US Exit Tax: What Covered Expatriates Actually Pay

The US exit tax isn't triggered by leaving the country. Millions of Americans live abroad for decades without owing it. What triggers it is formal expatriation — renouncing citizenship or abandoning long-term permanent residency — combined with meeting one of three thresholds that classify you as a covered expatriate.

If you're covered, the IRS treats your worldwide assets as if you sold them all the day before you expatriated. Gains above the exemption amount get taxed immediately. Understanding exactly where that line falls — and how to stay below it — is the central planning problem for any American considering a clean break.

What Makes You a Covered Expatriate

Section 877A of the Internal Revenue Code defines three tests. You're a covered expatriate if you meet any one of them:

Net worth test: Your worldwide assets exceed $2 million on the date of expatriation.

Tax liability test: Your average annual net income tax over the five years preceding expatriation exceeds $211,000 (the 2026 indexed amount). This threshold adjusts for inflation each year.

Compliance test: You cannot certify that you've been fully compliant with all federal tax obligations for the five years before expatriation. This one catches people by surprise — a single unfiled FBAR or missed Form 5471 can trigger covered status regardless of wealth.

The compliance test is the silent trap. Someone with a modest portfolio who forgot to report a foreign bank account for one year can end up covered expatriate even if they'd otherwise pass both financial tests.

The Mark-to-Market Calculation

If you're covered, IRC Section 877A applies a deemed sale: the IRS assumes you sold everything you own on the day before expatriation at fair market value. Gains above the annual exclusion get taxed at capital gains rates.

The 2026 exclusion is $910,000 — meaning the first $910,000 of total net gain across all assets is exempt. What's above that is taxable.

The assets included are broad: stocks, funds, real estate outside the US (US real property is taxed separately under FIRPTA), partnership interests, business stakes, foreign assets of every kind. The IRS does not limit this to assets held in the US.

Retirement accounts get the harshest treatment. IRAs, 401(k)s, 403(b)s, and similar accounts are not deemed-sold. Instead, under Section 877A(e), the entire balance is treated as if distributed on the day of expatriation — taxed at ordinary income rates, not capital gains rates, and without the $910,000 exemption. A $400,000 IRA balance is treated as $400,000 of income in the year you expatriate.

The Section 2801 Downstream Tax

The exit tax doesn't end with you. Section 2801 imposes a 40% tax on US persons who receive gifts or inheritances from covered expatriates after expatriation. The recipient pays this — not the covered expatriate. It applies regardless of the amount and regardless of whether the assets ever touched the US.

This provision creates a planning problem for covered expatriates with US-based children or grandchildren: any future wealth transfer gets hit at the estate tax rate. Non-covered expatriates don't trigger Section 2801 at all.

Form 8854: The Document That Can Sink You

Every person who relinquishes US citizenship or long-term permanent residency must file Form 8854 (Initial and Annual Expatriation Statement) with their final Form 1040. The form certifies compliance history and is where the exit tax calculation is reported.

Failing to file Form 8854 is not a minor oversight. The statute treats failure to file as automatic covered expatriate status — you become covered by default, regardless of net worth or tax history. Additionally, there's a $10,000 penalty for failing to file.

The IRS and DHS have been increasing data-sharing on expatriation. When someone formally relinquishes citizenship at a consulate, that information flows to Treasury. The recent IRS-DHS data-sharing expansion means immigration agencies now coordinate with tax authorities to identify expatriates who haven't filed their exit paperwork — making it harder to quietly walk away without triggering scrutiny.

Non-Resident Citizens Still Owe US Tax

A common misconception: once you leave the US, you stop owing US tax. That's not how citizenship-based taxation works.

The US taxes its citizens on worldwide income regardless of where they live. A US citizen who moves to Germany and earns a salary there must still file a US return each year, reporting global income. The Foreign Earned Income Exclusion (up to ~$130,000 in 2026) and the Foreign Tax Credit offset double taxation in most cases, but the filing requirement doesn't go away.

This is what makes formal expatriation — not just moving — the only way to actually exit the US tax system. Until you file Form 8854 and pay whatever exit tax applies, you remain a US taxpayer.

What Doesn't Trigger the Exit Tax

Several things people worry about don't actually trigger expatriation tax:

• Living abroad indefinitely without renouncing citizenship
• Obtaining foreign citizenship (the US allows dual citizenship)
• Working for a foreign employer
• Holding assets in foreign accounts (though FBAR and FATCA reporting still applies)

The trigger is formal expatriation: submitting Form DS-4083 at a consulate (for citizens) or Form I-407 (for long-term permanent residents). Until that happens, the exit tax is not in play.

Planning Before You Cross the Threshold

The $2 million net worth threshold is fixed at the date of expatriation — but your portfolio value before that date is not locked in. Several strategies exist for reducing or eliminating covered expatriate status before formally expatriating:

• Harvesting capital losses to reduce net gain below the $910,000 exemption
• Timing Roth conversions before expatriation (Roth distributions are generally tax-free, so converting IRA balances eliminates the Section 877A ordinary income problem)
• Gifting assets to non-US-person spouses, subject to gift tax rules
• Establishing the dates of asset acquisition carefully (pre-existing unrealized gains are measured to the moment of expatriation, not to the moment the asset was acquired)

None of these are simple, and the IRS has anti-abuse provisions to prevent manufactured losses immediately before expatriation.

The Exit Tax Playbook walks through the mechanics of each major country's exit tax in parallel — because Americans often move to places like Canada or Australia that have their own departure tax regimes, creating a double-taxation problem that requires coordinated planning. Get the complete guide here.

The Renunciation Fee Change

As a footnote: the State Department fee for renouncing US citizenship drops from $2,350 to $450 effective April 13, 2026. This is a procedural change, not a tax change — it doesn't affect the exit tax calculation or covered expatriate rules. But it does remove a meaningful friction cost for people who were delaying the decision partly on fee grounds.