Tax Court: Individual liable under “deemed sale” provisions, on expatriation

Individual liable under “deemed sale” provisions

The U.S. Tax Court today released an opinion concluding that a German citizen who abandoned his “lawful permanent resident” status in the United States was liable for the income tax attributable to the gain he realized on an installment sale of stock, pursuant to the “deemed sale” provisions of section 877A that are applicable to certain individuals who terminate their status as lawful permanent residents.

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The case is: Topsnik v. Commissioner, 146 T.C. No. 1 (January 20, 2016). Read the opinion [PDF 103 KB]

Background

The taxpayer, a German citizen, became a lawful permanent resident of the United States in 1977 and received a “green card” that he subsequently renewed. In 1986, he started as a joint venture a gourmet food business. In 2004, as part of a lawsuit settlement, the taxpayer agreed to sell his stock in the business for over $5.4 million to be made in installment payments. At that time, his basis in the stock was approximately $748,000. 

The taxpayer received a down-payment and monthly installment payments. In 2010, the amount of unpaid principal and accrued interest on the installment agreements had a fair market value of approximately $1.37 million. 

In November 2010, the taxpayer completed a form to abandon his lawful permanent resident status and green card. This was accepted by U.S. immigration officials. However, the taxpayer did not file a required Form 8854, Initial and Annual Expatriation Statement, and failed to certify that he was compliant with all U.S. federal tax obligations for the five tax years preceding the expatriation date. He also did not file U.S. income tax returns and did not pay the tax for the five years preceding expatriation. 

In August 2011, the taxpayer filed a late Form 1040NR, U.S. Nonresident Alien Income Tax Return, for 2010 and claimed that the installment sale proceeds were exempt from tax under a provision of the United States-Germany income tax treaty. 

The IRS made a jeopardy assessment in 2013, for the years 2004-2009, and levied on the installment payments in partial satisfaction of the tax liabilities. The IRS also issued a notice of deficiency for the 2010 tax year. The taxpayer filed a complaint in federal district court, seeking judicial review of the jeopardy assessment and levy. The district court dismissed this action because it found the taxpayer did not reside in any judicial district, but resided in Germany. 

In 2013, the German Competent Authority responded to a request from the U.S. Competent Authority, and reported among other things, that for 2010, the taxpayer was registered in Germany as a person subject to taxation as a nonresident, that he did not file a 2010 German tax return, and that he did not have a registered residence or habitual abode in Germany in 2010.

Tax Court’s opinion

The Tax Court explained that the taxpayer was not a resident of Germany in 2010, and accordingly, the installment payments made during 2010 were not exempt from U.S. tax under the income tax treaty with Germany. The payments were taxable by the United States. The court based this conclusion on findings that the taxpayer expatriated in November 2010, when he formally abandoned his status as a lawful permanent resident, and he was therefore taxable as a U.S. resident on his worldwide income until that time. 

Accordingly, the taxpayer was found to be liable for tax on gains attributable to the 11 monthly installment payments that were made during 2010 before his expatriation date and that he was liable for tax on gain from the “deemed sale” of his right to installment sale proceeds on the day before his expatriation date, as provided by section 877A.

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