Conservative Party Leader Andrew Scheer came under fire during the recent election for being a dual citizen of Canada and the United States. According to a report in The Globe and Mail, Mr. Scheer’s father is a U.S. citizen by birth, and obtained citizenship for his children.
Unlike some Canadians who were unaware of their U.S. citizenship, Mr. Scheer is no accidental American. As required by U.S. tax law, he has reported his income and filed U.S. tax returns. He also says he has submitted his renunciation paperwork and is waiting for confirmation that he is no longer a U.S. citizen.
As Mr. Scheer likely knows, the expatriation process takes time. Any dual citizens looking to follow in his shoes should know that there are ways to avoid paying extra tax upon renunciation of U.S. citizenship.
Under U.S. law, citizens of the United States living in Canada are still considered American. They must file an annual tax return each year, Form 1040, US Individual Income Tax Return, to report income from all sources, worldwide.
In addition to reporting worldwide income, U.S. citizens living in Canada must disclose to the IRS any foreign assets, such as property and investments, held alone or jointly with another person. This ensures that earning sources outside the United States are properly taxed. The most significant example is the foreign bank account reports) that must be filed by anyone who has foreign accounts containing more than US$10,000 at any point during the year. This includes bank accounts, RRSPs, so on.
The simplest way of renouncing citizenship is to schedule a loss-of-nationality appointment at a specified U.S. embassy or consulate. The wait for an appointment can vary significantly from location to location. The average is three to nine months. Renouncers must attend the appointment in person and pay US$2,350. However, this is only the immigration component.
The final step is for U.S. citizens to attach IRS Form 8854, Initial and Annual Expatriation Statement, to their final U.S. income tax return, for the year of renunciation. This is the tax compliance component of expatriation. Failure to take both of these steps means the renouncer will remain subject to U.S. tax payment and reporting obligations.
Generally, renunciation has no future U.S. tax issues for the renouncer except if the person is classified by the Internal Revenue Service as a “covered expatriate.” This means they satisfy one or more of three criteria: an average annual U.S. income tax liability for the five years preceding expatriation of more than US$168,000; a net worth over US$2-million on the date of expatriation; or if they have incorrectly filed U.S. tax returns for the five years before expatriation.
Being a covered expatriate may be costly. Section 877A of the Internal Revenue Code deems a covered expatriate to have sold all their worldwide assets at their fair market value on the day before expatriation. Any accumulated capital gains would be taxable in the year of expatriation.
The renouncer who is a covered expatriate is subject to IRS tax on capital gains on their assets that exceed US$725,000 payable upon the expatriation at approximately a 20 per cent rate on gains, and on their gifts or testamentary bequests to U.S. donees or beneficiaries at 40 per cent.
There are two exemptions. The first is that anyone born a dual citizen is automatically not a covered expatriate. The second is limited to citizens who have not lived in the United States for more than 10 of the last 15 years before the age of 18 and a half. In any event, the renouncer must be compliant with their U.S. tax returns for the last five years.
Lastly, if the renouncer would be a covered expatriate because their net worth exceeds US$2-million, gifting assets to the renouncer’s spouse before filing for renunciation may avoid that status. For example, a renouncer could give the Canadian principle residence to their husband or wife and come in below US$2-million, avoiding double taxes.
It’s important to understand the pros and cons of renouncing, regardless of whether you are a politician.
David Altro is the managing partner of Altro LLP, which specializes in cross-border tax and estate planning, real estate and immigration. Matt Altro is the president and CEO of MCA Cross Border Advisors Inc. and a certified financial planner in Canada and the United States. Alessandro Tortis is an associate at Altro LLP.