The US Exit Tax: What Entrepreneurs Must Know

Today we're going to talk about one of the most consequential (and least understood) tax events a wealthy American can trigger: the US exit tax. If you're a US citizen or long-term green card holder thinking about renouncing your status and moving abroad, the IRS has built an entire legislative apparatus designed to collect one final payday on your way out the door.

The United States is one of only two nations on earth that taxes its citizens on worldwide income regardless of where they live. You could be running a tech company from Lisbon, haven't set foot in the US in five years, and the IRS still wants its cut. To prevent high-net-worth individuals from simply handing back their passport to escape this system, Congress enacted the HEART Act of 2008, which codified the modern expatriation tax framework under IRC Sections 877 and 877A.

For entrepreneurs specifically, the exit tax creates a cascade of valuation, liquidity, and compliance problems that can wreck privately held wealth. We're talking about a mark-to-market capital gains tax on assets you haven't actually sold, accelerated taxation of deferred compensation, and a permanent inheritance tax trap that follows your heirs for the rest of their lives.

Let's break it down.

Who is a covered expatriate

The exit tax doesn't apply to everyone who renounces. It specifically targets individuals who meet the statutory definition of a "covered expatriate." This is a mechanical, three-part test. Fail any single one, and you're subject to the entire regime.

Two groups qualify for this analysis: US citizens, and long-term residents (LTRs). An LTR is a non-citizen who has held a green card for at least eight of the fifteen taxable years ending with the year of expatriation. And here's where the green card exit tax gets tricky: the IRS counts partial years as full years. Hold that green card for a single day during a calendar year, and it counts as a full year toward the eight-year threshold.

There is one exception worth knowing. Years in which you elected to be treated as a foreign country resident under a bilateral tax treaty tie-breaker provision (and didn't waive those treaty benefits) do not count toward the eight-year calculation.

Now, the three tests. Trip any one of them, and you're a covered expatriate:

The Net Worth Test: Your worldwide net worth equals or exceeds $2 million on the exact date of expatriation. This threshold has not been adjusted for inflation since 2008, which means it catches more people every year. The calculation requires aggregating the fair market value of everything you own globally (real estate, closely held business interests, intellectual property, unvested stock options, retirement accounts, crypto, personal property) minus bona fide liabilities. Because this is an absolute cliff ($1,999,999 and you're free, $2,000,001 and you're fully subject to the regime), the precision of your valuation matters enormously.

The Tax Liability Test: Your average annual net income tax liability over the five years preceding expatriation exceeds $211,000 (for 2026, adjusted annually for inflation). This measures actual tax paid after all deductions, credits, and exclusions. An entrepreneur living abroad who uses the Foreign Earned Income Exclusion and Foreign Tax Credits can reduce their US liability to near zero.

The Compliance Certification Test: This one trips people up more than you'd expect. You must certify under penalties of perjury on IRS Form 8854 that you have fully complied with all federal tax obligations for the prior five years. Full compliance means all income tax returns filed, all liabilities satisfied, and all international information returns submitted: FBARs, Form 8938, Form 5471 for your controlled foreign corporations, Form 3520 for trusts. Miss one, and you're automatically a covered expatriate. You cannot fix past filing failures after the fact.

Mark-to-market regime

Once you're classified as a covered expatriate, IRC Section 877A kicks in. The centerpiece is the mark-to-market regime, often called the "deemed sale" rule. In other words, on the day before your expatriation date, the IRS treats you as having sold every asset you own worldwide at fair market value.

The key problem: this is a fictional sale. You receive no actual cash. But you owe real tax on the unrealized gains. Let's say Sarah is a founder holding $8 million in equity in her private SaaS company. She's never sold a share and couldn't if she wanted to (no market, co-founder agreements locking her in). The IRS doesn't care. She owes capital gains tax on paper wealth she can't access, the kind of cash-flow crisis that forces fire sales or emergency bridge loans.

Congress provides a lifetime exclusion of $910,000 for 2026 (indexed annually for inflation), applied to aggregate net gain across your entire portfolio. So if you hold startup equity with $1,400,000 in unrealized gains and an investment portfolio with $100,000 in unrealized losses, your net gain is $1,300,000. Subtract the exclusion, and you owe capital gains tax on $390,000. Not nothing, but survivable.

The deemed sale does create a step-up in basis, so when you eventually sell the asset for real, you won't be double-taxed on the same appreciation.

For entrepreneurs holding shares in a Controlled Foreign Corporation (CFC), the deemed sale triggers IRC Section 1248, recharacterizing what would normally be capital gain into ordinary dividend income up to the extent of the CFC's untaxed earnings and profits. Capital gains rates top out at 23.8%. Ordinary income rates go up to 37%. On a large exit, that spread can cost you hundreds of thousands of dollars.

This intersection got more complex after the One Big Beautiful Bill Act (OBBBA) of 2025 reformed the pro rata share rules for Net CFC Tested Income. Under the updated rules, you must calculate your fractional inclusion of NCTI and Subpart F income up to the day before expatriation, which increases your basis in the CFC stock and reduces the gain on the deemed sale. As you can see, a lot more complicated than one would expect. (For a full breakdown of CFC rules and anti-deferral regimes, see our detailed CFC article.)

For private company equity, the valuation itself becomes a battleground. The IRS requires willing-buyer/willing-seller fair market value, typically established through a formal 409A valuation. Valuation professionals can apply a Discount for Lack of Marketability (DLOM) and a Discount for Lack of Control (DLOC) to significantly reduce the taxable value. Getting a thorough, independent appraisal completed before your expatriation date is one of the most important defensive moves you can make. A $15,000 appraisal that shaves 30% off your deemed sale value is probably the best return on investment you'll ever see.

Deferred compensation

The mark-to-market regime specifically exempts deferred compensation items, tax-deferred accounts, and interests in non-grantor trusts. These get their own treatment under IRC Section 877A, and it splits into two categories:

Eligible deferred compensation: The payor is a US person (or a foreign person who elects to be treated as one). You must notify the payor of your expatriate status using Form W-8CE and irrevocably waive your right to reduced treaty withholding on Form 8854. Meet these conditions, and the tax is deferred until the income is actually distributed, at which point the payor withholds a flat 30%.

Ineligible deferred compensation: Everything that doesn't qualify as eligible, most commonly deferred compensation managed by non-US payors who refuse to elect US status. These assets are subject to immediate taxation on the present value of the entire accrued benefit on the day before expatriation. The one small consolation: no early distribution penalties apply to this deemed receipt.

Tax-deferred accounts (traditional IRAs, 529 plans) follow the same immediate-taxation approach. The entire account balance is treated as a taxable distribution on the day before expatriation.

For startup founders, unexercised stock options are a significant variable. Vested, exercisable options are valued at their intrinsic value (fair market value minus the strike price). Unvested options are more complex, typically valued using Black-Scholes or binomial lattice models. If classified as nonqualified deferred compensation, you can elect to defer the tax until exercise, but you'll need to post adequate security or a financial bond with the IRS. (hint: the IRS doesn't make this process easy, and few bonding companies are familiar with the requirements, so build in months of lead time, not weeks.)

Inheritance tax trap

This is the part that keeps estate planners up at night. IRC Section 2801 imposes a shadow inheritance tax on any "covered gift or bequest" received by a US citizen, US resident, or domestic trust from a covered expatriate. Unlike traditional estate and gift tax (where the burden falls on the donor or estate), Section 2801 shifts the entire tax liability onto the US recipient. The rate? 40%.

And it applies indefinitely. Let's say John expatriates at age 45, moves to Portugal, and builds a real estate portfolio worth $10 million over the next thirty years (all with money earned outside the US, fully taxed in Portugal). He wants to leave that money to his daughter in New York. She owes 40% to the IRS on the transfer. That's $4 million in tax on wealth that was never earned in the US and was already taxed in Portugal.

The recipient gets a modest annual exclusion ($19,000 per donee in 2026, or $194,000 if the recipient is the non-citizen spouse of the covered expatriate). Anything above that is taxed at the full 40%.

For years, this statute existed without final regulations. That changed in 2025, when the Treasury Department issued final regulations and released Form 708. US recipients must now file Form 708 and pay the 40% tax by the 15th day of the 18th calendar month after the year of the transfer.

Planning strategies

Given everything above, the core objective of expatriation tax planning is straightforward: legally restructure your global balance sheet and tax history so that you do not meet the covered expatriate definition.

Balance sheet deflation: Because the $2 million net worth test is an absolute cliff evaluated on a single date, reducing your asset base below that threshold is the most direct strategy. Spousal gifting is the primary tool (unlimited to a US citizen spouse, up to $194,000 annually to a non-citizen spouse). Transfers to irrevocable trusts and adult children also reduce your taxable estate. And thanks to the OBBBA's extension of the enhanced lifetime gift tax exemption to $15 million per individual in 2026, you have enormous capacity for lifetime gifts without triggering out-of-pocket gift tax.

Income smoothing for the tax liability test: If your net worth is below $2 million but you have sporadic bursts of high income, you risk failing the $211,000 tax liability test. The strategy here is projecting your tax liabilities over a rolling five-year window and actively managing the timing: defer major liquidity events, delay bonus payouts, use installment sales under IRC Section 453, accelerate deductions, and use foreign tax credits strategically. This requires planning years in advance, not months.

Timing the green card relinquishment: For green card holders, this is the most powerful tool available. The entire covered expatriate apparatus only applies to LTRs who have held the card for eight of the preceding fifteen years. Surrender your green card before year eight starts, and you bypass the exit tax entirely, regardless of your net worth.

For accidental Americans (people who acquired citizenship at birth but have lived abroad their entire lives), the IRS offers specialized relief procedures for those with a net worth below $2 million and aggregate tax liability under $25,000 over five years.

Timeline considerations

The act of expatriation itself requires precise timing. For US citizens, the statutory expatriation date is when you swear the oath of renunciation before a consular officer. Embassy appointments can take months (some consulates are booking six to nine months out), so you'll need to manage your asset valuations across extended periods of market volatility.

One practical note for 2026: the State Department is dropping the renunciation fee from $2,350 to $450, effective April 13, 2026.

Terminating your citizenship or green card does not automatically sever your relationship with the IRS. You remain fully subject to US taxation until you file Form 8854 alongside a dual-status income tax return for the year of expatriation. Errors or omissions on Form 8854 can keep you trapped in the US tax system indefinitely.

Now here's where it gets really tricky: your US exit must be synchronized with your entry into a new tax jurisdiction. Get this wrong, and you end up a dual tax resident in the transition year, paying the maximum to both countries. If you're moving to Brazil, for example, you become a Brazilian tax resident either by holding a permanent visa upon entry or by remaining physically present for more than 183 days in any rolling 12-month period. If your US expatriation date falls after you've triggered Brazilian tax residency, the fictional gains from the US deemed sale could also be taxed by Brazil on a worldwide income basis. And because the US and Brazil have no bilateral tax treaty, you're relying entirely on unilateral foreign tax credit mechanisms to avoid double taxation. (Less than ideal.) For a full analysis of US-Brazil cross-border tax dynamics, see our detailed cross-border article.

This coordination between your US exit date, your new country's tax residency trigger date, and your corporate distribution schedules is where expatriation tax planning goes from a tax exercise to a serious logistical operation.

That's it for today. If you're seriously considering expatriation, the worst thing you can do is nothing. Every year you delay the analysis is a year your net worth might creep above $2 million, a year your tax liability average might shift, or a year closer to that eighth green card anniversary. Get proper advice, structure things correctly from the start, and you'll save yourself a world of pain down the road.