When thinking about marriage, tax probably won't be one of the first things that spring to mind. However, as an expat if you do decide to enter into a marriage, you will need guidance on how it may affect your tax situation. Unfortunately, there isn’t a clear cut answer for everyone. In some cases married couples can end up being better off tax-wise, but on the other hand, there can also be occasions where remaining unmarried could be more beneficial.
Our expatriate tax experts have advised numerous clients about the US and UK tax consequences of marriage so below is a summary of what you need to look out for so you can better understand your position as an unmarried versus married couple.
US filing status changes
As an unmarried couple you would normally have a Single filing status, however, when you get married this could change to a Married Filing Separately or Married Filing Jointly. If you previously had a Head of Household filing status this could also change to Married Filing Separately, Married Filing Jointly, or you could even remain as Head of Household filing status in certain circumstances. Unsure where to start? Read on...
Married Filing Separately
Married filing separately is when married taxpayers elect to file their US tax returns separately. For US/non-US spouses, the default rule is for the US spouse to file separately.
Filing separately can be beneficial when one spouse is a non-resident ‘alien’. Also, where filing separately might be equally beneficial is where both are on high incomes and filing jointly would shift a couple into the 37% tax rate bracket.
For most taxpayers filing jointly makes use of the lower tax bands lowering the US tax liability. You might also forfeit a number of tax credits that are available if you file separately, such as the child tax credit.
Who would this option be right for?
Rachel and Frank are two US citizens living in the UK, who each have taxable income of $500,000 in 2018. When filing single their US tax liabilities would have been $152,943 each ($305,886 in total). Whereas filing jointly moves them into the 37% tax bracket creating a joint liability of $340,144.
This is an increase in the US income tax liability of $34,258.
Potentially, as they are UK resident some or all of this income could be foreign sourced and foreign tax credits could be used to reduce the US tax liability down to nil. In this example, the main disadvantage would be the reduction in the excess foreign tax credits carried over to the next year. Therefore Married Filing Separately could be a better option for them if they had US sourced income (such as US rental income, US dividends, or effectively connected income to a US trade or business), or they wanted to preserve their excess foreign tax credits.
Married Filing Jointly
Married taxpayers can elect to file jointly or separately. For US/Non-US spouses, the default is for the US spouse to file separately unless there is an election made for the non-US spouse to be a resident alien for tax purposes.
In most situations, it is more beneficial for married taxpayers to file jointly as the lower tax bands are doubled and there are various tax credits that you are more likely to get if filing jointly.
If you are a non-resident alien spouse, electing to be a resident alien and have large income not subject to US tax, you would have to comply with additional informational reporting requirements, which you otherwise would not have had to.
Who would this option be right for?
Lucy and Ben are married. Lucy is the US taxpayer and has $200k of taxable income in 2019. Ben is not a US taxpayer but elects to be a US taxpayer to file jointly as his taxable income is $0. Married filing jointly in this example would potentially be worthwhile as the tax savings can be up to nearly $9,000.
The following are the US tax liabilities for the various filing status:
- Married Filing Separately - $45,316
- Married Filing Jointly - $36,349
- Head of Household filing - $43,898
- Single - $45,316
From the above, you can see that being married does not increase the tax liability and if filing jointly you can make an even larger saving.
Head of Household filing
To claim head of household you must generally be unmarried although if you are married to a non-resident alien this counts as unmarried for these purposes. You must also have paid at least half the costs of keeping up a home for the tax year and had a qualified person such as a dependent living at home.
This is more advantageous than Married Filing Separately and is useful in an example when the non-resident alien spouse does not want to elect to be a resident alien.
The main disadvantage is checking each year whether you qualify for this filing status.
Who would this option be right for?
If we take the example of Lucy and Ben. If Ben decided not to elect to be a resident ‘alien’ due to the additional paperwork required for the foreign financial asset reporting, then the next best option for Lucy would be Head of Household, provided that she qualified for this tax status.
Transfer taxes is usually the main tax advantage of being married. The ability to transfer assets to each other and have an unlimited marital gift tax and UK inheritance tax exemption.
However, again there can be complications if there is a US citizen spouse married to a UK citizen and domiciled spouse. The marital exemption is limited in both the US and the UK. This might not matter so much if the US citizen’s estate is below the current $11.4m lifetime exemption amount, and there is always additional relief for married couples compared with unmarried couples.
In the US, the marital exemption is limited to $155,000 per annum for lifetime gifts from a US to a non-US domiciled individual. There is no marital exemption on death for transfers from a US to a non-US spouse, but this might not be an issue if the US spouse estate is below the current $11.4m lifetime exemption amount. If the estate exceeds this then you may want to consult with a lawyer to have your wills updated to potentially include some planning involving a Qualified Domestic Trust (QDOT) to help defer any US estate tax to the second death.
For transfers from UK-domiciled spouses to non-UK domiciled spouses there are also marital exemption limitations. In the UK the marital exemption is limited to £325,000 for both lifetime gifts that are not exempt under the potentially exempt transfer rules, as well as transfers on death. There is also a nil rate band that is available in the UK of £325,000 which is in addition to the marital exemption.
Other benefits to marriage include ‘no gain no loss’ on transfers of assets between spouses. This can also avoid double taxation if transferring assets when not married, as the US will generally not tax the gift of an asset for capital gains purposes but the UK does unless you are married. The point being is that an unmarried person who receives an asset that has appreciated in value inherits the original cost basis, meaning they could be subject to US tax on the same gain once the asset is sold.
Married couples with low income (with one spouse earning less than the personal allowance) can potentially transfer a portion of their personal allowance.
By working with us, our clients are able get a clear understanding of their UK/US tax position before their marriage so that they are aware of any obstacles and can plan ahead with peace of mind.
Being dual US/UK qualified tax advisors, we can provide prompt and effective advice under one roof.
If you are an American living in the UK and considering getting married in the near future, we can help you understand what the tax benefits are and if there are any tax issues that need to be overcome.
The full Stepping Stones series can be found here.
For further guidance and advice tailored to your specific circumstances, please fill in the contact form below to get in contact with Martin Scullion.