Taxation of the Estate of Nonresidents under U.S. Domestic Law
IRC § 2101 imposes a tax on the transfer of the taxable estate of a nonresident who is not a citizen of the U.S. at the time of death. However, the estate of such a nonresident aliens are ("NRA") is taxed on only their U.S. situs assets. See IRC § 2103. This includes
- real property located within the U.S.,
- tangible personal property located in the U.S. and
- U.S. corporate stock.
Consequently, the available exclusion amount is only $60,000 instead of $11.4 Mio. (2019).
Furthermore, if the surviving spouse of the (resident or nonresident) decedent is not a citizen of the U.S., the marital deduction is not granted.
For additional information on domestic estate tax rules for the estate of a nonresident alien, in particular the determination of the domicile/residence status and the definition of "U.S. situs assets", please refer to our article entitled Taxation of the Estate of Nonresidents under U.S. Domestic Law.
Taxation of Nonresident Aliens under the Germany-U.S. Estate and Gift Tax Treaty
The Germany-U.S. Estate and Gift Tax Treaty intends to eliminate double taxation and modifies the U.S. domestic rules pertaining to the Taxation of nonresident alien`s estates under U.S. laws and provides beneficial treatment.
Application of the Germany-U.S. Estate and Gift Tax Treaty
The Germany-U.S. Estate and Gift Tax Treaty applies to the estates of deceased individuals domiciled at the time of death within the U.S. or Germany. See Art. 1 of the Treaty.
For the purposes of the Treaty, an individual has a domicile
- in the U.S., if he/she is a resident or citizen thereof;
- in Germany, if he has his domicile / residence (Wohnsitz) or habitual abode (gewöhnlicher Aufenthalt) therein or if he is deemed for other reasons to be subject to unlimited tax liability (unbeschränkte Steuerpflicht) for the purposes of the German inheritance and gift tax. See Art. 4 para 1 of the Treaty.
Taxes Covered
The Treaty applies to
- in case of the U.S.: Federal estate tax and the federal gift tax, including the tax regimes applicable to generation-skipping transfers.
- in the case of Germany: The German inheritance Tax (Erbschaftsteuer) and Gift Tax (Schenkungsteuer). See Art. 2 of the Treaty.
It does not limit the states to impose death taxes. However, state estate or inheritance tax must be credited by Germany under Art. 11 para 3 of the Treaty.
Determination of the Domicile for Purposes of the Germany-U.S. Estate and Gift Tax Treaty
In order to avoid double taxation, the Germany-U.S. Estate and Gift Tax Treaty defines how "domicile" is to be determined for purposes of the Treaty.
Where by reason of the provisions of Art. 4 para 1 of the Treaty an individual was domiciled in the U.S. and Germany (see above), domicile is determined under the “tie-breaker” rules:
- The individual who has dual domicile will be deemed to be domiciled in the country where he or she has a permanent home (ständige Wohnstätte);
- if he or she has a permanent home in both countries or neither country, in the country where his or her centre of vital interest (Lebensmittelpunkt);
- On the occasion that it cannot be determined where his center of vital interests is the closest, he will be deemed to be domiciled in the country in which he has a habitual abode and if he has habitual abodes in both countries or neither country, he will be deemed to be domiciled in the country of which he is a citizen.
Assets Subject to U.S. Estate and Gift Tax under the Germany-U.S. Estate and Gift Tax Treaty
The Germany-U.S. Estate and Gift Tax Treaty improves the status of an alien domiciliary of Germany. Under the U.S.-Germany Estate and Gift Tax Treaty, only the following assets of an alien domiciliary of Germany can be taxed by the U.S.:
- immovable property (Art. 5 of the Treaty);
- (certain) business property of a permanent establishment (Art. 6 of the Treaty);
- (certain) ships and aircraft (Art. 7 of the Treaty); and
- an interest in a partnership which owns property described in Article 5 or 6 of the Treaty to the extent that the value of such interest is attributable to such property (Art. 8 of the Treaty).
Any other property of an alien domiciliary of Germany can only be taxed by Germany. See Art. 9 of the Treaty. Such property includes
- cash,
- tangible personal property,
- debt obligations situated in the U.S. and
- shares of stock in U.S. corporations.
Deductions of debts under the Germany-U.S. Estate and Gift Tax Treaty
With certain qualifications, generally the U.S.-Germany Estate and Gift Tax Treaty allows for direct deductions of debts that relate to the U.S. situated assets owned by an alien resident of Germany that may be taxed by the U.S. under the Treaty. This places alien residents of Germany in a much better position with respect to deductions than an alien resident of a non-treaty country who, as discussed above, may only deduct a fraction of the debts based on the value of his or her U.S. situs property to the value of his or her worldwide property.
Marital Exemption
The Germany-U.S. Estate and Gift Tax Treaty provides benefits with respect to property passing to an alien’s surviving spouse that are not available for other nonresident aliens. Property which passes to the spouse from a decedent who was domiciled in Germany to his/her spouse and which may be taxed by the U.S. solely in accordance with Article 5, 6, or 8 of the Treaty, is included in the taxable base only to the extent its value (after deductions) exceeds 50% of the value of all property which may be taxed under the Treaty. However, this shall not result in a reduction of the tax due in the U.S. below the tax that would be due by applying to the taxable base determined under that sentence the rates applicable to a person domiciled in the U.S. See Art. 10 para 4 of the Treaty.
Additionally, Art. 10 para 6 of the Treaty provides, that for determining the estate tax imposed by the U.S., the value of the decedent's taxable estate is determined by deducting from the value of the gross estate an amount equal to the value of any interest in property that passes to the decedent's surviving spouse and that would qualify for the estate tax marital deduction under the law of the U.S. if the surviving spouse were a citizen of the U.S. The marital deduction is determined by the date of death and the “applicable exclusion amount.” The amount of the deduction is the lesser of
- the value of the qualifying property, or
- the “applicable exclusion amount.
Example. X, a German citizen residing in Germany at the time of his death, dies in 2017. His estate includes U.S. real estate worth $2million all of which passes to his wife, Y, a German citizen and resident. The remainder of the decedent’s estate is $3million of assets with a German situs. The gross estate of the decedent is calculated pursuant to Art. 10 para 4 of the Treaty and the gross estate equals $1million (the amount by which the $2million of U.S. real estate exceeds $1million or 50% of the total value of the U.S. property taxable by the U.S.). X’s worldwide gross estate would be $4million. The $1million U.S. gross estate is reduced by the marital deduction under Art. 10 para 5 of $5.49 million resulting in no U.S. taxable estate.
Estate Tax Credit under the U.S.-Germany Estate and Gift Tax Treaty
Under Art. 10 para 5 of the U.S.-Germany Estate and Gift Tax Treaty, the estate of an alien decedent who was domiciled in Germany at the time of his or her death is granted a unified credit against the U.S. estate tax equal to the greater of:
- the amount that bears the same ratio to the credit allowed to the estate of a US citizen under the US law as the value of the part of the decedent's gross estate that at the time of the decedent's death is situated in the US bears to the value of the decedent's entire gross estate wherever situated; or
- the unified credit allowed to the estate of a nonresident not a citizen of the United States of America under the law of the United States of America.
Example. Same as in prior example. However, nothing passes to spouse. The pro-rata unified credit is 3/5 of the applicable unified credit in 2017 ($2,141,800 equaling an exclusion amount $5.49 million) = 1,285,080. As a consequence, no U.S. federal estate tax is due.
