US · Journal
What the deemed sale does to an asset already standing at a loss
A covered expatriate's losing assets are deemed sold too. The exclusion amount never reaches them, the ordinary loss limits do, and the basis goes anyway.
A covered expatriate's losing assets are deemed sold too. The exclusion amount never reaches them, the ordinary loss limits do, and the basis goes anyway.
Assets standing at a loss are not left out of the US exit tax. IRC §877A(a)(2)(B) deems them sold on the day before expatriation along with everything else, and the losses do count — but only “to the extent otherwise provided” by the rest of the Code, and the exclusion amount never reaches them. That produces two results most people do not expect: the exclusion is apportioned across your gain assets alone, so a losing asset neither shrinks it nor is sheltered by it; and the deemed loss strips your basis permanently whether or not you were allowed to deduct a cent of it.
This article is about the loss side only. For which assets are deemed sold at all, and how to value them, see the deemed sale and which assets count; for the three separate regimes that pensions and retirement accounts fall into, see the three asset buckets. Everything below concerns the mark-to-market bucket, and applies only to someone who is a covered expatriate in the first place.
Read §877A(a)(2) closely and the asymmetry is unmistakable. Gain “shall be taken into account for the taxable year of the sale” notwithstanding any other provision of this title — an override that sweeps the rest of the Code aside. Loss, by contrast, is taken into account “to the extent otherwise provided by this title, except that section 1091 shall not apply to any such loss.”
No override for the loss side. Every deferral, limitation and character rule in the Code survives the deemed sale and goes on doing its work, with one named exception: the wash-sale rule is switched off. That single clause is where almost all of the practical difficulty lives, and it is why a loss that looks substantial on the balance sheet can be worth very little on the return.
Most published guidance says the exit tax nets your gains against your losses and applies the exclusion to the net. That is not how the IRS computes it, and the difference is not cosmetic.
Notice 2009-85 requires the exclusion amount to be allocated — pro rata, to each item of built-in gain property, by multiplying the exclusion by the ratio of that asset's built-in gain over the total built-in gain of all gain assets. The IRS's own practice unit for examiners spells out the denominator without ambiguity: divide the built-in gain for that property by the total mark-to-market gain for all properties excluding any properties with deemed losses.
So the sequence is:
The consequence runs against intuition. A loss asset does not conserve any part of your exclusion for later use, because there is no later use. The exclusion is consumed by the gain assets regardless, and on gross gain, not net.
Only once the exclusion has been allocated does each asset go to its proper schedule, where normal tax rules decide what the loss is worth. Notice 2009-85 says it plainly: losses may be taken into account only to the extent permitted by the Code, and “thus, for example, losses are subject to the limitations of section 1211(b).”
Section 1211(b) is the familiar capital-loss cap: a net capital loss is deductible against ordinary income only up to $3,000 a year, or $1,500 if married filing separately, with the excess carried forward. Against capital gains the loss is unlimited — but that is exactly where character starts to matter.
The Notice's own worked example makes the point by assumption rather than by accident: it posits two business assets standing at a gain and one capital asset standing at a loss, and concludes that in the absence of other capital gains, use of the capital loss would be limited by §1211(b). A capital loss cannot be thrown against ordinary or §1231 gain simply because both arose in the same deemed sale. The deemed sale changes the timing of recognition; it does not merge everything into one undifferentiated pot.
Two practical readings follow. If your gains and your losses are of matching character, the netting most commentary describes does broadly happen — at the schedule, not at the exclusion. If they are not, the loss can be stranded while the gain is fully taxed. This is the ordinary capital loss machinery, operating on a year you did not choose.
Here is the part that is absent from essentially every page competing for this question, and it is the one worth paying attention to.
Section 877A(a)(2) closes with a basis rule: proper adjustment is made to any gain or loss subsequently realised for the gain or loss taken into account under the deemed sale, “determined without regard to paragraph (3)” — that is, without regard to the exclusion. Notice 2009-85 confirms that the adjustment runs on both §877A(a)(2)(A) and (B), and its third worked example applies it to the loss asset: basis is adjusted downward by the amount of the loss taken into account, down to the day-before fair market value.
Now put that beside the Notice's second example, in which the exclusion is large enough to eliminate all of the deemed gain. In that scenario the taxpayer recognises no gain at all, and the loss asset's loss is limited by §1211(b) because there is nothing for it to offset. The individual gets a small deduction and a carryforward — and the basis in the losing asset has still been written down in full.
Sell that asset for real a few years later, at a price above its depressed day-before value but still below what was originally paid for it, and the result is a taxable gain on an asset that lost money. The basis strip is unconditional. It does not wait to see whether the loss produced a deduction.
That is the single most important number to model before an expatriation date is fixed, and it is a modelling question rather than a legal one: what is each losing asset likely to be sold for, and when?
Section 1091 normally disallows a loss where substantially identical securities are bought within a short window either side of the sale. For the deemed sale it does not apply, so a covered expatriate who still holds the position — and of course they do, because nothing was actually sold — is not denied the loss on that ground.
The trap is the mirror image. Several planning articles advise harvesting losses before expatriating and then warn, correctly, to watch the wash-sale rule. Both halves are right, and they apply to different transactions. A real pre-exit sale is a real sale: §1091 is fully in force. The deemed sale is the only one the disapplication reaches. Anyone restructuring a portfolio in the months before a renunciation needs to keep those two sales clearly separate in their own mind, because the rule that governs one does not govern the other.
The IRS's practice unit for examiners records three further points, each of which cuts against the taxpayer and none of which appears in the general commentary. They are the IRS's stated working position rather than regulations, so treat them as how an examiner will approach the file:
One more, from the statute itself: §877A(h)(1)(A) terminates, on the day before the expatriation date, any time period for acquiring replacement property that would reduce recognised gain. An open like-kind or involuntary-conversion replacement window closes with the expatriation, whether or not it would otherwise have had months to run.
Three things follow for anyone with meaningful unrealised losses in the portfolio.
Model the loss assets separately, by character. Grouping everything into a single net figure will give the wrong answer at both steps — at the allocation, where loss assets are excluded, and at the schedule, where character governs. The gain side and the loss side need separate columns.
Ask what each losing asset is for. An asset you intend to hold indefinitely absorbs the basis strip quietly. An asset you expect to sell within a few years turns it into a real cash cost, and that cost belongs in the renunciation decision rather than being discovered afterwards.
Treat the carryforward carefully. A loss capped by §1211(b) carries forward under the ordinary rules; the Code does not cancel it on expatriation, and you should be sceptical of sources that say it does. What is genuinely uncertain is how much use it will be, because a nonresident alien's US-taxable capital gains are reachable only in narrow circumstances. The honest position is that the carryforward exists and may have very little to work against — which is a reason to model it, not to assume it away in either direction.
Next Tax Source prepares expatriation packages for US citizens and long-term residents living in the UK, the UAE and across Europe: the mark-to-market schedule asset by asset, the exclusion allocation computed the way Notice 2009-85 requires, the basis consequences of every loss asset modelled forward, and Form 8854 with its dual-status year. Every return and every position is reviewed and signed off by a licensed professional — a CPA or Enrolled Agent on the US side — before anything is filed.
If you are weighing a renunciation and the portfolio has losses in it, the sequencing matters more than the headline. Start with our renunciation and exit tax service, see pricing, or book a consultation to have the schedule modelled before a date is fixed.