IRC 877A: How the U.S. Expatriation Tax Works
Renouncing U.S. status is a complex financial event with specific tax implications. This guide explains the underlying framework for a compliant departure.
The United States taxes its citizens and certain residents on their worldwide income, a policy that extends to an expatriation tax under Internal Revenue Code (IRC) Section 877A. This “exit tax” applies to individuals who renounce U.S. citizenship or terminate their long-term residency status. Its purpose is to tax the appreciation of assets that occurred while an individual was part of the U.S. system. Established by the HEART Act of 2008, the tax targets a specific group defined as “covered expatriates,” and is not levied on every person who gives up their citizenship or green card.
Determining Covered Expatriate Status
The expatriation tax applies only to individuals classified as “covered expatriates.” This status is triggered if a U.S. citizen or long-term resident meets one of the following three tests on their expatriation date. A long-term resident is someone who was a lawful permanent resident for at least eight of the 15 tax years ending with the year of expatriation.
The Net Worth Test
An individual is a covered expatriate if their net worth is $2 million or more on the date of expatriation. This calculation is comprehensive, including the fair market value of all worldwide assets minus liabilities.
The Tax Liability Test
An individual meets this test if their average annual net income tax liability for the five years before expatriation exceeds an inflation-adjusted amount ($206,000 for 2025). This figure represents the actual tax paid, not the individual’s income. The calculation involves averaging the net income tax from the five prior U.S. tax returns.
The Tax Compliance Test
An individual becomes a covered expatriate by failing to certify, under penalty of perjury, that they have met all U.S. federal tax obligations for the five years preceding expatriation. This certification, which covers all federal taxes, is made on Form 8854, the Initial and Annual Expatriation Statement. An uncorrected failure in filing or payment during that five-year period will cause the individual to be deemed a covered expatriate.
Calculating the Mark-to-Market Exit Tax
For a covered expatriate, the exit tax is a “mark-to-market” calculation. This system, outlined in IRC 877A, treats the individual as if they sold nearly all of their worldwide assets for fair market value on the day before their expatriation date. This “deemed sale” creates a taxable event on the unrealized appreciation of the assets. The tax is calculated on the net gain, which is the fair market value minus the asset’s adjusted basis. All individual gains and losses are netted against each other to determine the total net gain.
A statutory exclusion amount, indexed for inflation, is a feature of this regime. For 2025, this exclusion is $890,000. A covered expatriate can exclude this amount from their total net gain from the deemed sale. If the total net gain is less than this exclusion, no exit tax is due on these assets.
Once the net gain is calculated and the exclusion is applied, the remaining gain is subject to tax. The character of the gain depends on the underlying asset, but for most investments like stocks or real estate, it is taxed at long-term capital gains rates. This tax liability is reported and paid with the individual’s final U.S. tax return.
Special Rules for Certain Assets
While the mark-to-market regime applies to most assets, different rules are provided for specific accounts and compensation arrangements. These assets are excluded from the deemed sale and are subject to distinct tax treatments.
Specified Tax Deferred Accounts
This category includes accounts like traditional Individual Retirement Arrangements (IRAs) and Health Savings Accounts (HSAs). For a covered expatriate, the entire value of these accounts is treated as distributed in full on the day before expatriation. This deemed distribution is taxed at ordinary income tax rates.
Deferred Compensation
The tax treatment of deferred compensation depends on its classification. For eligible plans, the payor must withhold a 30% tax on any future payments made to the covered expatriate, who must waive any right to claim a reduction in withholding under a U.S. tax treaty. For ineligible deferred compensation plans, including most foreign pensions, the covered expatriate is treated as receiving a lump-sum distribution equal to the present value of their accrued benefit on the day before expatriation. This amount is taxed as ordinary income.
Interests in Trusts
The rules for interests in trusts depend on the type of trust. If a covered expatriate is the beneficiary of a non-grantor trust, future distributions from the trust will be subject to a 30% withholding tax. For grantor trusts where the covered expatriate is treated as the owner, the portion of the trust’s assets the individual is considered to own is subject to the mark-to-market tax, including the standard exclusion amount.
Required Tax Filings and Procedures
Navigating the expatriation tax requires adherence to specific filing procedures. The central document is Form 8854, the Initial and Annual Expatriation Statement. On this form, an individual certifies tax compliance for the preceding five years and reports the assets and liabilities for the net worth test and mark-to-market calculation. This form must be filed by every individual who expatriates, regardless of whether they are a covered expatriate.
In the year of expatriation, the individual must file a dual-status tax return. This return covers the part of the year as a U.S. person on Form 1040 and the part of the year as a nonresident alien on Form 1040-NR. The exit tax calculated on Form 8854 is reported and paid with this return.
The filing deadline for the dual-status return and Form 8854 is the standard tax filing date, typically April 15 of the following year, with extensions available. Failure to file Form 8854 on time or providing incomplete information can result in significant penalties.
Expatriation is a legal process separate from tax filings. For a citizen, this involves renouncing citizenship at a U.S. embassy. For a long-term resident, it occurs when their green card is formally terminated. The date of this event is the expatriation date for tax purposes.
Post-Expatriation Tax Considerations
The tax implications of expatriation can continue after the exit tax is paid. Under IRC Section 2801, any U.S. citizen or resident who receives a substantial gift or bequest from a covered expatriate is subject to a special inheritance tax. This provision prevents covered expatriates from avoiding U.S. transfer taxes by giving away wealth after leaving the U.S. tax system.
The tax is imposed on the U.S. recipient of the gift or bequest, not the covered expatriate. The tax is levied at the highest federal estate or gift tax rate, which is 40%. The recipient is responsible for paying this tax using Form 708, though an annual exclusion amount for gifts is available.