An inheritance is almost always a mixture of happiness and sadness. You’re grieving the loss of a loved one at the same time you’ve received a financial bequest. Receiving an inheritance from someone who lives outside of the country or from a non-U.S. citizen makes matters even more complicated, says this recent article, “U.S. Tax: 4 Tips For Americans Receiving A Foreign Inheritance,” from Forbes.
There are certain IRS reporting requirements to be aware of, in addition to knowing what taxes you’ll be responsible for. Here are four top issues.
If the deceased person was a former American citizen and met specific requirements as a “covered expatriate” or “CE,” anyone receiving an inheritance must pay the IRS 40% of the inheritance. An estate planning attorney with experience in CE inheritances can help avoid or minimize this admittedly high level of taxes.
Even if the inheritance is not taxable, it must be reported to the IRS by the American recipient. If it is found to have been unreported, a 25% penalty will be levied. Your estate planning attorney will know how to report the inheritance using IRS Form 3520.
Depending on the type of asset inherited, there may be other reporting obligations. The Foreign Account Tax Compliance Act (FATCA) requires IRS Form 8938 to be filed if the total value of foreign financial assets is more than a specific threshold. The annual thresholds are lower for citizens who live in the U.S. than for Americans living abroad.
The U.S. tax basis must be accurately valued and documented when inheriting a foreign asset. The basis of a foreign asset from a CE will be “stepped up” to its fair market value as of the decedent's death date. However, there are many nuances to this, and in some situations, there is no step-up.
Inheriting foreign assets is complex and requires the guidance of an experienced estate planning attorney to avoid significant taxes and penalties. If you know you’ll be inheriting assets from a CE, speak with an estate planning attorney to figure out what to do before and after the inheritance.
Reference: Forbes (June 3, 2024) “U.S. Tax: 4 Tips For Americans Receiving A Foreign Inheritance”