trust rules. Pre-immigration planning in the above case should therefore involve amending and removing any retained interests in a foreign trust that may result in trust income being taxable to the grantor.

Also, where a foreign trust does not distribute all of its distributable net income (DNT) for [lu! current year, the undistributed DPÍ1 will become undistributed net income (UNT). The relevance of UNI in an immigration context is that an immigrant who becomes a US. beneficiary of a foreign irust with substantial UNI is subject lo the onerous tax consequences of the "throwback rule" under TRC sees, 66$ and 667.

The throwback rule is designed to cause the US. beneficiary of a foreign trust to pay approximately [he saute income tax that would have been imposed if live trust had distributed all of its DM on an annual basts as opposed to accumulating income in the trust.

The cflcct of this is that the US. beneficiary* is subject to ordinary income tax rates on capital gains earned by the trust and interest on any distributions of UNI made after the residency date (IRC Sec, 668),

Pre-immigrarion planning in this context may include accelerating rhv.nhulinns of UNI prior to residency to reduce or eliminate UNI and avoid the throwback rule.

Conclusion

Many multinational executives, managers, entrepreneurs and investors foil to account for the tax and iMate Cnnscquencra that follow from their attainment of US, immigration status, or a dérision as to taking up US, residence. Additionally, numerous reporting requirements will arise related to an immigrant's foreign sonrecd accounts, income generating assets and entibes subsequent to immigration that must be complied with.

before seeking or retaining U.S. temporary Or permanent residen« Statut, a foreign national needs to be aware of the US. tax, information reporting and estrile law issues associated with that status-and consider the expatriation tax rula of 1RS Sec. 877.

Understanding the rules can aid CPAs in spotting and handling diese types of issuo. H

CPAs are often among the first tax professionals who are approached when a nonresident alien is considering immigrating to the United States.

David W. Klasing, Esq.,M.S.-Tu,CPA is the owner al the Tax Law Office of David W. Slaving. Vou can reach him at dave0taxesqcpa.com.