The decision for a non-U.S. executive to relocate to the United States for work or personal reasons is a significant milestone, often accompanied by exciting professional opportunities and lifestyle changes. However, beneath the surface of international relocation lies a complex web of tax consequences, compliance requirements, and strategic decisions that may affect wealth, compensation, and long-term financial planning. Understanding these implications is essential for executives, their families, and their advisors in having a successful relocation to the United States.
Understanding U.S. tax residency
Substantial presence test
One of the first questions a non-U.S. executive must answer is whether they will become a U.S. tax resident. The Internal Revenue Service (IRS) employs the "substantial presence test" to determine residency for tax purposes. If an individual is physically present in the U.S. for at least:
- 31 days during the current tax year, and
- 183 days during the current year and the two preceding years, calculated using a weighted formula (all days in the current year, 1/3 of days in the first preceding year, and 1/6 of days in the second preceding year).
Meeting this test means the executive is considered a U.S. resident for tax purposes, with worldwide income subject to U.S. taxation. Exceptions exist, such as certain visa types (e.g., F, J, M, or Q visas) or short-term assignments, but most corporate relocations result in residency status change.
Dual residency and tiebreaker rules
Executives from countries with income tax treaties with the U.S. may find themselves classified as tax residents in both jurisdictions. Tax treaties typically contain "tiebreaker" provisions to determine the primary country of residence, prioritizing factors such as permanent home, center of vital interests, habitual abode, and nationality. These tests, as permitted by a treaty, can allow the specified treaty benefit to “overrule” the general substantial presence test rule.
Worldwide taxation vs. territorial taxation
The U.S. follows a worldwide taxation system for residents, meaning all income, no matter where earned, is subject to U.S. federal income tax. This contrasts with many countries that tax only local (territorial) income. For executives accustomed to territorial taxation, the shift to U.S. worldwide taxation can be dramatic, impacting salary, investment income, rental income, and gains from the sale of assets abroad.
Reporting foreign income and assets
U.S. tax residents must report income from foreign sources, including wages, interest, dividends, capital gains, rental income, and even certain retirement plans. Furthermore, extensive reporting rules apply to foreign bank accounts and financial assets.
- Foreign Bank Account Report (FBAR): If aggregate foreign account balances exceed $10,000 at any time during the year, filing FinCEN Form 114 is required.
- FATCA (Form 8938): The Foreign Account Tax Compliance Act mandates disclosure of specified foreign financial assets above certain thresholds.
- Foreign Trusts and Corporations: Ownership in non-U.S. entities may trigger additional filings (Form 3520, Form 5471, Form 8865).
Taxation of executive compensation
The structure of executive compensation — salary, bonuses, stock options, deferred compensation, and benefits — may be taxed differently depending on residency status and sourcing rules. Contact a tax professional to determine the proper sourcing prior to moving.
Salary and bonuses
Base salary and cash bonuses earned while the executive is a U.S. tax resident are generally subject to U.S. tax regardless of the country of payment. Compensation earned prior to residency may remain taxable in the executive's home country. Discuss compensation with legal and tax professionals as part of your pre-move planning process.
Equity compensation
Stock options, restricted stock units (RSUs), and similar awards present challenges for a relocating executive. The U.S. taxes equity compensation based on the period over which it is earned (grant, vesting, and exercise dates) and the executive's residency during these periods. Executives must carefully track grant dates, vesting schedules, and exercises because a change in residency may impact where (and when) income is taxed.
Deferred compensation and foreign retirement plans
Many executives participate in deferred compensation arrangements or hold foreign pensions. U.S. rules for these plans can differ from those in the home country, sometimes resulting in acceleration of taxable income or loss of favorable tax treatment. Tax treaties may offer relief, but careful review is essential.
State and local taxes (SALT)
The U.S. federal tax system is layered with additional state and local taxes. Residency for state tax purposes often follows physical presence, but rules vary widely by state. High-tax states like California and New York have aggressive enforcement, and executives must plan for potential double taxation or benefit from credits for foreign taxes paid.
Social Security and Medicare
U.S. tax residents generally pay Social Security and Medicare taxes on earned income. Some countries have "totalization agreements" with the U.S., allowing executives to avoid double payment and coordinate retirement benefits. These agreements should be carefully analyzed to determine the proper benefits an executive could receive from the treaty. Absent such agreements, contributions may be required in both countries. U.S. legal and tax professionals are key in navigating these treaties to ensure all allowable benefits are received upon relocation.
Exit taxes and departure planning
Moving to the U.S. may trigger exit taxes in the executive’s home country, especially for those deemed “covered expatriates” or high-net-worth individuals. Careful planning prior to departure can minimize tax costs, such as realizing capital gains, accelerating deductions, and restructuring assets.
Estate and gift tax implications
U.S. residency also brings exposure to estate and gift taxes on worldwide assets. The U.S. system is more expansive than many foreign jurisdictions, with different exemption amounts, rates, and rules for non-citizens. Executives should review estate plans, trust structures, and beneficiary designations to ensure alignment with U.S. law.
Special considerations for families
Tax residency implications extend to spouses and dependents in many cases. Family income, foreign trusts, education expenses, and real estate holdings must all be examined considering U.S. rules. International families should be aware of potential gift tax issues and reporting requirements for foreign assets owned by children.
Tax planning strategies
Given the complexity of international relocation, proactive tax planning is vital:
- Review and restructure foreign investments and trusts prior to moving or receiving a green card.
- Consider timing of income realization, especially for equity compensation and deferred pay.
- Seek professional advice on treaty benefits to avoid double taxation.
- File all required U.S. and foreign tax returns and disclosures.
- Address estate and gift tax exposures early, especially for large estates.
- Coordinate with advisors in both home and host countries for holistic planning.
Common pitfalls and risks
Executives often underestimate the requirements of U.S. tax rules. Common mistakes include:
- Failure to report foreign financial accounts and investments, leading to severe penalties.
- Inadvertently triggering double taxation by not leveraging treaty benefits.
- Misunderstanding treatment of equity compensation upon relocation.
- Neglecting state and local tax exposures.
- Overlooking estate and gift tax consequences for family wealth.
Conclusion
Relocating to the United States offers tremendous professional opportunities, but the transition carries significant tax consequences for non-U.S. executives. By understanding U.S. residency rules, compliance obligations, and the intricate interplay between domestic and international tax regimes, executives can navigate the complexities, mitigate risks, and position themselves for success.
Early engagement with cross-border tax advisors and a careful review of financial arrangements are essential to ensure a smooth transition — protecting both personal wealth and corporate interests in a new chapter of international leadership. Get in touch with the Mowery & Schoenfeld international tax services team