Exit Taxes in Cross-Border Tax Planning: Unrealized Capital Gains Tax on Departing Individuals in Certain Countries

In late 2024, the Australian government confirmed that from 1 July 2025, departing individuals holding significant equity in a foreign company with underlying Australian real property (the “principal asset test”) will be required to crystallise and pay capital gains tax on those unrealised gains as if the assets were disposed of immediately before departure. This development, formalised in Treasury Laws Amendment (Measures for a Better Tax System) Act 2024, marks the most significant expansion of an “exit tax” regime among the Five Eyes jurisdictions since the UK’s temporary non-resident capital gains tax changes in 2015. For Hong Kong-based HNW individuals—particularly those with US, UK, Australian, or Canadian connections—the exit tax landscape has become a critical pre-migration planning variable. The convergence of the OECD’s Pillar Two minimum tax rules, which now apply to groups with consolidated revenue above EUR 750 million, and domestic departure taxes in at least four major jurisdictions means that the timing and structure of a cross-border move can no longer be treated as a purely personal decision. It is now a tax event with hard statutory deadlines, valuation requirements, and—in some cases—immediate cash tax liabilities.

The Mechanics of Exit Taxation: When Departure Triggers a Deemed Disposition

Exit taxes, also referred to as departure or expatriation taxes, operate on a legal fiction: the taxing jurisdiction treats the individual as having sold all—or a defined class of—their assets at fair market value immediately before ceasing to be a tax resident. The resulting gain, though unrealised, becomes taxable in the year of departure. This mechanism exists in various forms across the OECD and has been the subject of increasing legislative attention since the OECD’s Base Erosion and Profit Shifting (BEPS) Action Plan identified exit taxation as a tool to prevent tax base erosion.

The United States: IRC § 877A and the Covered Expatriate Framework

The US departure tax, codified at IRC § 877A, applies to “covered expatriates”—individuals who cease to be US citizens or long-term residents (Green Card holders for at least 8 of the preceding 15 tax years). The threshold tests are threefold: an average annual net income tax liability exceeding USD 206,000 (2025 figure, inflation-adjusted), a net worth of USD 2 million or more on the date of expatriation, or a failure to certify compliance with all US federal tax obligations for the 5 years preceding expatriation.

The tax calculation is stark: all property of the covered expatriate is deemed sold for its fair market value on the day before the expatriation date. The first USD 866,000 of gain (2025 figure, per IRC § 877A(a)(3)) is excluded, with the balance taxed at the applicable capital gains rates. Deferred tax items, including traditional IRAs and non-qualified deferred compensation, are treated as having been distributed in full. The tax is due with the Form 8854 (Initial and Annual Expatriation Statement), which must be filed by the due date of the individual’s final Form 1040. Failure to file Form 8854 can result in a USD 10,000 penalty under IRC § 6039G.

A critical nuance for Hong Kong residents: the US-Hong Kong Tax Information Exchange Agreement (TIEA), signed in 2014, does not provide for a totalisation agreement or a treaty-based override of IRC § 877A. The IRS maintains the ability to collect the exit tax through its offshore collection mechanisms, including the Foreign Account Tax Compliance Act (FATCA) reporting framework, which requires Hong Kong financial institutions to report US persons to the IRS via the Inland Revenue Department (IRD).

Australia: The CGT Exit Charge for Foreign-Resident Individuals

Australia’s exit tax regime, currently contained in Subdivision 855-I of the Income Tax Assessment Act 1997 (Cth), applies to individuals who cease to be Australian tax residents and who hold assets that are “taxable Australian property” (TAP). This includes direct and indirect interests in Australian real property, as well as assets used in carrying on a business through a permanent establishment in Australia.

The 2025 expansion, effective 1 July 2025, closes a previous loophole: individuals who ceased residency but held shares in a foreign company with underlying Australian property were not previously subject to the exit tax unless the company itself was Australian. Under the new rules, a departing individual who holds a 10% or greater interest in a foreign entity that passes the “principal asset test” (i.e., more than 50% of the entity’s asset value is Australian real property) will be deemed to have disposed of that interest at market value. The gain is calculated using the cost base of the interest, with no market value step-up for pre-2025 holdings.

For Hong Kong-based Australian expatriates, this change has direct implications. A Hong Kong resident who holds shares in a BVI-incorporated company that owns a Sydney commercial building will, upon ceasing Australian tax residency, be subject to CGT on the unrealised gain in those BVI shares. The ATO has indicated in its 2024 Compliance Program that it will use data from the Common Reporting Standard (CRS) and the US Foreign Account Tax Compliance Act to identify departing individuals who fail to lodge a final Australian tax return with the appropriate CGT schedule.

Canada: Section 128.1 and the Deemed Disposition on Emigration

Canada’s departure tax, found in section 128.1 of the Income Tax Act (Canada), applies to individuals who cease to be resident in Canada. The mechanism is a deemed disposition of all property (other than “taxable Canadian property” and certain exempt assets) at fair market value immediately before departure. The resulting capital gains are reported on the individual’s final Canadian tax return for the year of emigration.

The Canadian regime includes a significant deferral election: under subsection 220(4.5) of the Income Tax Regulations, an individual may elect to defer the tax payable on the deemed disposition by providing acceptable security to the Canada Revenue Agency (CRA). The security, typically a letter of credit or a bond from a Canadian chartered bank, must cover the full amount of the tax deferred, plus interest at the prescribed rate (currently 9% per annum, as of Q1 2025). The security must be maintained until the property is actually disposed of or the individual re-establishes Canadian residency.

For Hong Kong family offices with Canadian members, the interaction between the Canadian departure tax and Hong Kong’s territorial source principle creates a structural tension. Hong Kong does not impose tax on capital gains, and the IRD (Inland Revenue Department) does not provide a foreign tax credit for Canadian departure tax paid on unrealised gains. The Canadian tax, once paid, becomes a sunk cost with no corresponding Hong Kong tax offset. This asymmetry underscores the importance of pre-departure planning to either accelerate or defer the Canadian tax event.

Structural Planning: Trusts, Holding Companies, and the Timing of Migration

The exit tax regimes described above share a common vulnerability: they apply only when an individual ceases to be a tax resident of the departing jurisdiction. This creates a planning opportunity to restructure ownership of assets before the residency change occurs, or to time the change in a manner that minimises the deemed disposition gain.

The Role of Irrevocable Trusts and Non-Grantor Structures

For US covered expatriates, IRC § 877A includes a specific anti-avoidance rule for trusts: if a covered expatriate is a beneficiary of a foreign trust, the trust itself may be subject to the expatriation tax on its accumulated income and gains. The rule, found at IRC § 877A(f), treats the trust as having sold its assets at market value if the trust is a “covered expatriate trust”—defined as a trust that has at least one covered expatriate beneficiary and in which the covered expatriate has a vested interest.

However, the application of this rule is limited to trusts where the covered expatriate has a “substantial interest” in the trust. For Hong Kong-based settlors who have created irrevocable, non-grantor trusts in jurisdictions such as Jersey, Singapore, or the Cayman Islands, the key question is whether the settlor’s retained powers (such as the power to remove and appoint trustees, or to veto distributions) constitute a “substantial interest” for US tax purposes. The IRS has not issued comprehensive guidance on this point, and the case law remains limited to the Tax Court’s decision in Estate of Petschek v. Commissioner (T.C. Memo 2010-71), which held that a settlor’s retained powers over a foreign trust did not, by themselves, create a covered expatriate trust.

BVI and Cayman Holding Companies: The Principal Asset Test and the Exit Tax

For Australian and Canadian expatriates, the use of a BVI or Cayman holding company to hold Australian or Canadian real property has been a standard planning technique to avoid direct ownership and the associated probate and reporting obligations. The 2025 Australian changes directly target this structure: the principal asset test now applies at the level of the foreign entity, meaning that a BVI company holding Australian property will itself be treated as TAP for the purposes of the exit tax on the departing individual’s shares.

The planning response is to consider a pre-departure reorganisation: either transferring the BVI shares to a trust structure that is not subject to the exit tax (because the trust, not the individual, is the shareholder), or disposing of the shares to a third party before the residency change occurs. The latter option triggers an actual—rather than deemed—disposition, but the gain may be lower if the property’s value has not yet appreciated to its departure-date level.

Timing the Residency Change: The 183-Day Rule and the Treaty Tiebreaker

The date on which an individual ceases to be a tax resident of the departing jurisdiction is not always clear. Most jurisdictions apply a combination of the 183-day physical presence test and a “centre of vital interests” analysis. For Hong Kong individuals moving to Singapore or Mainland China, the tiebreaker rules in the relevant double tax treaties (DTA) can determine which jurisdiction has the primary taxing right.

The US-Hong Kong TIEA does not contain a tiebreaker provision, as it is a tax information exchange agreement, not a comprehensive income tax treaty. This means that a US citizen living in Hong Kong remains a US tax resident for all purposes, regardless of the number of days spent in Hong Kong. For Australian and Canadian individuals, the respective DTAs with Hong Kong (the Australia-Hong Kong DTA, effective 2019, and the Canada-Hong Kong DTA, effective 2018) do contain tiebreaker provisions. Under Article 4 of the Australia-Hong Kong DTA, an individual who is a resident of both jurisdictions will be treated as a resident only of the jurisdiction where they have a permanent home available to them. If a permanent home is available in both, the tiebreaker moves to the jurisdiction of “centre of vital interests”—a facts-and-circumstances test that considers where the individual’s personal and economic relations are closer.

For planning purposes, the date of the tiebreaker determination is critical. The Australian exit tax applies on the date the individual ceases to be an Australian resident under Australian domestic law, which may be different from the date determined under the DTA. The ATO has confirmed in Taxation Ruling TR 2023/1 that the domestic law definition of residency applies for the purposes of the CGT exit charge, with the DTA operating only to relieve double taxation where a conflict exists. This means that an individual who moves to Hong Kong but retains a permanent home in Australia may still be treated as an Australian resident under domestic law, and thus not trigger the exit tax, until the DTA tiebreaker is formally invoked.

The Interaction with Pillar Two and the Global Minimum Tax

The OECD’s Pillar Two rules, which impose a 15% global minimum effective tax rate on multinational enterprise groups with consolidated revenue above EUR 750 million, have indirect but significant implications for exit tax planning. While Pillar Two applies to corporate groups, not individuals, the rules affect the structure of family offices and investment holding companies that are commonly used by HNW individuals.

The Income Inclusion Rule and the Deemed Disposition Gain

Under the OECD’s GloBE (Global Anti-Base Erosion) Model Rules, the Income Inclusion Rule (IIR) requires the ultimate parent entity of a multinational group to pay top-up tax on the low-taxed income of its constituent entities. For a family office that holds a portfolio of operating companies through a Hong Kong holding company, the exit tax paid by an individual shareholder on the deemed disposition of their shares in that holding company does not, by itself, trigger a Pillar Two adjustment. However, if the individual’s departure results in a change of control of the holding company—for example, if the shares are transferred to a trust that is not subject to the exit tax—the jurisdictional effective tax rate of the holding company may change, potentially triggering a top-up tax liability under the IIR.

The Undertaxed Payments Rule and Hong Kong’s Response

Hong Kong has not yet enacted Pillar Two legislation, but the Financial Services and the Treasury Bureau (FSTB) announced in its 2024 Policy Address that it will introduce a domestic minimum top-up tax (DMTT) for in-scope multinational enterprise groups, effective for fiscal years beginning on or after 1 January 2025. The DMTT, which will apply to groups with Hong Kong operations and consolidated revenue above EUR 750 million, is designed to ensure that Hong Kong collects the top-up tax rather than allowing it to be collected by another jurisdiction under the Undertaxed Payments Rule (UTPR).

For family offices that are structured as investment holding companies within a multinational group, the introduction of the DMTT creates a compliance burden that did not previously exist. The DMTT requires the Hong Kong entity to calculate its GloBE effective tax rate and pay top-up tax if the rate falls below 15%. This calculation must take into account the tax attributes of all entities in the group, including those held through BVI or Cayman vehicles. The interaction between the DMTT and an individual shareholder’s exit tax is complex: the exit tax paid by the individual is not a corporate tax and therefore does not increase the GloBE effective tax rate of the Hong Kong entity. The individual’s departure may, however, trigger a revaluation of the group’s deferred tax assets, which could affect the GloBE calculation in subsequent years.

Actionable Takeaways

1. For US citizens or Green Card holders in Hong Kong considering expatriation, the IRC § 877A net worth test (USD 2 million) and the income tax liability test (USD 206,000 for 2025) should be calculated at least 12 months before the intended expatriation date, using the Form 8854 instructions and the applicable inflation-adjusted figures published by the IRS in the Internal Revenue Bulletin.
2. Australian residents in Hong Kong who hold shares in a foreign company with underlying Australian real property should review their shareholding percentage and the principal asset test before 1 July 2025, as the expanded exit tax will apply to disposals (both actual and deemed) occurring on or after that date.
3. Canadian residents in Hong Kong who plan to cease Canadian residency should consider the section 128.1 deferral election, which requires acceptable security to be posted with the CRA, and should factor the prescribed interest rate (currently 9% per annum) into their cash flow projections.
4. Trust structures used to hold cross-border assets should be reviewed to ensure that the settlor’s retained powers do not create a “covered expatriate trust” under IRC § 877A(f) or a similar attribution risk under Australian or Canadian law, particularly where the trust is domiciled in a jurisdiction that does not have a comprehensive DTA with the departing jurisdiction.
5. The introduction of Hong Kong’s domestic minimum top-up tax (effective 1 January 2025) means that family offices and investment holding companies within in-scope multinational groups must prepare GloBE calculations for the 2025 fiscal year, even if the group’s ultimate parent entity is located outside Hong Kong.

Disclaimer: This article is for general informational purposes only and does not constitute tax advice. Tax laws, regulations, and their interpretations are subject to change and vary by jurisdiction. The specific application of exit tax rules depends on individual facts and circumstances. Readers should consult a qualified tax professional licensed in the relevant jurisdictions for advice tailored to their situation. / 本文僅供一般參考用途，不構成稅務建議。稅務法律、法規及其解釋可能隨時變更，且因司法管轄區而異。退出稅規則的具體適用取決於個別事實和情況。讀者應諮詢在相關司法管轄區持牌的合資格稅務專業人士，以獲取針對其情況的建議。