For most types of assets, an exit tax applies in which you will have to pay tax on the gains. To shed some light on the relevant nongrantor trusts interest we’re going to take a quick look at the key terms and concepts, and introduce some viable options you really need to know about.
Table of Contents
What is a Nongrantor Trusts?
It’s any trust where the beneficiary is not the owner. An example would be a trust set up by parents for a child living abroad.
Who are the beneficiaries?
This is the person in receipt of the assets and gains of the trust. An exit tax will be applied on the day before their expatriation date.
A Note on Taxation and Gain
The taxable portion of the trust’s distribution will tax at a rate of 30% and there cannot pretend a lump sum. This taxable portion represents income that would part of the beneficiary’s gross income. If; they had continued to subject to US tax because they were a citizen or resident of the US. This level of taxation will remain in place after the expatriate has left the US. Irrespective of it whether or not the trust will deem foreign.
The 30% tax has to hold back by the trustee during distribution. The expatriate has no right to claim any tax breaks or treaties as a result of this withholding. The trust must also recognize the appreciation of any non-cash assets by following a price that will deem fair by the market.
Understanding the Lump Sum Treatment
Applying for a private letter ruling from the IRS allows you to ask to treat. As someone who has been given your trust’s interest the day before the expatriation date. The IRS will have the final say over the true value in this case, and you will then be eligible to complete Form 8854 which formalizes the agreement. This also gives you the ability to make use of potentially reduced withholding rates should you wish to do so on future distributions.
Is a Grantor Trust Worth a Closer Look?
Conversion to a grantor trust will deem a taxable distribution, and you may need to consider withholding. If you convert to a grantor trust before the expatriation date then you will become taxed as part of the mark-to-market regime. For an accurate picture of whether this will be in your best financial interests, always seek the advice of a trained legal professional.
Key Takeaway Points
- As the expatriate, you will need to supply your trustee with Form W-8CE at whichever of these is first:
- 1 day before the first distribution that occurs after, or on, the expatriation date Within 30 days of the expatriation date
- This formalizes the process of withholding so that you can ensure the trust is still working in your best financial interests.
- Interests from non-grantor trusts will not typically tax; when expatriation occurs, but distributions afterward will tax at 30%. As such, they need to be withheld by the trustee. This withholding needs to formalize by the supply of Form W-8CE to the trustee, by the expatriate.
- You can get around these constraints with a single lump-sum payment, but the letter ruling involves the input of the IRS, and as such can be costly and drawn out.
Final Thoughts
Expatriation and non-grantor trusts have high detailed areas of taxation that have a number of cross-border complications. Whilst an introductory article is a great way to familiarize yourself with the key concepts and definitions, there’s simply no substitute for seeking the advice of a trained legal professional.
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