Estate and Gift Tax in the International Context
The estate and gift tax in the international context is subject to special rules that can become traps for the unwary. Individuals need to worry about everything from domicile to situs of the property (where the property is located). There are also information returns that need to be filed and in some cases, a gift or inheritance can create future income tax obligations as well. For high net worth individuals immigrating to the U.S. the best time to plan is before the move even occurs. At THEVOZ & Partners we can help you navigate this mine field no matter what your situation may be.
The Estate Tax and Nonresident Aliens/Non-US Citizens
Resident aliens, or people who live in the US but are not citizens, pay estate and gift taxes in the same manner as US residents for tax purposes or citizens. But nonresident aliens must adhere to a different set of rules for estate and gift tax. Many nonresident non-US citizens might even find it surprising that they are subject to US gift and estate tax laws.
The issue of residency is different for filing an income tax return compared to paying estate and gift taxes. Residency for income tax purposes domicile is determined by a formula regarding the number of days a person has spent in the US in a specific timeframe. For estate and gift taxes, the issue is where the person is domiciled at the time of death. If they live in the US and do not have a domicile elsewhere and have no intent to move, they are domiciled in the US. Other factors are relevant, such as where their property is located.
Nonresident aliens have a $60,000 tax exclusion on their estates (this amount is not fixed for inflation), much lower than the $11 million for US resident aliens and US citizens for tax purposes. This exclusion is only for property situated in the United States and there is no credit for foreign estate taxes. Gift taxes, for nonresident aliens, have the same annual exclusion of $15,000 as US residents for tax purposes. The marital deduction for gift taxes applies only spouses that are US citizens, but there is a $155,000 gift tax exclusion for non-US citizen spouses. To make things more complicated, many countries have estate tax treaties that may apply to the estate and gift tax context exclusively.
Transactions with Foreign Trusts and Receipt of Foreign Gifts: The Little-Known Form 3520
The Form 3520, Annual Return to Report Transactions With Foreign Trusts and Receipt of Certain Foreign Gifts is mainly used in the context of reporting foreign trusts as required under Internal Revenue Code (I.R.C.) § 6048. U.S. taxpayers are required to file this form if they:
- owned a foreign trust;
- transferred money or other property to a foreign trust;
- held an outstanding obligation of a related foreign trust that was issued in the current tax year and reported as a “qualified obligation”;
- were the executors of a U.S. decedent’s estate if the decedent made a transfer to a foreign trust by reason of death, the decedent was treated as the owner of any part of a foreign trust immediately prior to death, or the estate includes any assets of a foreign trust;
- received a distribution from a foreign trust during the tax year; or
- were grantors or beneficiaries of a foreign trust that, during the tax year, loaned cash or marketable securities to the taxpayer or a related U.S. person, or from which the taxpayer or a related U.S. person received uncompensated use of trust property.
The Form 3520 is also quirky in that it has special requirements for how and where to file it. Like many information returns it is due on the date that the taxpayer’s income tax return is due but it is not filed with the income tax return. Instead, it is filed separately with the IRS Service Center in Ogden, Utah. For more information, check out the Instructions for Form 3520, “When and Where to File” or see the Internal Revenue Manual (IRM) section 188.8.131.52.1(3). Many attorneys and CPAs get this wrong and attach the Form 3520 to a taxpayer’s Form 1040 income tax return. A Form 3520 is filed once a year for all reportable gifts (and bequests) within the calendar year with respect to each U.S. person. And in the case of a Form 3520 filed with respect to a U.S. decedent, Form 3520 is due on the date that Form 706, United States Estate (and Generation-Skipping) Tax Return, is due, including extensions, or would be due if the estate were required to file a return.
Additionally, the Internal Revenue Code imposes a reporting requirement if the value of the aggregate foreign gifts received by a United States person regarding each foreign gift received during such year— Internal Revenue Code (I.R.C.) Section 6039F. In this context, a gift means any amount greater than $100,000 from a nonresident alien or foreign estate or gifts over $15,671 from a foreign corporation or partnership which the recipient treats as a gift or bequest. Filing this information return is straightforward and relatively easy, but the penalty for failing to do so can be catastrophic! I.R.C. § 6039F imposes a penalty of equal to 5% of the amount of such foreign gift for each month for which the failure continues. This penalty caps out at whopping 25% of the value of the gift.