MKA Executive Planners Blog

Many foreign individuals choose to invest in the United States for a variety of good reasons such as to provide for family living here, to purchase a second home, or to take advantage of the relative security of the U.S. economic system.  Those non-citizens, whether they are classified as “non-resident aliens” or “resident aliens,” face a complex set of rules based on tax codes and international treaties for income and wealth transfers.

Planning that is efficient for income, gift, and estate taxes for a non-resident alien (NRA) requires complex offshore entities, some level of income and transfer tax risk, and may require burdensome U.S. reporting requirements.  Life insurance offers an alternative solution that should not be overlooked.

NRAs are treated less advantageously than U.S. citizens or resident aliens, but they have the opportunity to eliminate any U.S. wealth transfer tax (estate or gift) because neither of these tax regimes taxes the transfer of shares of non-U.S. corporations, even if those corporations own U.S. property that would, if directly owned by the NRA, be subject to gift or estate tax.  However, this opportunity comes at a cost of complexity and some risk, especially if the NRA or the ultimate beneficiary is, or becomes, a U.S. citizen.

The estate and gift tax rates for NRAs are the same graduated rate (currently 18% to 40%) applicable to U.S. citizens or residents.  But the amount that is exempt from the estate tax is only $60,000, as compared to $5,340,000 for a U.S. citizen or resident. For gift tax purposes, there is no lifetime gift tax exemption, and the annual gift exclusion for gifts of U.S. situs property to a non-citizen spouse is limited to $145,000 per year.

NRAs are subject to estate and gift tax on the transfer of U.S. tangible property.  Interestingly, there are differences in the meaning of “tangible property” for estate and gift tax purposes.  Because of this, NRAs can easily make gifts of many types of property, other than real estate or tangible property located in the U.S., without being subject to gift tax.

This does not solve all of the potential tax issues, and, in any case, the value of the assets gifted would be included in the estate of the donee if he or she is a U.S. citizen or resident at his or her death (albeit with an increased estate tax exemption amount).  Alternatively, if the assets are retained by the NRA, they would be subject to estate tax at his or her death.

For NRAs who are faced with this tax dilemma, many utilize an offshore entity that has the characteristics of a U.S. corporation to own real estate, tangible property or investments that might be subject to the U.S. estate or gift tax.  The next logical step would be create a trust to own the interest in the offshore corporation, but these trusts are complex and not very tax effective for income tax purposes if the NRA, or any beneficiary, is or becomes a U.S. citizen or resident.

By contrast, life insurance is straightforward and simple. A policy insuring the life of the NRA is considered “intangible property” that is not subject to either U.S. gift or estate tax.  Other advantages to consider:

• The death benefit is income- and estate-tax free, regardless of who the policy owner is;
• The cash value grows tax deferred, and withdrawals from the policy, if properly structured, are income tax free, regardless of who the policy owner is;
• In Massachusetts, a life insurance policy is protected from claims of creditors if the policy owner and beneficiary are not changed after the policy is issued, and some other states provide even more protection;
• A policy may provide benefits for multiple generations, if owned by a domestic trust; and
• A policy will allow the NRA to control the assets and even be entitled to discretionary income during his or her lifetime if the trust has a situs in certain states.

If you would like more information on this subject, or have a client who might benefit from a discussion about it, please contact Barry Koslow at bkoslow@mkaplanners.com or (781) 939-6050.

This article should not be considered as providing accounting, business, financial, investment, legal, tax, or other professional advice or services.  It is not a substitute for such professional advice or services, nor should it be used as the basis for any decisions or actions that may affect your business or you personally.  This should only be one part of your research.  You should seek authoritative guidance from a qualified accountant or attorney before taking any action.

Securities offered through Advisory Group Equity Services, Ltd., Member FINRA/SIPC.  444 Washington Street, Woburn, MA 01801 (781) 933-6100.

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