BREAKING! Final IRC Section 2801 Regs Issued on Foreign Gifts or Bequests …. Buckle Up…. Rough Ride Ahead

IRS literally just finalized the Code Section 2801 regulations on January 10.  These long-awaited final regulations concern gifts and bequests received by a U.S. person from foreign persons who were former U.S. citizens or green card holders who qualified as “long term residents” and were “covered expatriates” at the time of giving up their U.S. status.  My initial look indicates the final regulations are not much different from the proposed regulations issued in 2015. Well, we have only been waiting 10 years since issuance of the proposed regulations (and 17 years since Section 2801 was enacted)!  My detailed article on the proposed regulations is here.

Final regulations are here.

In a nutshell – If a U.S. recipient received a gift or bequest from a foreign person after June 17, 2008, they may be required to file Form 708 (not yet available). The U.S. recipient must determine whether the transfer is subject to the transfer tax under Section 2801. The burden falls on the recipient to determine that the gift or bequest is not a “covered” gift or bequest by substantiating that the donor or decedent was not a covered expatriate at the time of the transfer.  If sufficient evidence is not provided, there is a rebuttable presumption with respect to living donors, that the transfer is a “covered gift”, subject to the Section 2801 tax (currently at a 40% rate on the value).

Filing protective returns on Form 708 is also possible to get the statute of limitations started.

Getting tax information from the IRS about a former American donor so that one can determine “covered expatriate” status is also possible under the final regulations, but that topic is filled with issues, especially since the IRS has been known to lose records or destroy them.  I believe it will be difficult if not impossible to get IRS records if the gift or bequest is received many years after the expatriation has taken place.  You cannot count on the IRS to have maintained the former American’s tax records!  I have been advising that all expatriates keep detailed U.S. tax records, get tax returns and transcripts directly from the IRS and keep all that documentation with important papers, such as wills. Family members and the family attorneys and advisors should be advised about the Section 2801 issues and where the important records are kept.

Trust Distributions

A U.S. beneficiary of a foreign trust can also be treated as receiving a covered gift or bequest if the trust was funded (directly or indirectly) by a covered expatriate, and the U.S. beneficiary receives a distribution from the trust.  The regulations permit a foreign trust to elect to be treated as a domestic trust for purposes of Section 2801.  If the election is made, the trust becomes liable for the Section 2801 tax instead of the U.S. beneficiary.  Once elected, the trust must comply with U.S. tax rules, including filing requirements and ongoing reporting obligations.

Alarm Bells Ringing 

There is so much to unpack in the final regulations.  The immediate alarm bell is that foreign gifts (including foreign trust distributions) and foreign bequests received after June 17, 2008 need to be examined in light of the new regulations.

Surprises and confusion will abound.  For example, the final regulations provide that property excluded from the definition of a “taxable gift”, such as a gift that does not exceed the annual exclusion amount  is not excluded from the definition of a covered gift, even though the law says otherwise at IRC Sec. 2503(c).  So that needs some unpacking!  It seems that to compute the section 2801 tax that is owed for a covered gift, this annual exclusion amount can be deducted out later.  With more reading, I am sure it will become more clear.  For 2025, this annual exclusion per recipient is $19,000; for 2015 it was $14,000, so one must look to the relevant year the covered gift was received.

The regulations make it clear – responsibility for getting this right is on the U.S. recipient:

§28.2801-7 Determining responsibility under section 2801.

(a) Responsibility of U.S. citizens or residents receiving gifts or bequests from expatriates. It is the responsibility of the taxpayer (in this case, the U.S. citizen or resident receiving a gift or bequest from an expatriate or a distribution from a foreign trust funded at least in part by an expatriate) to ascertain the taxpayer’s obligations under section 2801 of the Code, which includes making the determination of whether the transferor is a covered expatriate and whether the transfer is a covered gift or covered bequest.

My article discusses possible ways to handle this responsiblity and make sure all the necessary records are maintained, and includes a link to a podcast with attorney John Richardson, on the topic.

KEEP UPDATED

This is a very complicated area, as can be deduced from the simple fact that we have been waiting close to 2 decades for these regulations that span 129 pages and we still await IRS to give us the required Form 708.  So many questions jump to mind, including for example, whether recipients of gifts from covered expatriates will have to pay interest on the tax due, assuming they got the covered gift some years back?  Is it possible the regulations will not apply to such persons and only impose the transfer tax on covered gifts or bequests received after January 1, 2025?  Yes, this may be possible.  The answers are hidden in the 129 pages but I haven’t figured it all out just yet… I will  keep you posted as I continue reading and understanding the rules.

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Posted January 11, 2025

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