Estate Planning for a U.S. Heir

The United States has been the jurisdiction of choice for many international students and professionals, and it is becoming increasingly common for international families to find one or more of their children settling in the U.S. either on a temporary or permanent basis. While this may be an exciting development for your family, it is important to consider how this change in family circumstance may affect your family’s overall wealth planning objectives. It is important to be mindful of local laws and regulations in order to ensure that you are providing for your U.S. child in a way that is efficient and effective, given your unique family situation. 

Living in the U.S., What are the Tax Implications? 

U.S. residents are taxed on their worldwide income, regardless of the source of the income. Additionally, U.S. residents have a duty to report their interest in any foreign (meaning, non-U.S.) financial assets to the IRS on an annual basis. Certain exceptions apply. For example, the U.S. generally exempts international students with a full-time course of study from being treated as U.S. tax resident during the first five years of their studies in the U.S. (with certain caveats). 

The U.S. transfer tax implications will be dependent upon whether the child is considered “domiciled” within the U.S. or not. The concept of domicile, for a person who is not a U.S. citizen, is a subjective test based on the presence of the individual in the U.S., and a perceived intent to “remain indefinitely.” 

For an individual who is not a U.S. citizen and is not considered to have a “domicile” in the U.S., the United States imposes an estate tax on real estate and certain other assets owned in the U.S. upon the death of the owner. This tax applies when the aggregate value of U.S. assets is USD60,000 or more, absent the application of a U.S. estate tax treaty. Similarly, the U.S. gift tax is applied to gifts of U.S. real estate and U.S. tangible property that are made by the non-U.S. individual. 

For U.S. citizens and individuals considered to have a “domicile” in the U.S., the United States imposes an estate tax on the entire worldwide estate of the person upon their death. The tax, however, only applies to the extent the aggregate value of the deceased individual’s taxable estate exceeds USD12,920,000 (this number is for 2023, and indexed annually to inflation). Similarly, gifts during life in excess of USD17,000 per year to any individual by the U.S. person will be considered taxable gifts, first drawing down on the USD12,920,000 exclusion amount, and thereafter being subject to tax. Absent further legislation, this exclusion amount is scheduled to “sunset” in 2026, reverting to approximately half of its then current amount (indexed for inflation). 

What Should I be Mindful of?

Your child may have a beneficial interest in one or more trusts that have been set up as part of a family legacy, or may own shares in a family investment company outside the U.S. It is important for someone about to become a U.S. income tax resident to review with their advisors their beneficial interests in any non-U.S. companies or trusts, and engage in planning strategies which can ensure such interests are still held efficiently once the individual becomes a U.S. income tax resident. Additionally, the individual should work with their advisors to review any investment portfolios that they may hold or be deemed to own, in order to ensure that they are not holding investments which would no longer be efficient when held by a U.S. person (e.g., offshore mutual funds, offshore hedge funds, or similarly structured offshore pooled investment vehicles, all of which could be treated as “passive foreign investment companies” as held by U.S. persons). 

If the individual moving to the United States owns significantly appreciated assets prior to moving to the United States, keep in mind that if sold after the individual becomes a U.S. tax resident, all of the gain from sale can be taxable in the United States, even though the asset appreciated long before they became a U.S. person. Your tax advisors can review your situation in order to determine whether there are any strategies that they can employ in order to ensure the transition is handled efficiently for U.S. tax purposes.

A Little Bit of Planning Goes a Long Way

Supporting Your Child on their Journey

While there are generally no U.S. tax implications when non-U.S. persons make gifts to a child living in the U.S., when you are making a gift you should be careful not to transfer, or be deemed to transfer, assets which the IRS considers U.S. real property or U.S. tangible property. Also note that even if the gift is not taxable in the U.S., it may still be reportable in the U.S. after certain thresholds. It is important to coordinate with U.S. advisors to ensure that all reporting obligations are met, as the penalties for failure to report such gifts can be substantial.

One potential “trap for the unwary” is when a parent directly purchases a condo or house for their child to live in and titles the property in the name of the child. The IRS may view that transaction as a taxable gift of the U.S. real estate by the parent. A little planning could have restructured the gift in a way that may not have been taxable in the U.S. (e.g., a gift of cash to the child which the child could then choose to use to purchase a suitable property in their own name). It is important to consult your U.S. tax advisors prior to making a substantial gift, in order to ensure that you are doing so in a way that is efficient and effective. 

Although there are issues to consider (which is why it is important to consult your tax advisors), with a little bit of planning it can be easy to support your child in the U.S. without causing tax issues or complicating matters for them. 

Leaving a Legacy

You as the parent may wish to review and revise your existing estate plan in order to ensure that your child’s ultimate inheritance will be transitioned efficiently for U.S. transfer tax purposes. Having assets pass in trust for the benefit of your U.S. child, rather than outright, could shelter the inheritance from being part of your child’s “taxable estate” in the U.S. when they pass away, helping to ensure that your family legacy supports your U.S. grandchildren and further descendants without exposure to the U.S. estate tax or U.S. generation-skipping transfer tax. You can similarly make such trusts the beneficiaries of any life insurance policies on your life, allowing the proceeds to pass in trust, rather than outright to the U.S. child. 

Properly structured, the trusts that you set up for your child while living need not create tax implications in the U.S. during your lifetime. For example, if your child is the beneficiary of a properly structured revocable trust that you have established, then distributions from the trust may be treated as gifts from you, and therefore not create income tax obligations to the child during your lifetime. Such a trust is one of many potential planning strategies that your advisors may suggest, allowing you to fully implement a legacy plan during your lifetime without concern that it will complicate your child’s tax situation in the U.S.

In addition to the tax considerations, having assets pass in trust for the benefit of your U.S. child, rather than outright, can help preserve the family legacy against the claims of creditors or litigation. Certain professions in the U.S. (e.g., doctors) can be subject to higher than average potential litigation risks. The assets held by a properly structured trust for the benefit of your child may leave the assets better protected against the claims of such creditors, as an alternative to leaving the inheritance to such child outright. 

How We Can Help

HSBC Private Banking understands the importance of securing a multigenerational legacy for your children wherever they may be living, and our wealth planners can work with you and your counsel to anticipate and navigate these issues, helping you craft a plan for your family legacy across jurisdictions. Please reach out to your Relationship Manager if you would like further information.