Gifts By Non-US Persons- Maybe Taxed, Maybe Not Taxed

Take-Away: A non-US person can gift an unlimited amount free of any federal gift tax. What and how that gift is made, however, controls whether a federal gift tax is actually owed.

Background: A gift that a US person receives from a non-US person might be completely free from both the federal gift tax and the federal generation skipping transfer tax (GST). If such a gift is made to a dynasty-type of trust, that gift will continue to provide for generations free of gift tax, free of estate tax, and free of GST tax.

However, the tax-free nature of the transfer from a non-US person to a US person is not a ‘slam dunk’ as several conditions must be met.

Different ‘Tests:’ The transferor must be a non-citizen of the US. Moreover, the rules for federal income taxes and federal gift taxes for non-US citizens are different.

• Income- Substantial Presence Test: For US income tax purposes, if an individual lives in the US for specific number of days in a year, he/she exceeds the substantial presence test and he/she becomes a US resident for federal income tax purposes.
• Gift- Domicile Test: In contrast, for federal gift tax purposes, residence is based on domicile, such that in order to be a US resident for federal gift tax purposes,  the individual must (i) be physically present in the US; and (ii) have an intention to remain in the US indefinitely. Only when those two conditions are met can the US impose a gift tax on the donor.
• The Income Tax ‘Trap:’ Consequently, there could be a non-US person who lives in the US long enough to satisfy the substantial presence test and be required to pay US income taxes, but because they never intended to relinquish their initial country of domicile, they will not be subject to federal gift taxation. Keep in mind that the individual will have to prove his/her intention to not change their domicile to the US to justify not being required to pay a federal gift tax.
• The Covered Expatriate Tax ‘Trap:’ A non-US individual who lives outside of the US presumably has a domicile outside of the US. However, if the individual was previously a US citizen or a permanent US resident for longer than 8 years, then that person could be treated as a covered expatriate. A gift by a covered expatriate to any US individual will be fully subject to the US gift tax. In short, the question needs to be asked if the donor was ever a US domiciliary, as that status could expose that person’s gift to taxation.

Tangible v Intangible Property: A gift from a non-US individual is excluded from the US gift tax but only if it is either intangible property or it is tangible personal property with a non-US situs.

Examples:  Grandfather is a citizen of France and has always been domiciled in France. Grandfather is not a covered expatriate. Grandfather’s granddaughter lives in the US. His granddaughter going to attend graduate school at Columbia University in New York City. Grandfather wants to make a gift to provide a home for his granddaughter while she is a graduate student in New York City. A $500,000 condominium located in New York City is the intended gift.

• Condominium Deed: If Grandfather purchases a condo and transfers title to it to his granddaughter, a gift tax will be incurred. The condo is real estate located in the US.
• Cash (Dollar Bills): If Grandfather somehow makes it through US customs with a wad of cash, and gives the cash to his granddaughter with the expectation that she will use the cash to purchase the condominium, those bills are tangible personal property, so a gift of cash from Grandfather directly to his granddaughter to enable her to purchase a New York condominium would also cause a federal gift tax to be incurred.
• Wire Transfer: If Grandfather wire transferred $500,000 in funds to his granddaughter in New York City, the wire transfer is intangible personal property and no gift tax would be incurred when the granddaughter obtained the cash.
• Stock: Grandfather could also gift shares of stock in a corporation to his granddaughter with the expectation that she will sell the stock and use the sales proceeds to purchase the condominium. The stock is also intangible personal property. Consequently, no federal gift tax would be incurred on the transfer of the $500,000 in stock to the granddaughter.
• Converting Intangible to Tangible Property: Supposed Grandfather sends stock (intangible personal property) to his granddaughter, but he requires that she sign an agreement that she will sell the stock and used the sales proceeds to purchase a New York City condominium. The IRS will look through that informal arrangement and contend that the granddaughter never received intangible stock; rather, it will claim that what she received was the condominium because she had promised to use the sales proceeds from the gifted stock to purchase the condominium, which is US located tangible real property.
• Safest Course: Grandfather should wire transfer funds to his granddaughter. Any companion messages to her (besides ‘avoid strange men while living in New York City’) would be something like- “I do not know what you are going to use this for, but I do know that New York City is an expensive place to live.”

Conclusion: Conceivably a lot of wealth can be transferred federal gift and GST tax free from a non-US individual to a US individual. The above rules are not all that difficult to understand, but then tend to be a bit tricky to keep in mind. Just a bit of caution will be required to comply with the conditions for gift tax-free transfers of wealth from a non-US individual to an individual living in the US.