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What to Know about U.S. Estate and Income Tax for Foreign Investors

What to Know about U.S. Estate and Income Tax for Foreign Investors

Disclosure: Any specific examples listed are solely intended for educational purposes and are not intended to be tax advice. Please consult with a tax professional for specific information related to your situation.

There are many reasons for foreign investors to hold investment accounts in the United States. With its long history of property rights, efficient and regulated capital markets, and plenty of affordable investment options, the U.S. consistently ranks as one of the best global destinations for wealthy international investors.

As attractive as the U.S. may seem, foreign investors also need to be aware of potential pitfalls. In this article, I will focus on investments in financial assets, such as portfolios of stocks and bonds held through U.S. institutions, as opposed to real estate. 

In principle, the U.S. is wide open to foreign investors, and there are no laws (whether federal or state) preventing foreign nationals from holding investment accounts. However, for various reasons (complexity, risk…), many brokerage firms, banks, and financial advisors may choose to limit their services to U.S. residents, or at least apply strict restrictions on services to non-U.S. clients (such as minimum asset size requirements). So finding the right investment partners already requires some familiarity with the U.S. investment landscape. 

U.S. Estate Tax for Non-Americans

Once you’ve found the right provider, your next concern should be the U.S. estate tax. Foreigners are only subject to U.S. estate tax on U.S. assets. But, in most cases, they only benefit from a measly USD 60,000 exemption (compared to USD 12.06 million for U.S.-domiciled individuals). Therefore, if a foreign account holder dies with investments in U.S. stocks worth USD 1,000,000, their potential U.S. estate tax liability would be USD 376,000, corresponding to a tax rate of 40% on amounts in excess of USD 60,000. 

As scary as this outcome may seem, it is entirely avoidable.

Investing in Non.-U.S. Situs Assets

One of the simplest ways to avoid it is not to invest in assets that are not subject to U.S. estate tax, which can be done even in a U.S. investment account. For example, investments in non-U.S. exchange-traded funds, or mutual funds (such as UCITS funds registered in Ireland or Luxembourg), are not considered U.S. situs and are not subject to U.S. estate tax upon the death of the non-resident owner. Likewise, ADRs of foreign companies, even if traded on the New York stock exchange, would not be subject to U.S. estate tax. More surprisingly, publicly-traded bonds are also not deemed to be located in the U.S. for the purpose of estate tax assessment, meaning that U.S. treasury bonds (possibly the most American of all American assets!) would not subject the owner to U.S. estate tax. 

Creating a Corporate or Trust Structure

With some careful planning, it is possible to design investment portfolios that avoid the pitfall of U.S. estate tax, even if held at a U.S. institution. If this option isn’t available, another strategy may involve the creation of some form of corporate or trust structure to hold investments. For example, many foreign nationals will choose to open their U.S. accounts in the name of an offshore investment company. Once in place, the company can invest in U.S. situs assets such as U.S. stocks. If the owner of the offshore company dies, ownership can be transferred to their heirs without subjecting their estate to U.S. taxes. The general principle at work here is that while the underlying investments may be in U.S. shares, the company itself is a foreign entity, and therefore not U.S. situs.

While these types of structures aren’t necessarily cumbersome to create, they do require careful consideration and planning, so investors should consult their legal counsel to ensure proper procedures are followed. 

Estate Tax Treaties with the U.S.

With all that said, there may be no need for clever portfolio construction, or for sophisticated corporate structures, if you happen to live in one of the 15 countries to have signed a bi-lateral estate tax treaty with the U.S. In many cases, such treaties will allow residents of the foreign nation to claim a larger U.S. estate tax exemption than the default USD 60,000. Or (depending on the specific treaty), may otherwise limit the scope of U.S. estate tax to very specific assets, such as immovable property. 

Foreign countries with estate tax treaties are:

  • Australia
  • Austria
  • Canada
  • Denmark
  • Finland
  • France
  • Germany
  • Greece
  • Ireland
  • Italy
  • Japan
  • Netherlands
  • South Africa
  • Switzerland
  • United Kingdom

U.S. Income Tax for Foreign Investors

What about income tax? Unlike U.S. investors, foreigners who hold U.S. accounts do not have to file with the IRS every year. Instead, they are subject to withholding at source on the U.S. investment income they collect in the form of dividends. The default rate of withholding is 30%, but once again, with a bit of planning and know-how, this outcome can be mitigated.

To start with, depending on where you live, the 30% at source withholding on U.S. dividends may not be much of an issue. Since many countries have a tax rate higher than 30%, many investors will be able to claim a credit on their local tax return and simply pay the difference. In this case, the U.S. withholding will not result in any net increase in the investors’ tax liability. 

If that isn’t good enough, additional relief from withholding tax may be available under the terms of the various income tax treaties between the U.S. and the investor’s country of residence. The U.S. currently has 58 such treaties with foreign countries, many of which provide reduced withholding rates on dividends. For example, an investor from Norway may avail themselves of a 15% rate (instead of the standard 30%) by making a claim under article 8.2 of the USA/Norway income tax treaty. The procedure for making the claim is fairly simple and involves completing section II of form W8Ben and submitting it to the institution holding your account. 

Finally – as was the case with the estate tax – income tax withholding can be avoided by simply not holding U.S. assets. An investor could select funds or shares specifically incorporated in foreign jurisdictions and hold them through a U.S. account.  A portfolio composed, for example, of exchange-traded funds listed on the London Stock Exchange may enjoy the dual benefit of avoiding exposure to both U.S. estate tax and U.S. income tax withholding (though various tax withholdings may take place within the fund itself, dispensing on the underlying investments…).

 

Conclusion

In summary, while foreign investors can greatly benefit from holding all or part of their investment portfolio in the U.S., there are various potential mistakes to avoid, relating to both estate and income tax. Don’t hesitate to reach out to our team at Walkner Condon to discuss your specific circumstances.

Can a Non-Citizen or Foreigner Invest in the U.S.?

Can a Non-Citizen or Foreigner Invest in the U.S.?

Are you a non-resident alien or non-U.S. citizen looking to invest in the U.S.? If you are, you might be wondering if it’s even possible to invest in the U.S. as a foreigner. 

Whether you’re part of a cross-border family or simply a non-U.S. citizen trying to invest in the U.S., there are quite a few myths and misconceptions about doing so as a non-American. We haven’t touched on this subject before, but we’ve still had a recent deluge of inquiries about investing in the U.S. as a foreigner. So we thought it was time to cover this subject more in-depth in what’s likely to be a multi-part series on the podcast.

In this episode, Keith Poniewaz, Ph.D.; Stan Farmer, CFP®, J.D.; and Syl Michelin cover the background on the topic and dive into the complications of investing in the U.S. as a non-American from both an inheritance perspective and income tax perspective. And when you’re investing abroad, the situs of the assets is critical. Simply put, the situs is the jurisdiction where property belongs for legal or tax purposes – in this case, the assets in which you’re investing. Keith, Stan and Syl define U.S. situs assets and non-U.S. situs assets, and how the situs status can impact your portfolio.

Questions about investing in the U.S. as a non-U.S. citizen or nonresident alien? Send them to us, and we might feature them on a future episode of the podcast. You can also reach out to our team and speak directly with an advisor by tapping the buttons below. 

WEBINAR: Moving to Portugal as an American

WEBINAR: Moving to Portugal as an American

Let’s dive into financial life in Portugal as an American.

When people reach out to our team of US expat financial advisors, there’s a good chance they’re either living or planning a move to a certain place – Portugal. And it’s not just something we’ve seen. It’s something the Wall Street Journal & LA Times have written about, too.

So as Portugal continues to grow in its popularity for Americans moving abroad, we’re focusing in on the key components of such a move from a finance & investing lens. After all, those areas will impact your experience in Portugal, whether it’s two years or for the duration of your retirement.

Our team of advisors – Stan Farmer, CFP®, J.D; Syl Michelin, CFA; and Keith Poniewaz, Ph.D. – present and then answer questions in the second portion of the webinar. Questions before or after watching the webinar? Send us an email at [email protected].

You can watch the full replay below or on Walkner Condon Financial Advisors’ YouTube channel.

If you have any questions, we’d encourage you to submit them ahead of time using the button below.

What are the Limits for My Investing and Spending Accounts?

What are the Limits for My Investing and Spending Accounts?

As we turn the page to the second quarter of 2022, it’s a good time to familiarize yourself with the changes to the more popular savings vehicles. It is imperative to understand the basics of these accounts to avoid mistakes, as the penalties can be quite onerous. This is not an exhaustive list, but it is a good place to start. 

The list is broken up into the appropriate categories of employer-sponsored plans, personal retirement plans, healthcare and spending accounts, and educational accounts.   

Employer-Sponsored Plans

401(k), 403(b), and most 457 plans have a new maximum employee contribution limit of $20,500, up from $19,500 in 2021. The overall maximum annual additions into defined contribution plans (which include 401(k) and 403(b) plans) increased from $58,000 to $61,000. 

Individuals aged 50 and older are allowed an additional $6,500 of contributions. Note that the “age 50 catch-up” amount did not increase from 2021 to 2022.

Personal Retirement Plans

IRA and Roth IRA contribution limits are unchanged at $6,000 for people under the age of 50 and $7,000 for individuals 50 years old and older. 

The traditional and Roth IRA income phase-out ranges are also increasing. 

Healthcare and Spending Accounts

Health Savings Account contribution limits increased from $3,600 to $3,650 for individuals and $7,200 to $7,300 for families. 

The HSA catch-up contribution for individuals 55 years old and older is an additional $1,000. This is unchanged from 2021.

The  Health Care Flexible Spending Account (FSA) limit has increased to $2,850 in 2022 – up from $2,750 in 2021.

The Dependent Care FSA limit in 2022 has reverted back to $5,000 for a married couple filing a joint tax return. The American Rescue Plan temporarily increased the limit to $10,500 in 2021.

529 College Savings Plan

529 plans do not have contribution maximums; however, contributions are considered completed gifts for federal tax purposes, and in 2022 up to $16,000 per donor ($15,000 in 2021), per beneficiary qualifies for the annual gift tax exclusion.

The Coverdell IRA contribution limit is $2,000 per student, per calendar year. 

The annual changes to contributions and income limits are not consistent year-over-year; therefore, understanding the changes and how they affect your specific situation is important. It is a good idea to check your contribution levels early in the year as payroll adjustments and/or automatic contributions into your IRA accounts may be required periodically.

Three Things To Know About Portugal’s Non-Habitual Residence (NHR) Program

Three Things To Know About Portugal’s Non-Habitual Residence (NHR) Program

One of the major developments in my practice has been the considerable uptick of expats considering (and consummating) a move to Portugal. Having lived briefly in Lisbon years ago, it’s been a true pleasure to see Portugal not just register on the American expat heatmap, but to become an epicenter of sorts. Portugal’s Non-Habitual Residence (NHR) tax program is a key driver behind this trend.

One of the more negative aspects of American expat life in Europe tends to be the cost of living. This is often the case when it comes to housing, goods, transportation, etc., but it is even more true when it comes to TAXES. Both income taxes and wealth transfer taxes (gift, estate, or inheritance taxes) tend to be much higher in Europe than in the United States. Because the United States uniquely practices “citizenship-based” taxation, this basically means that U.S. federal tax rates are the floor for an American’s global tax liability. However, when a U.S. expat takes up residence in a country with higher tax rates, the new residence country’s tax rates become a higher ceiling. Portugal has managed to attract American expats by substantially lowering that ceiling for a 10-year period of time, and they’ve been wildly successful in attracting U.S. expats as a result.

But before you go buy that dream home in the Algarve, Cascais, Porto, or Cintra, you should get very well acquainted with the NHR program and make sure you understand its details, requirements, and limitations. We’ll get you started on that homework by discussing three important aspects of the program.

Most “Non-Portugal-Source” Income Is Not Taxed In Portugal 

If you opt into the NHR Program, which you must do after obtaining a residence visa and before you’ve completed your first year as a tax resident, much of your income from foreign sources are excluded from Portuguese income tax. There are important caveats or exceptions. First, the program changed in 2020 (March 31) regarding foreign pension income (e.g., IRA, 401k, defined benefit pensions, etc.). For those entering the NHR program after March 31, 2020, Portugal will tax foreign pension distributions at the flat rate of 10%. For Americans, this is a change with little consequence, as the Portuguese tax on pensions produces a foreign tax credit that can be used to reduce the remaining U.S. tax liability from those distributions. Also, U.S. Social Security payments and payments from a U.S. federal, state, or local government pension (e.g., a transportation authority pension, the federal TSP, a state government pension, or public school system retirement plan) are only taxable in the U.S., by treaty

Second, U.S.-based portfolio income (intangible personal property), including dividends and capital gains in taxable brokerage accounts (i.e., not pensions), may still be taxed in Portugal at the Portuguese standard tax rate of 28%. The issue is somewhat unclear under the program, but most Portuguese tax preparers tend to take the conservative position that these sources of income are taxable and not excluded under the NHR program. We would encourage you to find and consult with a tax preparer in Portugal to make the final determination on that issue. 

Finally, I would point out that income from consulting or other services performed for businesses outside of Portugal may also be excluded from Portugal’s income tax during the NHR period. For this very reason, Portugal has become a haven not only for U.S. retirees but also for the so-called “digital nomads” working remotely for U.S. (and non-U.S.) companies.

Working in Portugal Is Still Tax-Advantaged While in the NHR Program

The NHR program is not just for retirees, independent contractors/consultants, and digital nomads. If you decide to work in Portugal while participating in the NHR program, Portugal-sourced earned income is taxed at a flat 20% rate instead of those higher progressive Portuguese income tax rates. This might exceed your U.S. federal effective tax rate, or not, depending on your individual income levels. Nonetheless, it is certainly a tax break from standard progressive income tax rates that apply to earned income in Portugal. Moreover, the foreign-earned income exclusion (FEIE) and foreign tax credits from Portuguese income tax paid on earnings should substantially reduce, if not altogether eliminate, U.S. federal tax liability. 

“Non-Habitual” Resident Is Not A Particularly Apt Name For This Program

The term “non-habitual resident” implies someone who transits between Portugal and their home country or suggests that NHR participants are merely visiting. However, to be clear, you can buy a home in Portugal (not required, of course), declare Portugal your adopted permanent home, and still qualify for the NHR tax status. The tax benefits of NHR expire after 10 years, but nothing precludes a longer stay and, in fact, I’m sure the Portugal tax authority would appreciate it if many stayed and began paying normal Portugal income taxes thereafter.

Moreover, to qualify for the NHR program, you must first obtain a residence visa and become a tax resident of the country. After you become a Portuguese resident, and only in the first year of tax residency, you may then opt into the NHR program. Beware that you may need to make a significant investment (financial commitment) in Portugal to obtain a residence visa – unless you hold an EU passport – which might simplify the process considerably. In fact, if you qualify for citizenship in another EU country, obtaining such dual citizenship might expedite the process or alleviate some of the financial requirements. Consulting with one of the many immigration services skilled in the Portuguese residence programs is an essential step in the process.

Portugal has become a premier destination for expats, including American expats, looking for a home in Europe that is both comfortable and affordable. The NHR program’s intriguing benefits are worthy of serious consideration to both young globetrotters and retirees alike. As always, please feel free to reach out to Walkner Condon to discuss your specific situation.