U.S. Estate Planning Issues for U.S. Citizens Living Abroad
by Kevin Stickle
March 20, 2023
Many Americans living abroad do not realize they are subject to U.S. federal estate tax regardless of whether or not they own any U.S. property. Read on to learn more about reducing your exposure.
Many Americans who have been living abroad for years have recently become aware of their U.S. income tax filing requirements. The United States is unique in that it taxes its citizens on worldwide income regardless of country of residence.
Over the years, the U.S. federal government has increased its tax enforcement efforts by threatening high penalties for noncompliance and offering voluntary disclosure programs to encourage Americans to become compliant with their U.S. income tax filing obligations.
Yet, many Americans living abroad do not realize they are exposed to U.S. federal estate tax regardless of whether or not they own any U.S. property.
What Is U.S. Estate Tax?
The U.S. federal estate tax is essentially a “net worth” tax. It’s a tax on the value of all assets (less liabilities) owned by the decedent at the date of their death. Several deductions are allowed for debts, estate administration expenses, funeral expenses, charitable bequests, marital transfers and several other expenses.
The first $12.92 million (adjusted annually for inflation) of a decedent’s assets are exempt from U.S. federal estate tax. Any assets in excess of $12.92 million are subject to U.S. federal estate tax at a 40% tax rate. It is very important to note that this exemption is scheduled for a large 50% reduction in 2026 under operation of the US tax law. Any planning undertaken should contemplate the impact of this reduction on the estate tax plan.
U.S. Estate Planning Considerations for Americans Living Abroad
- Capture the benefit of both spouses’ exemptions through the use of a bypass trust or portability (the transfer of one spouse’s unused lifetime exemption to another via filing of an estate tax return).
- Consider gifting assets (to spouse, children, family) to reduce U.S. taxable estate and shield future growth from estate tax. The use of trusts is an important planning tool to be considered.
- Consider having two “situs” wills that govern only the assets in the U.S. and country of residence or one international will that covers all the decedent’s assets. Ensure that laws of all applicable countries are considered.
- Consider purchasing life insurance to pay for estate tax. Form of ownership is important. If structured appropriately, the proceeds may not be included in the taxable estate.
Common Traps for the Unwary
The use of trusts for estate planning is common. However, you must ensure that the trust terms consider tax law in the U.S. as well as the country of residence to avoid unintended consequences.
State Estate Tax
Many states have their own estate tax with lower exemptions than the federal tax. It is possible to not be subject to U.S. federal estate tax but be subject to estate tax in one or more states, especially when property is physically located in such states.
In addition to their own estate tax, many states have costly probate fees. Consider planning techniques such as revocable trusts to avoid these fees.
Many countries have different types of transfer taxes such as estate tax, gift tax, inheritance taxes (to the beneficiary) or deemed disposition capital gains taxes. If more than one country imposes a transfer tax, it is important to determine whether there is a tax treaty in place to reduce/eliminate any double taxation.
Some estate planning techniques are not available if both spouses are not U.S. citizens. Marital transfer strategies (either during life or at death) can be frustrated when one spouse is not a U.S. citizen. Proper planning is key.
Citizenship, Residency of Children
Consider citizenship and/or residency of children as there may be estate planning implications if they are bequeathed in the decedent’s will.
Law In Country of Residence
Be mindful of local law in the country of residence. For example, in many civil law countries such as France, Germany and Japan, there are laws that govern who must receive assets when a person dies. These systems require that certain beneficiaries (such as children, spouse) have certain rights in a decedent’s assets. This can frustrate the estate plan and provisions set forth in the will.
There are significant opportunities for U.S. citizens to implement strategies to minimize their U.S. estate tax exposure and ensure their estate plan meets their personal objectives.
If you own assets outside the United States, or currently live or plan to live outside the United States for any period of time, we recommend that you review your will and estate plan with both the U.S. tax law and the laws of the other country in mind.
A competent cross-border estate planning attorney, in conjunction with the U.S. and country of residence tax advisors, can assist you with the international estate planning process to ensure that you have an adequate plan in place that enables you to meet your legacy goals.
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Kevin Stickle, CPA, MS-Tax
Kevin Stickle joined Larson Gross in 1998 and has been an integral part of the firm’s tax practice growth since 1999. He is the firm’s former tax director, serving in that role for 9 years, and a current technical leader for the firm’s international tax service line.