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The Non-Citizen and the U.S. Estate and Gift Tax – An Introduction

Mar 01 2022

Article Written for:  TaxStringer, the NYSSCPA's (New York Society of Certified Public Accountants)

This month, we introduce our series on international tax law.  We start with an introduction to the international aspects of the U.S. estate tax and the gift tax.

Since 1916, the United States has imposed an “estate tax” on the U.S. assets of foreign decedents and on all assets of U.S. citizens and resident non-citizens. The estate tax covers transfers of wealth at death. The United States also imposes a “gift tax” on gratuitous lifetime transfers. The gift tax covers the value of gifts made during life. Non-resident non-citizens are taxed only on gifts of U.S. based assets.

Since 1977, the estate tax and the gift tax have been integrated for U.S. citizens and residents. Tax on gifts and estates are offset by the same “unified credit,” against both the estate and gift tax. The unified credit “exempts” from taxation the value of property transferred, up to the “applicable exclusion amount.”

For calendar year 2022, the exclusion amount for U.S. citizens and residents is $12,060,000 per individual. Tax on lifetime gifts may be offset by the unified credit. Gift tax offsets reduce the credit available at death. The estate or gift tax is owed by U.S. (non-citizen) residents and citizens if the aggregate value of lifetime gifts (exceeding $15,000 per donee per year) and all testamentary bequests (i.e., gifts at death) exceed the unified credit.

The estate tax is imposed on the “gross estate” of U.S. citizens and U.S. (non-citizen) residents. The gross estate of a U.S. person includes all property, real or personal, tangible or intangible, wherever situated. This phrase, “wherever situated,” imposes the estate and gift tax on worldwide assets of citizens and (non-citizen) residents. The estate tax and the gift tax attach to all assets regardless of the location of the U.S. citizen or resident (or his property) at the time of gift or death.

The estate and gift tax imposed on non-resident non-citizens (NRNCs) is limited to property which, at the time of the NRNC’s gift or death, is situated in the United States. The U.S. taxable estate of the NRNC also includes U.S. assets held in a foreign or U.S. trust generally controlled by or accessible to the NRNC. Intangible assets owned by the NRNC are, however, excluded from the gift tax; the NRNC may therefore make unlimited gifts of U.S. stocks and bonds free of the gift tax. Intangible assets not given away are generally subject to the estate tax at death.

The rate of tax for both the estate tax and gift tax is 40% of the value of property transferred. The rate of estate and gift tax on NRNCs is the same as that applied to U.S. grantors. If applicable, U.S. estate and gift tax treaties diminish or eliminate the estate and gift tax imposed on non-citizens. U.S. citizens and residents generally receive a credit for estate tax paid to a foreign country on property subject to the U.S. estate tax.

Residency

The Internal Revenue Code speaks of U.S. non-citizens as “residents” and “non-residents” regarding the estate and gift tax. The Code, however, contains no definition of “resident” or “residency.” Estate tax regulations set the standard for residency, as “domicile” in the United States (subjecting the resident to worldwide estate and gift tax exposure).

The regulations state that “a person acquires domicile in a place by living there, for even a brief period of time, with no definite present intention of later removing therefrom.” To establish an individual as domiciled in the United States (i.e., a “resident” for estate and gift tax purposes), two elements must be proven. The first is physical presence in the United States. The second is the individual’s intent to remain in the United States. As this second element requires a case-by-case examination of intent, categorization can be unpredictable.

The intent to establish domicile is a state of mind, proven by facts and circumstances. Factors include: (i) the time spent in the U.S. and abroad; (ii) the financial investment and location of the decedent’s home; (iii) the place of business operations; (iv) U.S. visa and immigration status; (v) the reason for spending time in the U.S. (i.e., healthcare, tourism or asylum); (vi) the residence of friends and family; (vii) the place of religious and social affiliations; (viii) the residence reflected in legal documents; (ix) place of voter registration and driver’s license and (x) residence status disclosed on tax filings.

The U.S. income tax rules for determining residency are distinct from the estate tax rules. An individual may therefore be a resident for income tax purposes but not for estate tax purposes, and vice versa.

Once domicile is established (for estate tax purposes), it is presumed to continue until shown to have changed. If an individual previously established U.S. domicile, the burden will be on the party asserting non-U.S. domicile, to prove a change in status.

Limited NRNC Exemption

The estate tax exemption for NRNCs is only $60,000 (amounting to an estate tax credit of $13,000). NRNCs may not apply the $60,000 credit against taxable lifetime gifts. The gift tax is, therefore, due on all lifetime gifts of U.S. tangible property (exceeding the $15,000 annual exemption).

Transfers Between Spouses

Gifts to one’s U.S. citizen spouse are not taxable (for both U.S. and non-U.S. grantors). If both spouses are citizens of the United States, either spouse may transfer assets to the other spouse and receive a tax deduction for the entire value of the property transferred. U.S. citizen spouses may therefore delay (until the death of the survivor) the imposition of either the estate tax or the gift tax on spousal transfers. Such transfers may be accomplished during life or at death and either by outright gift or through gifts in trust (for the benefit of the other spouse).

Gifts

Only citizens enjoy an unlimited marital deduction (i.e., no tax imposed) for lifetime spousal gifts. If the spouse receiving a lifetime gift is not a U.S. citizen, the gifting spouse may only deduct $164,000 in tax-free spousal gifts during any calendar year. A few U.S. tax treaties include a gift tax marital deduction for transfers to non-citizen spouses. If a treaty applies, the limited annual exclusion may be avoided.

The limitation on lifetime gifts applies even if both spouses are domiciled in the United States at the time of the gift. The domicile of the donor and donee is irrelevant. Annual lifetime gifts to non-citizen spouses are thus taxed on value exceeding $164,000 (adjusted annually for inflation). The limitation on gifts to non-citizen spouses does not limit tax-free gifts by a non-citizen spouse to a U.S. citizen spouse.

An NRNC considering U.S. residency should generally make any intended large spousal gifts of foreign property and U.S. intangible property (free of gift tax) before moving to the United States. Once domiciled in the United States, the grantor becomes subject to the gift tax on all assets held worldwide (along with the $164,000 limited deduction on spousal gifts to a non-citizen spouse).

Additional strategies to avoid the gift tax on spousal gifts to a foreign spouse by a U.S. citizen or resident spouse include: (i) making gifts through shared title, as tenants by the entireties (if available) or joint tenancy with rights of survivorship; (ii) applying (to the extent available) his or her remaining estate and gift tax exclusion (against the value of gifts exceeding the limitation on gifts to a non-citizen spouse); or (iii) deferring the spousal gift until death (with the testamentary transfer made to a QDOT). Unfortunately, joint titling will only defer transfer tax until the death of the donor spouse, when the estate tax is due on all jointly titled U.S. situs assets (unless contributed to a QDOT).

Bequests

For U.S. couples, the first U.S. citizen spouse to die may leave his or her entire estate to a surviving U.S. citizen spouse without triggering the estate tax (payable on the death of the second spouse). Thus, any estate tax owed by the first spouse to die may be delayed (by devising the deceased’s estate to the surviving spouse). This concept is known as the “unlimited” marital deduction.

A U.S. citizen or resident may also “port” his or her individual exclusion amount (currently $12,060,000) the surviving spouse. Any exclusion amount not used by the first spouse to die (by lifetime and testamentary non-spousal gifts) may be transferred (or “ported”) to the qualifying surviving spouse. The total amount of property excluded from the estate tax ($12,060,000 times two, or $24,120,000) may therefore be pooled by U.S. (citizen or resident) spouses (and applied against the taxable estate of the second spouse to die).

The unlimited marital deduction (sheltering spousal bequests by a U.S. citizen or resident) is restricted for transfers to a surviving non-citizen spouse. A surviving non-citizen spouse may not generally receive a bequest (from a citizen or resident deceased spouse) tax-free. The restriction is intended to limit the risk of the surviving non-citizen spouse (even if a U.S. resident) leaving the United States with the decedent’s taxable estate. A shift in domicile by the surviving (non-citizen) spouse could allow for avoidance of estate tax, as the survivor (with the estate assets) could permanently leave the United States, potentially eluding estate tax on “worldwide” assets.

Titling (during marriage) marital assets (especially assets not located in the United States) in the name (or for the benefit) of the non-citizen spouse should be considered if the intention is for the survivor to leave the United States. An NRNC surviving spouse is subject to estate tax only on U.S. situs assets.

Any U.S. citizen or resident may defer estate tax on testamentary transfers to a non-citizen spouse through a special trust. The grantor spouse must leave his or her estate to a “qualified domestic trust” (QDOT), as a condition to receiving the marital deduction. The fiduciary of the estate must make the QDOT election on the deceased spouse’s estate tax return. In the absence of an estate Tax treaty, only through the QDOT may estate tax (on assets held by a U.S. citizen or resident spouse) be deferred until the death of a surviving non-citizen spouse.

Transfers to QDOTs thus qualify for the marital deduction. Distributions from a QDOT of trust principal are subject to the Estate Tax. To qualify for the marital deduction, the deceased’s property must pass either (i) directly to a QDOT before filing the deceased’s estate tax return, or (ii) from the NRNC recipient spouse (to the QDOT) within nine months of the decedent’s death.

To qualify for the marital deduction, the QDOT must (i) be executed under U.S. law, (ii) have at least one trustee that is a U.S. citizen or U.S. corporation, and (iii) not allow for distributions unless the trustee has the right to withhold tax on transfers from the trust to the surviving (non-citizen) spouse. Certain other mandatory trustee powers must be included to secure U.S. tax compliance.

Any distributions of principal from the QDOT to the surviving noncitizen spouse are subject to the estate tax at the time of distribution. Any principal remaining upon the death of the non-citizen spouse will also be subject to estate tax (as part of the estate of the first spouse to die). Distributions of income are not subject to the estate tax.

Treasury regulations permit a modified “portability” election to be made (to allow a surviving non-citizen spouse to utilize the deceased’s unused estate tax exemption). Estates of NRNC spouses may not, however, elect portability.

Rules of administration exempt the QDOT from “foreign trust” status (and the associated onerous reporting requirements).

NRNC strategies to avoid the estate and gift tax on U.S. assets are discussed in our next article in this international tax series.



Views expressed in articles published in Tax Stringer are the authors' only and are not to be attributed to the publication, its editors, the NYSSCPA or FAE, or their directors, officers, or employees, unless expressly so stated. Articles contain information believed by the authors to be accurate, but the publisher, editors and authors are not engaged in redering legal, accounting or other professional services. If specific professional advice or assistance is required, the services of a competent professional should be sought. 

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Gary A. Forster

Gary Forster is the managing partner and co-founder of ForsterBoughman.  His practice includes domestic and international corporate law, asset protection, tax, and estate planning. Gary handles a wide variety of corporate and personal planning matters.  Gary is the author of two books.  In 2013, he wrote Asset Protection for Professionals, Entrepreneurs and Investors, a guide to asset protection strategies for clients and their financial advisors, now in its second edition.  In 2020, he finished the second edition of The U.S. Estate and Gift Tax and the Non-Citizen, which explains how resident and non-resident foreign nationals are impacted by the U.S. Estate and Gift Tax.  Gary writes and lectures nationally to state bar and CPA groups on the topics of asset protection, international tax and corporate law.  He has also instructed classes at the University of Florida (Levin College of Law) and Rollins College (Crummer Graduate School of Business).  Gary’s articles can be found in such publications as the Florida Bar Journal and the American Bar Association’s Probate and Property Magazine.  Gary earned a B.A. from Tufts University, graduating cum laude with majors in Economics and Spanish Literature.  He received his J.D. from the University of Florida College of Law, graduating with honors.  Gary continued his studies as a graduate fellow at the University of Florida College of Law, Masters of Taxation program, earning an LL.M.  His education also includes studies at the University of Madrid, Oxford University and Leiden University in the Netherlands.  Gary is rated AV-Preeminent by Martindale-Hubbell and speaks Spanish fluently.

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