Assuming that Eduardo Saverin is a "covered expatriate" within the meaning of § 877A, all of his property is taxed on a mark-to-market basis on the day before his expatriation date for US income tax purposes. If so, and if Saverin would not have been taxed on his Facebook stock merely by reason of the IPO, then his expatriation will trigger a very large tax liability that he otherwise would not have had to pay until he sold and, had he held the stock until his death, might never have had to pay. Expatriation then increases his tax liability, by a very substantial amount.
For Saverin to benefit, therefore, it must be the case that he would have been taxed on his gain by reason of the IPO in any event. I don't know enough about his situation to know if this is so. We do know, however, that Zuckerberg himself plans to exercise stock options immediately in advance of the IPO and, under § 83, will recognize deferred compensation income by reason of that exercise, taxable at 35%. Assume arguendo that Saverin is in the same situation. When he exercises his options, he triggers § 83(a) income. For § 864 purposes, this should be treated as deferred compensation for services, and will therefore be US source compensation income -- sourced by reference to the place the services were originally performed. The valuation of this compensation should not be appreciably different from its valuation for mark-to-market purposes, so he probably doesn't get a valuation advantage by reason of a pre-IPO valuation date. If, at the time, Saverin is a nonresident alien, he should still be subject to tax at ordinary rates on income effectively connected with the conduct of a US trade or business under § 864(c)(6).
One interesting question is whether the options constitute "property" for purposes of § 877A, subject to mark-to-market taxation, and whether, if they do, § 877A trumps § 83(a). If so, the resulting gains might arguably be taxed at capital gains rates -- a real benefit. But I doubt this is so as a matter of law.
It's also not clear to me why Saverin or Zuckerberg have to exercise their options prior to the IPO. If Saverin doesn't have to exercise now, he could avoid current taxation under § 83(a) simply by not exercising. Should Romney become President and lower top rates to 25%, as he has promised, Saverin might be better off remaining a US citizen and deferring exercise until top rates are lowered.
In any event, I assume that Saverin already has considerable holdings of Facebook stock apart from any unexercised options subject to the foregoing analysis. If so, expatriation will trigger mark-to-market taxation on his existing holdings that might otherwise be indefinitely deferred.
I thought about this quickly yesterday. I think Saverin's personal calculus must have gone something along the following lines:
Saverin does seem to be a covered expatriate, so § 877A is relevant. Apparently though he surrendered his US passport in September. Facebook announced its IPO plan in February 2012, so one can expect that Saverin will argue for a substantially lower September 2011 valuation on his large block than the price at which the IPO launches next week. That one-time exit tax (along with a similar exit tax on any other appreciation in other investments) will be the only price Saverin pays for eliminating future tax on his capital income.
But why, asks Ted, would he accelerate tax on a stock position that, at the high end of the IPO projected price range, is worth $3.8 billion, and which he is apparently not selling in the immediate future? Here I think the analysis would have comprised several elements, without regard to stock options:
- Saverin is an extremely young man. If his fast living in Singapore doesn't kill him, he has years and years of capital appreciation and other capital income ahead of him. As a Singapore resident, he will not suffer any capital gains taxes anywhere. (I don't recall how Singapore treats dividend and interest income earned by Singapore residents on non-Singapore companies, but I will hazard a guess that the answer is, "kindly.")
- With the benefit of hindsight, the September 2011 expatriation was serendipitously well timed, if one wanted to trigger the exit tax at the last moment where one had a plausible argument that a pre-IPO valuation of a gigantic and illiquid position should be materially less than the IPO price. So Saverin presumably will minimize (to the extent a small number of billions can be called minimal) his tax liability. And remember of course that the exit tax is a mark to market concept; Saverin in fact will profit (without future US tax liability) through any jump in valuation of his multi-billion as a result of the IPO, as well of course as the next 60 years of appreciation.
- Had Saverin remained a US citizen, his ultimate gain on any sales of public Facebook stock, and all other investments he might make with his billions, would be subject to US tax (as would of course as any dividend or interest income). The accelerated tax was a one time 15% haircut. Does anyone want to bet that capital gains rates will remain 15% for the next 60 years? And again, the § 877A was a one time haircut; all his future capital income will escape US tax entirely.
- Saverin does not actually have to pay the tax right away; it can be deferred until he sells the stock, at the price of an interest charge equal to the standard deficiency rate. At the moment that rate is extremely low, and he no doubt believes that he can invest his money to earn a substantially higher return than the interest expense that will accrue.
I tried to explain the nuances of this calculus as best I could imagine them to a few reporters, all of whom were on hysterical deadlines. For reasons that are completely unfathomable to me, the news stories did not dwell on the intricacies of present value calculations and projected tax rates decades from now, and instead compacted the analysis to, "he did a tax-savvy thing."
As an aside, the legislative history of § 877A is extremely clear that Congress did not want to punish expatriation in any way; Congress saw § 877A as a "tax neutral" rule that neither encouraged nor discouraged an expatriation decision. So if you think § 877A is too lenient, complain to your elected representatives.