Residency Determination for US Federal Estate and Gift Tax Purposes and Choice of US Federal Estate Tax Blockers

Residency for US Federal Estate and Gift Tax Purposes

US residency for federal estate and gift tax purposes is equivalent to being “domiciled” in the United States. Notably, the terms “domiciliary” and “domiciled” do not appear in the Internal Revenue Code (IRC).[1] However, Regs. §§ 20.0-1 and 25.2501-1 clarify that for all purposes under the entire chapters on gift and estate taxes, a nonresident is equivalent to being “domiciled” outside the United States. Thus, for federal estate and gift tax purposes, the term “resident” as it appears in the IRC means one whose domicile is in the United States at the time of death or gift.

For US federal income tax purposes, a non-US citizen (also referred to as an “alien individual”) becomes a US tax resident if such individual meets any one of the following “objective tests”: (1) being a US lawful permanent resident (i.e., a “green card” holder), (2) satisfying the substantial presence test (commonly known as the “day count test”), or (3) making certain tax elections.[2]

However, holding a green card or meeting the substantial presence test is not determinative of residency for US federal estate and gift tax purposes. Specifically, the US domiciliary status is determined under a two-prong test, which requires both physical presence in the United States and an intention to remain in the United States indefinitely.[3]

Although the first prong, physical presence, is objective, the second prong, subjective intent to remain indefinitely, is a fact-specific, case-by-case inquiry. In determining whether an individual formed the requisite intent, courts examine objective manifestations of the subjective intent in each specific case. No one single factor is determinative; the same factor stressed in one case may carry less weight or even be disregarded in another. These factors are discussed under Section IV below.

Why Residency for US Federal Estate and Gift Tax Purposes Matters

Once an alien individual is determined to be a US domiciliary for federal estate and gift tax purposes, he or she is subject to the US federal estate and gift tax on the transfer of worldwide assets at a top rate of 40%, subject to one single unified federal estate and gift tax exclusion amount. In 2024, the lifetime exclusion amount for a single individual is $13.61 million (in 2025, $13.99 million), which means that a US domiciliary can pass up to $13.61 million of assets in 2024, regardless of where such assets are situated, free of US federal estate and gift tax. However, without congressional actions, this historic high exclusion amount is scheduled to be reduced to $5 million (plus an inflation adjustment) in 2026, which would most likely be in the vicinity of $7.2 million.

By contrast, if an alien individual is a non-US domiciliary for federal estate and gift tax purposes, the US federal estate and gift tax is only imposed on that portion of the assets which is considered “US situs property.”[4] A non-US domiciliary has only a $60,000 federal estate tax exclusion (not indexed for inflation) and zero federal gift tax exclusion. However, a non-US domiciliary can still make annual exclusion gifts[5], exclusion gifts for educational or medical purposes[6], unlimited gifts to a US citizen spouse[7], or increased annual exclusion gifts to a non-US citizen spouse[8] in the same way a US citizen or a US domiciliary can.

Notably, for a non-US domiciliary, the term “US situs property” for federal estate tax purposes has a broader scope than the same term for federal gift tax purposes. For example, stocks in a US corporation are US situs property for federal estate tax purposes[9], but the same stocks are treated as intangible property for federal gift tax purposes.[10] This means if a non-US domiciliary dies with US corporate stocks under their name, they will be subject to US federal estate tax, but a transfer of the same stocks by gift will not trigger US federal gift tax.

US Federal Estate Tax Blockers for Non-US Domiciliary

In connection with advising a non-US domiciliary client who has US federal estate tax exposure, depending on the specific facts in each case,[11] one possible restructuring option is to convert US situs assets into foreign situs assets by contributing US situs assets to a foreign corporation, free of US income tax. Upon formation, the foreign corporation will function as an estate tax blocker, and its stock can either be held by the non-US domiciliary directly, or transferred to fund a new foreign grantor trust, free of US gift tax.[12]

A foreign corporation is the preferred choice of estate tax blocker because the Treasury Regulation specifically provides that shares of stock issued by a non-US corporation is foreign situs property.[13] In contrast, for non-US domiciliary clients who are considering foreign partnership or a single-member limited liability company (LLC) that is treated as a disregarded entity, they should be warned against the potential risk due to the uncertainty of situs rules for these entities.

For foreign partnerships, existing authority is unclear whether a partnership should be treated as an entity or as an aggregate of underlying property (aggregate theory) for US federal estate tax purposes. If a partnership is viewed as an entity, the partnership interest itself will be treated as “property.” Depending on the applicable tests, the situs of a partnership interest can be where the partnership is formed, regardless of its underlying assets or its place of business,[14] or, alternatively, the situs can be where the partnership conducts its business.[15] By comparison, if a partnership is treated as an aggregate of its underlying assets, the non-US partner will be deemed to hold a proportionate share of the partnership’s underlying assets. Under the aggregate theory, if a foreign partnership holds US situs assets, a non-US domiciliary partner’s proportionate share of the partnership interest will be US situs.

For single member LLCs, in Pierre v. Commissioner, the US Tax Court addresses the gift tax valuation issue of a membership interest in a New York single member LLC.[16] The Tax Court ruled that the check-the-box regulations were applicable only for income tax purposes, and not for gift tax purposes. It is an unsettled question to what extent the ruling in that case can be extended to the estate tax context, especially given that the relevant Treasury Regulation provides that a business entity can elect its classification for “federal tax purposes.”[17] If the check-the-box election is limited solely to income tax purposes, then for estate tax purposes the interest in a US single member LLC will itself be property and likely be US situs, even though the LLC’s underlying assets are all foreign situated. However, if the check-the-box election applies for all federal tax purposes (including for federal estate tax purpose), then the non-US domiciliary member will be deemed to own the underlying assets of the LLC directly. In this line of reasoning, if a foreign single member LLC owns US situs assets, the sole member will be deemed to own the underlying US assets directly and thus have US estate tax exposure.

Given the uncertainty of the situs rules, clients should avoid planning into the situation where foreign partnerships or US/foreign single member LLCs are used as estate tax blockers. After disclosing all the potential risks, if clients still prefer to use foreign partnership or single member LLC structures, it is advisable to purchase life insurance policies to hedge against the risk of potential estate tax inclusion.

Factors to Consider for Residency Determination for US Federal Estate and Gift Tax Purposes

As discussed above, the determination of domicile is a fact-specific inquiry. The courts have not developed a bright-line test to be used. Based on a review of the existing case law, [18] the courts will consider the following factors with an eye towards which side of the domicile scale carries more weight:

1. US Green Card Status.
2. Place of Birth.
3. Amount of Time Spent at Claimed Domicile.
4. Comparison between US and Foreign Residences in terms of Size and Level of Furnishings.
5. Location of Personal Investments and Business Assets.
6. Statements regarding Residence of Intent.
7. Family Ties.
8. Participation in Local Religious Organizations, Social Clubs, Political and Community Organizations.

Conclusion

In most cases, the domicile analysis will be retrospective because the domicile determination is only relevant at the time of death or gift.

With that said, if one intends to establish or maintain a non-domiciliary status for prospective planning, certain steps can be taken to decrease the likelihood of US domiciliary status and thereby minimize the potential exposure to US estate and gift taxes on future transfer of worldwide assets.

Among the considerations, one should generally avoid buying a US home in such individual’s name or renting a place in the United States on a long-term leasing contract. If one already owns US real property, it would be preferable if the property is less frequently traveled to and more modestly furnished, compared to foreign residences. Second, continue to keep the bulk of one’s assets outside of the United States and retain foreign investment managers and advisers. Third, maintain voter registration and keep the driver’s license in a foreign country. Fourth, retain foreign social ties while minimizing US social ties. Fifth, revise existing US estate planning documents or prepare updated documents in which one self-claims as a non-US domiciliary.

[1] Unless otherwise noted, all “Section” and “§” references herein are to the US Internal Revenue Code of 1986, as amended and to the Treasury Regulations promulgated thereunder (Regs).

[2] There are different reasons why a non-US income tax resident may elect to become a US income tax resident. For example, for an unemployed nonresident alien married to an income-earning US citizen or resident spouse, the election will enable the couple to file tax returns using the married filing jointly status. Or such an election will facilitate an interspousal asset swap without triggering accidental capital gains tax that would otherwise apply to a swap from a US resident spouse to a nonresident alien spouse.

[3] Regs. §§ 20.0-1(b) and 25.2501-1(b). A person acquires a domicile in a place by living there, for even a brief period of time, with no definite present intention of later removing therefrom. Residence without the requisite intention to remain indefinitely will not suffice to constitute domicile, nor will intention to change domicile effect such a change unless accompanied by actual removal.

[4] IRC §§ 2101, 2103, 2501(a)(1) and 2511(a).

[5] IRC § 2503(b).

[6] IRC § 2503(e).

[7] IRC § 2523(a).

[8] IRC § 2523(i).

[9] IRC § 2104(a).

[10] Reg. § 25.2511-3(a)(1)(i).

[11] Factors that affect planning options include, for example, the type of US situs asset involved (US corporate stocks or US real property), US income tax resident status of the client and their family members both presently and in the future, the client’s comfort level of using a trust structure, and the extent of control the client wishes to retain over the asset.

[12] Typically, a non-US person would prefer a transfer to the foreign grantor trust if all the beneficiaries are US persons to achieve maximum US income tax efficiency. This is primarily the result of the fact that a foreign grantor trust is treated as “tax transparent” with respect to the settlor for US income tax purposes and thus any income earned by the trust is instead deemed earned by the settlor of the trust. If the settlor is a non-US income tax resident, then they will be subject to US income tax only on US sourced fixed, determinable, annual, or periodical income and effectively connected income. This means that all US sourced capital gains earned by the trust (except for capital gains from the sale of US real property held for investment purposes) will escape the US income tax system.

[13] Reg. § 20.2105-1.

[14] GCM 18718,1937-2 C.B. 476.

[15] Rev. Rul. 55-701.

[16] 113 T.C. No. 2 (2009).

[17] Reg. § 301.7701-3(a).

[18] Estate of Khan v. Comm’r., T.C.M 1998-22; Lyons v. Comm’r., 4 T.C. 1202 (1945); Estate of Fokker v. Comm’r., 10 T.C. 1225 (1948); Estate of Nienhuys v. Comm’r., 17 T.C. 1149 (1952); Mitchell v. United States, 88 US 350, 352 (1875); Paquette v. Comm’r., 46 T.C. 1400 (1983).