Implication of Estate Tax and Withholding Tax on US Situs Assets

When it comes to paying taxes on assets, there are different rules in different countries for residents and non-residents. This also applies to US situs assets, or property in or connected to the US. In recent months, there has emerged a number of proposed changes to estate tax in the US which could impact people’s estate and their situs assets.

Whether you are a resident or non-resident of the US and you own property (assets) in the country, you must still file an annual estate tax return. But for the majority of Canadian tax residents, the US’s estate tax rules only apply to their US situs assets. Confused? Let’s explain further what the implications of estate tax and withholding tax on US situs assets is all about.

What are situs assets?

Firstly, let’s just clarify what we mean by a situs asset. Essentially, it is any property (asset) that is located in the US or has a connection with the US. So, this includes:

• Physical property that is situated in the US;
• Shares in publicly traded US companies (even if they are owned within a Canadian RRSP (Registered Retirement Savings Plan);
• Shares held in private US companies;
• Cash accounts held with brokerage firms in the US;
• Tangible personal property in the US that have a degree of permanence; and
• Some debts that are owed by a US debtor.

All situs assets owned by deceased non-US citizens, as well as those that are not residents, are subject to US estate tax. The current rate of estate tax is a maximum of 40% on estates valued in excess of $1 million, with only $60,000 exempt from tax and that’s not inflation indexed. There may be a possibility that the estate of a deceased non-US citizen and non-resident is eligible for marital and charitable deductions, but this is limited.

In addition to estate tax, the estate may also be responsible for gift tax on US situs assets if:

• It is a physical property located in the US, including land, houses, commercial buildings and condominium apartments; and
• Any intangible interests in a corporation that owns US property (assets), such as an apartment building that is owned by a cooperative.

US estate tax explained

Let’s just clarify estate tax on situs assets; it is the tax on a deceased’s property (assets) located in or connected to the US, including all physical, tangible and intangible property.?

How much tax you pay is determined by whether the deceased was a domicile or non-domicile of the US. So, first this must be decided. According to the US Treasury[ii], they define a domicile as:

“A person who acquires a domicile in a place by living there, for even a brief period of time, with no definite present intention of later removing therefrom. Residence without the requisite intention to remain indefinitely will not suffice to constitute domicile, nor will intention to change domicile effect such a change unless accompanied by actual removal.”

A court will decide domicile based on a number of factors, including the total number of residences held by the non-US resident, their personal connections within the US, the amount of travel and US business interests. The reason why this is important directly relates to the amount of estate tax is paid.?

• Non-US residents who have domicile status will be liable for tax up to 40% but have an exemption of $5 million. This figure is inflation indexed and applies to the non-US resident’s worldwide assets.
• Non-US residents who don’t have domicile status are also liable for tax up to 40% but their exemption is significantly less at $60,000, but it does apply to a limited type, and the amount, of US situs assets.

However, if the non-US resident has domicile status in a country with which the US has a tax treaty, like the UK and Ireland, further tax reductions and exemptions may apply. This depends on certain circumstances, including domicile status, and is not an automatic US tax relief.

The implication of estate tax on high-net-worth estates

Because the estate tax exemption level is low at $60,000 for non-US and non-US domiciled people, the implications on estate management is significant, particularly for intangible situs assets, like US company shares.?

If the assets are jointly owned, the deceased’s contribution to the asset acquisition must be thoroughly documented, or the IRS (US’s Internal Revenue Service) may apply estate tax on the entire asset’s value. Assigning US property to a trust may not protect situs assets either, particularly if the deceased non-US resident held most of the power over the trust’s arrangement.?

If the surviving spouse is a US citizen, resident or not, they may be eligible for an unlimited marital deduction on the net value of US-based situs assets, but note that they may not automatically qualify for this deduction. Whilst there are steps you can take to reduce the level of estate tax to be paid upon death, such as nominee arrangements or putting US shares into a non-US brokerage account, it won’t stop the IRS applying estate tax.

However, some US situs assets are not subject to estate tax, such as savings accounts, tax-exempt municipal bonds, US government bonds and ADRs (American Depository Receipts.

Upon death, it will be the deceased’s executors who will be responsible for settling any tax due. If this isn’t done, the IRS will seek payment from the estate’s beneficiaries, custodians of the US situs assets or even the executors themselves.?

The executors must complete, sign and file with the IRS Form 706-NA for any US part of an estate that was owned by a non-US citizen over $60,000, within nine months of the date of death (this may be extended upon request). The tax is also due at this point as well and can’t be extended or penalties will be incurred. The same form is used to claim any tax reductions or treaty relief applicable.

The IRS will, upon review of the application, issue what is called a Federal Transfer Certificate to the executors, which allows them to transfer US situs assets to the estate’s beneficiaries.

Ultimately, if you hold US situs assets as part of your worldwide estate, the best course of action is to seek professional guidance and support in estate planning to protect the assets as much as possible from US estate tax and gift tax.

International Wealth Solution Ltd (IWSL) are professional experts in providing high net worth wealth solutions. Whether you are looking to invest capital and trade assets via multiple exchanges, diversify global funds or need a bespoke solution for your specific needs, our team is here to help you with sound advice and comprehensive solutions. Contact us to see how we can help you.