As a financial planner advising mixed nationality couples, you may have realized that the planning challenges these couples face are quite different from those experienced by couples of the same nationality.
The most pressing financial challenges for mixed nationality couples revolve around tax planning, arguably the most complex facet of comprehensive financial planning.
Improper tax planning for mixed nationality couples can cost them dearly. As a mixed nationality advisor, you have an opportunity to save your clients a lot of money and seriously increase your value as a global financial planner.
In the US, immigration authorities and tax authorities are not in alignment regarding the definition of residency. US immigration laws define residency differently than US tax laws, and these definitions are regulated by different government agencies.
When it comes to matters of legal residency, the US Department of State and the US Citizenship and Immigration Services (USCIS) are two of the most important players, while the IRS is responsible for residency relative to tax implications.
According to US immigration laws, there are four categories of legal residency:
The IRS has fewer qualms about the categories of residency. According to the IRS, US citizens and legal permanent residents are always considered US tax residents, even if those individuals are not living in the US. The IRS defines non-citizens as US resident aliens or nonresident aliens (more on this in section 2 below). Only nonresident aliens are excluded from US tax laws.
This distinction is important for financial advisors to know because US citizens who have married a non-US citizen are still subject to US taxes, even if the citizen is living in their spouse’s home country (or any other country, for that matter).
As stated above, the IRS considers a non-citizen an ‘alien,’ which falls into one of two categories: resident aliens and nonresident aliens. For mixed nationality couples with one spouse who is not a US citizen, these distinctions are essential to understand for tax consequences.
US resident aliens may either be green card holders or permanent residents for a given calendar year and are taxed the same as US citizens. They must report their worldwide income on their US tax returns subject to their US income tax rate.
Under the Heroes Earning Assistance and Relief Tax (HEART) Act, green card holders and long-term residents may be subject to a hefty exit tax on their held assets if they relinquish their green card or permanent resident status and leave the US.
This means that non-citizen spouses who lived in the US but are now leaving for another country must make the difficult choice to continue paying US income taxes or pay an exit tax after leaving the country. Your understanding of the HEART Act and how it affects your clients can significantly impact the tax recommendations you make.
Nonresident aliens are not US citizens and do not reside in the US. Nonresident aliens are only taxed on income they earn that is effectively connected with a US trade or business. To a limited extent, they may also be taxed on any investment income if that income is derived from US sources.
This means that if the US citizen and their non-US-citizen spouse live in another country, the non-US-citizen spouse does not have to pay income taxes to the US on income earned outside of the US (unless the couple files taxes jointly). The flip side of this is that the US citizen spouse needs to file their taxes as either Married Filing Separately, which has some undesirable tax implications, or the NRA spouse must opt for a 6013(g) election.
Situs is a Latin term that means “position” or “site,” which in the law is a term that refers to the location of property for legal and tax purposes. Tangible property, such as real estate, physical currency, and vehicles located in the US are easily identifiable as US situs property.
It is more complex to determine the location of intangible property such as brand names, patents, trademarks, and copyrights. By some standards, assets such as stocks, bonds, life insurance policies, and qualified retirement plans are also considered intangible property.
Some intangible assets that would not be considered US situs property are US-listed American Depository Receipts (ADRs), stock of foreign companies, publicly traded bonds, and offshore mutual funds.
It’s important to understand the concept of US situs property because nonresident aliens are generally only subject to transfer taxes (i.e. gift and estate taxes) on assets that are considered US situs property, which has important implications for estate planning.
Assets not considered US situs property may not be subject to transfer taxes if a US non-citizen spouse elects to become a resident, citizen, or joint filer of the US.
Source of income refers to which country income is deemed to originate from. The country from which income is derived has first taxing rights to that income, and whether any further income tax is owed to more than one country is dependent on several factors.
Of course, the source of income and subsequent tax implications for the US citizen spouse will have an impact on whether they should file their taxes as Married Filing Jointly or Married Filing Separately.
The relative tax rate of the US over the source or resident country plays a role in whether income tax is owed to the US. For example, if the foreign country has higher tax rates than the US, you may be able to claim a tax credit that would reduce your taxable income for the US.
The US does allow for a Foreign Earned Income Exclusion (FEIE), which means that expats can exclude income up to a certain amount from being taxed by the US. The amount is upwards of $100,000 but is adjusted each year for inflation ($108,700 USD in 2021). If the US citizen spouse makes above this amount, they will need to consider their filing status even more carefully.
At the Global Financial Planning Institute, we support fiduciary financial advisors who serve expatriates and repatriates all over the globe. Whether you originally planned to serve expats or fell into this niche by chance, you may find that the planning advice you offer is a bit outside your realm of expertise.
That’s okay! You have a unique opportunity to provide financial advice to globally mobile individuals and families who need you, and it’s never too late to build your expertise in this area.
Content in this material is for general information only and is not intended to provide specific advice or recommendations for any individual.
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