US estate tax strategies for noncitizens and nonresidents with US assets

Residency status and the US estate tax disparity

The United States Internal Revenue Service (IRS) defines estate tax as a tax on the transfer of tangible and intangible assets located in the United States. Tangible assets often refer to real estate located in the United States. Intangible assets can mean stocks held in a US corporation, personal bank accounts, insurance, trusts, and annuities.

Estate and gift taxes are often lumped together because they share many of the same rules, rates, and exemption amounts. For example, US estate taxes are paid by the estate, not the person inheriting assets; similarly, gift taxes are paid by the person giving the gift, not the person receiving it. The tax rate for both is up to 40%. Most importantly, there is a combined exemption for lifetime gifts and estate assets, which - for most US taxpayers - is set at $12,920,000 for 2023. However, not everyone gets the $12,920,000 exemption because it is determined by residency status:¹

• Generally speaking, a US citizen or foreign national domiciled in the United States gets a $12,920,000 million exemption; after that amount, their estate is responsible for up to a 40% tax.

• Non-domiciled foreign nationals get just a $60,000 exemption -- and are responsible for up to 40% of estate taxes above that amount.

The estate tax exemption is not always well understood by nonresidents, but the disparity is quite significant. However, with proper planning, there are ways that it can be addressed.

Determining domicile status

The first step to addressing US estate tax disparity is knowing which rules apply to your situation. However, it is not always easy to do. The US Internal Revenue Service domiciliary rules for estate tax purposes can be nuanced and complicated. For example, individuals present in the US on a nonresident visa (such as a G-4 visa) may be considered US-domiciled for estate and gift tax purposes, even though they are considered nonresidents for US income tax purposes.

A qualified tax attorney is recommended to help navigate the complex and often seemingly contradictory domiciliary rules. Doing that is also a good idea because tax specialists or other qualified experts can help nonresidents understand different ways estate tax liabilities can be increased or lessened due to the following:

• Estate tax treaties with foreign countries
  The United States has estate tax treaties with some foreign countries, which allow nonresidents more generous exemptions that can provide significant reductions to US estate tax obligations. Those countries currently include:¹

  • Australia

  • Finland

  • Ireland

  • Austria

  • France

  • Italy

  • South Africa

  • Canada

  • Germany

  • Japan

  • Switzerland

  • Denmark

  • Greece

  • The Netherlands

  • United Kingdom

• US state estate and inheritance taxes
  Certain US states impose their own estate and inheritance taxes in addition to federal estate taxes. Details vary by state and can be quite involved. Speaking with a qualified professional can mitigate risk and maximize advantages.

Traditional hedge tactics against estate tax liabilities may not be as effective as they once were  

It used to be the case that nonresidents could opt to transfer ownership of US real estate assets to a non-US holding company to eliminate estate tax obligations. But this strategy is harder to implement because of new US tax laws:

• FIRPTA - The Foreign Investment in Real Property Tax Act
  This US tax law applies to nonresident foreign nationals, foreign corporations, LLCs, and partnerships. Generally, the law imposes US income tax on foreign nationals who sell US real estate, which can have complex effects that mitigate potential tax advantages. United States residents are not subject to FIRPTA requirements.

• US Corporate Anti-Inversion Rules
  Generally speaking, these are a set of rules enacted by the US government to address federal estate and gift tax requirements for nonresident foreign nationals. They also apply to US corporations relocating operations overseas to reduce their US income tax obligations.
  
  In the past, high net worth foreign nationals not residing in the United States could hold real estate assets through US corporations, which were, in turn, owned by a foreign corporation. This was a strategy employed that could, in simple terms, function as a “blocker” for US estate and gift tax liabilities on nonresident investors.
  
  Recent federal legislation nullified these “inversion” or corporate “blocker” moves. Inversion regulations can be complicated and should be discussed with qualified legal advisors to ensure foreign nationals are familiar with all relevant estate and gift tax regulations.

Effective estate planning solutions for foreign nationals

Anyone who wants to protect the wealth they’ve accumulated should plan carefully for the best way to transfer assets to the next generation. However, nonresidents with US assets must be cognizant of a much wider range of laws and estate taxation rules across different countries. The appropriate solution for your individual situation will likely be found in consultation with a specialized professional who understands your financial goals and is conversant with the rules in the jurisdictions where you live, have assets, and have relatives you want to leave them to. Having said that, there are two effective strategies you should know about.

Gifting assets

Giving gifts of cash, tangible personal property, or real estate interests to heirs while you are alive can be an effective way to transfer assets and, sometimes, help reduce estate tax obligations. There is an annual exclusion for “present value” gifts of up to $17,000 for 2023,² which means each individual can give anyone up to $17,000 without issue, and you don’t even have to report it on your taxes. However, there starts to be a number of complications when gifts of US-based assets go over that amount:

• You have to file a gift tax return – IRS form 709 – for every person who receives more than $17,000 per year.

• However, if you are a US citizen or resident (domiciled), you don't necessarily have to pay gift taxes, because there is a lifetime exemption of $12,920,000 for all gifts to all recipients.

• On the other hand, if you are a nonresident, your lifetime gifts are subject to the much lower $60,000 exemption.

In other words, once the combined value of all reported lifetime gifts goes over $60,000, you have to start paying gift taxes — which, like estate tax rates — go up to 40%.

Using US life insurance to overcome the estate tax disparity

Nonresident life insurance can help bridge the estate tax disparity, because death benefit payments are generally exempt from federal estate taxes. While the nonresident exemption for estate assets is limited to $60,000, life insurance benefits are considered to be separate from the estate and not subject to the same limitations. That also means that that money is transferred to beneficiaries without going through the probate process, which can be time-consuming for a large estate. These features could make life insurance an attractive wealth-transfer vehicle for many foreign nationals with US-based assets. Permanent universal or whole life insurance that builds cash value can also provide a number of other advantages when it comes to estate planning and preserving family wealth:

• Covering potential estate taxes with life insurance
  The US government imposes estate taxes on US-situated assets for nonresidents. Still, US-denominated life insurance can provide the liquidity needed to cover potential estate taxes without having to sell all or a portion of these holdings, helping preserve the estate’s value for heirs.

• Portfolio diversification and risk mitigation
  Permanent whole life insurance builds cash value at a guaranteed life insurance rate and is among the more conservative financial products available. A policy can build US-denominated cash value that can be accessed while the policyholder is still alive, acting as a potentially effective hedge against economic downturns in one’s home country, fluctuating exchange rates, and other forms of geopolitical risk.*

• Asset protection
  Life insurance policies are generally protected from creditors and bankruptcy. This can provide an additional layer of protection for foreign nationals’ assets.

If you’re a foreign national with US residency, a Guardian financial professional will work closely with you on a one-to-one basis, and then tailor an estate planning solution that precisely fits your needs. Or, if you’re a nonresident with ties to the US, ask about the Global Citizens Program.