When your client moves to the United States, it is essential that the individual understands the Australian tax consequences associated with ceasing Australian residency and establishing a presence overseas.
Depending on your client’s financial position, ceasing Australian residency and becoming a US tax resident may result in lower overall taxes on employment and investment income. However, this needs to be balanced against the reduction in the CGT discount for clients who retain significant Australian real estate or who have wealth in Australian trusts.
This article outlines some key tax considerations for Australians moving to the U.S.
Ceasing Australian Tax Residency
The first issue to address is the individual’s Australian tax residency status. Where an individual relocates to the United States indefinitely, they will likely cease to be an Australian resident for tax purposes. Individuals who are only moving to the US for a short term work assignment may remain Australian tax resident and may also become US tax resident.
Under domestic law, an individual generally ceases residency when they:
- Depart Australia with the intention of residing overseas indefinitely;
- Establish a permanent place of abode outside Australia (typically evidenced by U.S. housing arrangements, family relocation, and employment or business activities); and
- Sever their connections with Australia sufficiently to show they have abandoned residence in Australia
The individual should consider retaining records in case evidence is later needed of their intentions to depart Australia. Such records may include copies of notifications to or correspondence with government departments, financial institutions, real estate agents, schools or other services providers such as clubs and associations. Retaining copies of invoices relating to the shipping of furniture or personal effects or sale of motor vehicles could also provide good evidence of an intention to leave Australia indefinitely.
Importantly, the individual must also establish that they have the right to reside in the U.S. (even though that right may be tied to US employment), to be able to have any chance of demonstrating that they have acquired a permanent place of abode in the USA.
Retaining Or Severing Australian Ties
Even if an individual establishes residency in the U.S., they may be deemed to remain an Australian resident if significant ties to Australia are maintained. Examples include:
- Retaining a family home;
- Leaving a spouse or dependents in Australia;
- Continuing to exercise control over Australian business operations.
In such cases, the “resides” or domicile tests under Australian law may still be satisfied. Where there is a risk of dual residency, it is important to consider the tie-breaker rules under Article 4 of the Australia–U.S. Double Tax Agreement (DTA) to determine which jurisdiction the client is a resident of for the purposes of the DTA.
A clear abandonment of residence in Australia is usually critical to ensuring that the individual is treated as a non-resident for Australian tax purposes.
Employment Income And Directors’ Fees From Australian Sources
Non-resident individuals who continue to receive salary, wages, or directors’ fees from an Australian company, for services performed in Australia, may remain subject to Australian income tax on those earnings.
This is because a non-resident of Australia remains taxable on ordinary or statutory income that has an Australian source (Sections 6-5(1) and 6-10(1) ITAA 1997).
Generally speaking if employment services are performed in Australia there would be a presumption of Australian source, though Mitchum’s case remains authority for the case that services in Australia, of itself, does not necessarily give rise to Australian source.
Employers should apply Pay As You Go (PAYG) withholding at non-resident rates, and recipients must report this income in their Australian tax return. It is essential that appropriate reporting and payroll classifications are maintained to ensure ongoing compliance.
In addition, individuals receiving Australian-sourced salary, wages, or directors’ fees will typically be required to declare this income in the United States as their country of residence for tax purposes. Relief from double taxation may be available through the foreign tax credit system under the Australia–U.S. Double Tax Agreement, depending on the taxpayer’s specific circumstances. Clients should be referred to a U.S. tax advisor for guidance on their reporting obligations and the application of available credits.
CGT Event I1 – Deemed Disposal On Exit
When an individual ceases Australian tax residency, Capital Gains Tax (CGT) Event I1 under section 104-160 of the Income Tax Assessment Act 1997 is triggered. This deems the individual to have disposed of all non-taxable Australian property (non-TAP assets) at ‘market value’ on the date they cease residency.
Exemptions From CGT Event I1
CGT Event I1 does not apply to:
- Taxable Australian Property (TAP) – e.g., Australian real estate, assets used in an Australian permanent establishment, and indirect interests in Australian land. This is because this property will continue to be taxable in Australia.
- Trading stock or depreciating assets not subject to CGT.
Deferral Option (s104-165)
Individuals may choose to defer CGT on exit for eligible non-TAP assets. The CGT event is then deferred until the actual disposal of the asset.
While this choice can mitigate immediate tax liability, it may complicate future compliance, because the relevant CGT assets then become Taxable Australian Property. As deemed Taxable Australian property, CGT would apply when a CGT Event later happens, while the client is a non-resident there. This may ultimately be a large capital gain to declare in Australia, with a diminished CGT Discount (since the non-resident ownership period gradually reduces the 50% CGT Discount).
However, for an Australian moving to the USA, the outcome is protected under the Australia-United States Double Taxation Agreement (DTA), if the client disposes of the assets while they are US tax resident. In that case, the two countries have agreed that the sole taxing rights over the capital gain will be granted to the USA.
Employee Share Schemes, Equity, And Founders’ Shares
Executives and founders frequently hold substantial equity interests in their companies, either directly or through Employee Share Schemes (ESS). These interests raise complex tax considerations when leaving Australia.
Key issues include:
- Division 83A ESS Deferral Schemes: Ceasing residency may trigger the taxing point for deferred ESS interests for which the taxing point under Division 83A has occurred.
- Founders’ or Private Equity Shares: Valuation at the date of departure is essential for CGT Event I1. However, where equity interests are in entities that derive significant value from Australian real property, the interests may be considered TAP and exempt from deemed disposal.
CGT Record-Keeping: Individuals must retain evidence of valuations and tax already paid to avoid double taxation or incorrect assessments upon disposal.
Australian Real Property, Including The Main Residence
When an individual retains ownership of an Australian residence or investment property post-departure, several tax implications arise.
Main Residence Exemption Restrictions
Under current legislation, non-residents are not entitled to the main residence CGT exemption, except in very limited circumstances (e.g., death, divorce, terminal illness – see s118-110). Therefore:
- If the individual sells their main residence while a non-resident, the entire capital gain would be taxable and the DTA would typically provide little to no relief.
- If the individual resumes Australian tax residency before sale, they may be entitled to apportion the main residence exemption for the period of Australian residency.
The individual should obtain a valuation of the property at the date the property first ceases to be their main residence. This will assist in establishing the correct cost base in situations where they are eligible for a partial main residence exemption.
50% CGT Discount
Non-residents are not eligible for the 50% CGT discount on assets acquired after 8 May 2012. This restriction continues while the individual remains non-resident and will apply for the time the individual was a non-resident, even if they return to Australia before selling the property.
Family Trusts
Clients should also be aware that the US treatment of Australian family trusts differs significantly to the Australian treatment. Commonly the US will regard income or gains arising in the Australian trust as gains of the client directly.
Companies
Clients moving to the USA who have an Australian company with retained profits, should obtain advice before becoming resident of the USA. It may be possible to make an election in the USA so that when historical retained profits are paid out as dividends there is no additional US tax to pay.
Ongoing Rental Income
If the property is rented, rental income is taxable at non-resident marginal rates, with no tax-free threshold. The income would need to be declared in the USA.
Superannuation Considerations
Australian superannuation interests are generally unaffected by a change in tax residency.
- CGT Event I1 does not apply to superannuation balances.
- Conditions of release are unchanged; moving overseas does not entitle access.
- Employer contributions made by Australian entities may have implications for non-resident tax and reporting.
U.S. tax treatment of Australian super is complex. Individuals should obtain specialist advice on U.S. reporting (e.g., FBAR, Form 8938) and treatment under the Internal Revenue Code.
Ongoing Australian Tax Obligations As A Non-Resident
Once non-residency is established, the individual is only subject to Australian tax on Australian-sourced income, including:
- Rental income from Australian property;
- Dividends (subject to withholding);
- Capital gains from TAP and any deferred assets;
- Employment income earned in Australia (if applicable).
It is important to note that non-resident tax rates apply from the first dollar of income. Individuals are not entitled to the tax-free threshold or Medicare levy exemptions.
Clients should notify share registries, investment platforms, financial institutions such as banks, and employers of their non-resident status to ensure correct withholding and compliance.
Coordinating With U.S. Tax Advice
Given the complexity of international tax issues, including potential double taxation and foreign reporting obligations, individuals must seek qualified U.S. tax advice prior to departure.
In addition to actual tax issues, clients should be aware the US has a significant number of additional information returns that must be lodged when a client has overseas assets, companies and trusts. Non-lodgement or incorrect filing can come with significant penalties in the US.
Conclusion
When advising clients on relocation to the U.S., it is always necessary to consider the whole of their personal circumstances. This ensures proper consideration of Australian tax issues arising on departure and US issues arising on entry, as well as ongoing tax concerns.
CHECKLIST: Individuals Moving to the USA
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To assist your firm and your team in advising your client when they move to the USA, we have created our Checklist for Individuals Moving to the USA. The checklist guides your team through the practical tasks they need to advise on and make sure the client is aware of before making the move aboard. |
