By Ian Weinstock and Heather Fincher
After 15 years of waiting, we now have final regulations providing guidance on the tax imposed by Internal Revenue Code Section 2801 (the “Section 2801 tax”) for U.S. citizens and residents who receive gifts or bequests from certain individuals who have expatriated from the United States. Importantly, taxpayers will soon finally have guidance on the method of reporting and paying the Section 2801 tax with the imminent promulgation of Form 708, United States Return of Tax for Gifts and Bequests Received from Covered Expatriates (“Form 708”).
The Section 2801 Tax
The Section 2801 tax is essentially a 40 percent[1] federal inheritance tax on U.S. citizens and U.S. residents (including domestic trusts, and also foreign trusts that elect to be treated as domestic trusts for Section 2801 purposes) who receive any covered gift or bequest. A “covered gift or bequest” means any property acquired from a covered expatriate or from a foreign trust funded by a covered expatriate.[2] In other words, the Section 2801 tax is imposed on recipients of transfers (which is why it is characterized as an inheritance tax) that would otherwise escape the reach of the U.S. gift and estate tax system as a consequence of the donor’s or decedent’s expatriation. The tax is imposed on the value of the gift or bequest, although only to the extent that value exceeds the annual exclusion for gifts ($19,000 for 2025).[3]
A “covered expatriate” is (i) an expatriate, i.e., any U.S. citizen who relinquishes citizenship or any green card holder whose status is revoked or abandoned at a time when the person was a lawful permanent resident of the United States in at least 8 of the past 15 years, who (ii) at the time of expatriation, had a worldwide net worth of $2 million or more, had an average annual U.S. federal income tax liability above a certain threshold ($206,000 for 2025), or who failed to certify under penalties of perjury that she or he was in compliance with all U.S. federal tax obligations for the preceding five years. Covered expatriates are subject to special U.S. tax rules under Code Section 877A, often referred to as the “exit tax.”
Unlike the gift and estate taxes, which are payable by the donor or the decedent’s estate, for purposes of the Section 2801 tax, the recipient of the covered gift or bequest is liable for reporting and paying the tax. Until now, the reporting requirement related to the Section 2801 tax has been deferred.
The Final Regulations
On January 10, 2025, Treasury and the IRS released TD 10027, Guidance under Section 2801 Regarding the Imposition of Tax on Certain Gifts and Bequests from Covered Expatriates (the “final regulations”), the long-awaited finalized regulations that were first proposed[4] in September 2015 (the “proposed regulations”).
Interestingly, although the final regulations clarify that they apply to covered gifts and bequests received on or after January 1, 2025, they are silent on the last sixteen years since Section 2801 was enacted in June 2008. Early IRS guidance (Notice 2009-85) indicated that reporting and tax obligations under Section 2801 for covered gifts or bequests received after June 2008 would be deferred until issuance of final IRS guidance. The proposed regulations reiterated the concept of deferral without further explanation. But the final regulations seem to be silent on the issue. Consequently, until Form 708 and its accompanying instructions are issued, we will not know for sure, but the final regulations’ deafening silence on this topic seems to indicate that it is at least possible that recipients of covered gifts or bequests between June 17, 2008, and January 1, 2025, may be off the hook entirely from a tax and reporting standpoint.
Aside from the deferral issue, the final regulations generally adopt the proposed regulations, though with a few modifications, which include the following:
- Eliminate timely paid requirement – By statute, gifts and bequests shown on a timely filed gift or estate tax return are excluded from covered gifts or bequests. The proposed regulations required not only timely filing, but also the timely payment of any tax shown as due on that return in order for such amounts to be excluded from covered gifts or bequests. The final regulations eliminate the timely paid requirement.
- Avoid duplicate liability – In some cases, the same property could, in theory, be subject to the Section 2801 tax first as a covered gift and subsequently as a covered bequest acquired from the same covered expatriate (g., when a covered expatriate transfers a remainder interest in real property to a U.S. recipient and retains a life estate, the value of the remainder interest is a covered gift, and the value of the entire real property is a covered bequest at death). The final regulations add a rule excluding the value of a covered gift previously subject to the Section 2801 tax from the value of the covered bequest of that same property.
- Relief from annual filing for electing foreign trusts – A foreign trust may elect to be treated as a domestic trust solely for purposes of Section 2801. This election would shift liability for the Section 2801 tax to the electing foreign trust, thus relieving each U.S. citizen or resident who receives a distribution from that trust of the obligation to pay the Section 2801 tax. Under the proposed regulations, each electing foreign trust would have had to file a timely Form 708 every year to report covered gifts or bequests received or to certify that it had not received any. The final regulations relieve trustees of electing foreign trusts from at least part of this filing burden by requiring reporting only in years the electing foreign trust receives covered gifts or bequests.
- Various clarifications – The final regulations modify the proposed regulations in various other ways to clarify certain rules, for example by:
- Confirming a U.S. recipient’s ability to file a protective claim for refund of the Section 2801 tax in case foreign gift or estate tax is paid well after payment of the Section 2801 tax;
- Including a special rule providing the date of receipt of a covered gift or bequest of a future interest in property not held in trust;
- Clarifying that a distribution by a non-electing foreign trust to a U.S. citizen or resident that is attributable to a covered gift or bequest does not incorporate the deemed distribution rules of Code Section 643(i), although the uncompensated use of trust property by, or a loan from such a trust to, a U.S. citizen or resident may still constitute a gift;
- Reminding taxpayers that the filing of Form 708 to report a distribution from a non-electing foreign trust is independent of, and in addition to, the requirement to file Form 3520, Annual Return to Report Transactions With Foreign Trusts and Receipt of Certain Foreign Gifts; and
- Providing that the definition of U.S. person for purposes of the obligation to file Form 708 references the gift and estate tax definitions (e.g., under 26 CFR § 25.2501-1 and § 20.0-1(b), both of which rely on domicile), not the income tax definition under Code Section 7701(a)(30), while for purposes of filing Form 3520, the definition of U.S. person is the income tax definition (not the gift and estate tax definition).
In summary, taxpayers need to be aware that the final regulations now mandate reporting of covered gifts and bequests and contain detailed rules about how to fulfill this obligation. Form 708 has yet to be promulgated, but the information and reporting requirements are now finalized.
[1] Technically, the rate imposed is the highest rate specified in Internal Revenue Code (“Code”) Section 2001(c) in effect on the date of receipt, which is currently equal to 40%.
[2] Limited exemptions apply, for example, for amounts transferred to a U.S. citizen spouse or to a charity, or for a gift or bequest that is reported on a timely filed gift or estate tax return.
[3] The Section 2801 tax may be further reduced by any gift or estate tax paid to a foreign country with respect to such gift or bequest.
